LLC : There are more cons than pros

13 Replies

I'm just a novice investor but the more I read about LLC the more disadvantage i found than the advantages it provides.

Cons:

cost more to setup, cost more each year to file taxes, can't take out conventional mortgages, interest rate will be higher if you cash out with a commercial loan, more paper work and book keeping. Harder and cost more to get an umbrella insurance. I also heard that certain clever lawyers could still go after your personal assets especially if you have a single member LLC and/or you manage the property yourself.

Pros:

Separate liability with your personal assets(but you can solve this problem with a high umbrella insurance ). 

I guess someone else can fill me in but that's what I know about LLC. Am i missing something?

Correct. However, one could argue away the personal asset connection if you set-up a separate entity to do the managing for you llcs that your llc contracts with....aka youpropertymanagementllc.

Also with the LLC. If you use small banks they don't show the loans on your personal credit. So that pesky debt to income don't get in the way as much.

I am in my first yr of investing so I am still learning.

Also the tax deductions are way better.

Originally posted by @Thomas Oliver :

Also with the LLC. If you use small banks they don't show the loans on your personal credit. So that pesky debt to income don't get in the way as much.

I am in my first yr of investing so I am still learning.

Also the tax deductions are way better.

 Neither one of those is true.

When you apply for a loan you have to fill out a form listing your debts. Specifically they're looking for ones that aren't on your credit report. You MUST still disclose them, not doing so is fraud. There are specific criteria about your ownership % and involvement in an LLC before you do not need to list the debt on this disclosure.

An LLC is a pass through tax entity meaning that the deductions are the same for you personally or for the LLC. There are ways to "elect" a specific taxation method for your LLC (such as LLC taxed as an S-corp) but the LLC does not in and of itself provide you tax benefits. Those tax benefits are a result of the corporate tax structure not the LLC.

@kevin N. an LLC is a tool, it is only useful when used for its intended purpose, and when it is the most appropriate tool for the job. If you had a plumbing leak and I handed you a hammer, you'd look at me funny and wonder what help I was being (wrong tool for the job). Or if you were hanging a picture and needed to hammer in a nail, and I handed you a 10 pound sledge you'd wonder if I was being funny (right tool, not the best purpose for that size of tool).

If you are a high net worth individual looking at buying rentals, the returns might be great but the risk to your other assets by buying a rental is an issue. To protect from that, an LLC may be the best tool and the most appropriate one to keep a lawsuit from getting to your other assets.

By and large many people starting out do not need the tool yet, and as you've pointed out the expense and paperwork associated with it renders it a sledgehammer when you need a normal claw hammer. For many of those people (myself included) the better tool right now is the insurance. I gladly pay for a $1MM/$3MM aggregate liability policy on EACH rental at a cost of about $10/mo to protect my assets. 

At some point I hope to need the sledge hammer, and my attorney will help me know when that is, but right now isn't it.

I use an LLC for my personal investing and the cost of maintaining the LLC (tax preparation and taxes themselves) are big negatives. I would have probably been better off without it but I intend to put more "stuff" in it in the future.

I have another LLC but I have a business partner and we own several rental condos. It's much more of a true business in my mind and having a business partner means we need to have things clearly spelled out. This is less of a liability or asset protection issue for us and I agree that the first best line of defense is to carry adequate insurance.

Considered there are more cons than pros. I don't know why everyone that I've talked to always balked at me when I told them I owned my properties under my name with a high umbrella insurance.

pro: most hard money lenders will only lend to an entity.

There are more pros to an LLC setup specifically if you wish to take on investors/partners. The managing member makes the decisions. Other members may not have any say in the way things are managed but they do get a piece of the pie. Also, as far as asset protection, if you have a multiple member LLC an attorney may not be able to come after a specific member's interest in the LLC. Laws vary state by state. I have no use for a single member LLC, but a multi member suits my purposes. Granted, there are yearly fees, etc and like most other things in life, there are pros and cons. Each individual needs to assess these to determine if an LLC is the right avenue for their needs. I have both an LLC and S Corp and wish I had put everything into the LLC. My local attorney has stated the LLC offers some better protection than an S Corp. That advice is for my specific scenario. Yours may offer different advice.

No company avatar mediumJohn Thedford, John Thedford | 239‑200‑5600 | http://www.capehomebuyers.com

Originally posted by @Thomas Oliver :

Thomas which tax deductions do you take as an LLC that you cannot take as a sole proprietor owning real estate?

from what i understand, as far as tax purposes go its all depends on what designation you use. you can get away with deducting a lot more as an s corp than a regular sole prop llc. deduction in car payments, milage, entertainment for business expenses, rent if you use a home office etc. stuff you cant get away with without one. 

i had to set up an llc in order to get funding and hardmoney lenders wont lend unless you have a set up of sorts. 

im sure theyre ****** aspects but with a good accountant you can get a lot more out of it.  

If your accountant is charging you significantly more because you own an SMLLC, you'd better shop around. An SMLLC is a disregarded entity for federal tax purposes.

As for whether the LLC is a bad thing, it depends on your state. Ohio requires no annual maintenance fees, so it's about a wash here. A well-formed LLC (read: not using Internet forms) is absolutely critical to a real estate partnership, if your state's laws don't make another limited-liability entity more attractive.

Let's also mention that while most here refer to themselves as "investors" doing business in your LLC places you in a "business" rather than as an "investor" from a personal investing perspective. There are many functions in real estate and note investing that are allowed to be accomplished as an individual investor, dealing in your personal interests while doing the same things in a business environment may require additional licensing.

Another aspect is registration with municipalities for your LLC. A business license can be required, from that, you may have business property (personal property) where local taxes may be levied. Here, they began taxing the fridge and stoves in rentals as business property, your "office furniture" is taxed regardless of where it is located in your home or in an office. Assets used generate a business operation are business assets and subject to taxation.

Need to understand that just forming an LLC is not a magic bullet to protect your personal assets, the "stock ownership" of your LLC is a personal asset, if you have a personal matter and are under insured, your business assets may be at risk anyway.

Another matter is capitalization of your LLC, if you don't have cash on hand, reserves for business operations your LLC may be deemed to be more of a sham or dodge used to avoid responsibilities, it's not a true ongoing business concern.

Before opening a business entity, make sure there is a good business reason to do so, having a business is not always the best way to "invest". Get insurance!  :)

Medium logoscopiccroppedblue2Bill Gulley, General Real Estate Academy | https://generalrealestateacademy.com

@Andreas Mirza I'd be curious to learn a bit more about your personal LLC. You say a big con is the expense of tax prep, however if the LLC is single member, it's disregarded for tax purposes. So if your accountant is charging you extra for servicing that LLC, I'd look at getting a different accountant.

@Thomas Oliver What tax deductions are you taking in your LLC that you cannot take otherwise? As far as I'm aware, there aren't any.

@Alfonso Velazquez Your statement about taking the deductions you listed while operating in a S-Corp and not being able to take them otherwise is not true. A business is a business regardless of whether you operate in an entity or not, and as such, the deductions will still be available to the business owner.

Medium logo blackBrandon Hall CPA, The Real Estate CPA | http://www.therealestatecpa.com | Podcast Guest on Show #196

As to tax deductions, it's not so much as a deduction is available but much easier to take in a business entity.

Having a trash bill in the LLC name is easier to claim as an expense than it being in your name at your home address. Same issues with the home office. You'll be justifying the use of assets for a business purpose being in your name than in an LLC's name. Income and time spent in or on your business might be easier to show, what is your primary source of income? Try writing off a new computer on a personal tax return, now write it off on the expense side of your business books......some things are just easier to explain, prove, justify and separate from your personal life. :)

Medium logoscopiccroppedblue2Bill Gulley, General Real Estate Academy | https://generalrealestateacademy.com