What is the right structure for someone starting to make deals?
Rental Property Investor · Boone, NC · Member since 2015 · 291 posts · 88 votes
Hello,
I am a beginner investor, recently closed on my first wholesale deal. Now that I am starting to generate income from real estate, I want to know what would be the best way to structure my business. I am located in Houston, Texas and my goal is primarily to acquire rentals while wholesaling some deals along the way.
I do not have any LLC or anything set up yet. What basic investment structure would you recommend from your personal experience?
I was thinking about two LLC's, one for acquisition (the rentals would be under that LLC name, and I would also use that LLC to do my wholesale deals) and a second LLC that would act as the property management company for the rentals (hold the rent money, pay expenses..etc).
Please let me know what are you thoughts.
Thanks
Ask your CPA about this structure...
Set up a trust with you as the beneficiary.
Set up an S-Corp to be your operating company. Most of the cash will flow through the S-Corp. The trust owns the S-Corp.
Set up an LLC to hold your first couple or few properties. The S-Corp and the trust own the LLC.
This way, you "control everything, own nothing".
If (s)he chokes on it, I can refer you to someone who can handle it (JD/CPA Tax Attorney / Accountant).
@Tristan S. I would contact a CPA here in town that works with investors and have him/her help you make those decisions. There are so many IRS rules regarding investments that only a qualified individual can find the best solution for you.
Ask your CPA about this structure...
Set up a trust with you as the beneficiary.
Set up an S-Corp to be your operating company. Most of the cash will flow through the S-Corp. The trust owns the S-Corp.
Set up an LLC to hold your first couple or few properties. The S-Corp and the trust own the LLC.
This way, you "control everything, own nothing".
If (s)he chokes on it, I can refer you to someone who can handle it (JD/CPA Tax Attorney / Accountant).
@Tristan S. When discussing entity structures with your CPA, make sure to ask about having the LLC taxed as an S-Corp or setting up an S-Corp for your wholesale activity and PM activity. Your CPA can help you to design a strategy for your specific situation, but having theses activities taxed as an S-Corp can save you thousands in taxes. Also, a good resource for tax and legal education is the Mark Kohler podcast. Let me know if you have any additional questions. Best of luck with your real estate business.
The answer depends on what you would like to do. But if you intend to act as a wholesaler, I would consider having two separate LLCs. One LLC will hold the property ("Property LLC"). You will act as a wholesaler under the other LLC ("Wholesaler LLC"). It may also make sense to do your property management under the Wholesaler LLC.
There are few reasons to do so. On the tax side, you may want the IRS to treat the income from the Property LLC differently than the income from the Wholesaler LLC. @Christopher Cousin eluded this to the above. On the legal side, there are various issues you will have to deal with if you ever want to grow your wholesaling or property-management business (e.g. hiring more employees). If so, you may not want those activities to be commingled with the Property LLC activites.
One question you want to ask the attorney is the level of liability protection you get as a LLC based on your activity as a wholesaler (and perhaps as a property manager). Consider asking what Texas law says when you --- as a LLC member --- actively participate in an action on behalf of the Wholesaler LLC. In Pennsylvania, we called this the "Participation Theory" and make some of the protection you receive as a LLC moot. Not sure what Texas law says on the matter.
As for the idea of creating an irrevocable trust on top of the LLC, you should really consult with a lawyer on that topic. Some estate-planning lawyers unfortunately "oversell" the benefits of using such a trust because it often leads to higher legal fees. If you are interested in that kind of arrangement, I would get a second opinion from your CPA and potentially another lawyer so that you actually understand the benefits. Also note that the benefits of a trust really depends on state law. Can't say I know what Texas law is like on the topic.
You mentioned liability protection for the person. That's why the trust is there as I described it. None of the other entities are owned by a human person in that scenario. Properly structured, it provides a good level of protection in addition to the necessary insurance. Contact your financial and legal professionals for the full details, or I can hook you up with one (Mark Kohler actually is my tax and legal expert).
Either Trusts or a Series LLC would likely serve your needs.
@Chris K., I do not necessarily intend on being a wholesaler but it's more likely to happen while I search for rentals. I will ask my local investor friends what structure they are using and ultimately will most likely meet with a CPA.
@David Dachtera, I thought that the LLC by itself would protect the individual, I did not know that another layer (using a trust) would be required. Or is the trust more for tax purposes ?
@Guy Gimenez, I have heard about series LLC, what do you think about them, Is that what you use?
Thanks for all those inputs, I really appreciate.
To my knowledge, they've never been tested in the courts but I do know that many investor friends of mine are believers in them because they allow the investor to segregate properties (typically putting no more than 2 - 3 properties in each series) therefore reducing the likelihood of a lawsuit wiping out the investors entire inventory. Again, this is where an attorney who specializes in asset protection will be worth their weight in gold.
An LLC alone provides only limited protection. A single-member LLC offers almost no protection. That's why it needs to be owned by both the S-Corp and the trust: multi-member provides the best protection.
As long as ownership can be traced to a human person through the public records, all the named owners AND their personal possessions are exposed - insurance only goes so far.
The trust is there to "replace" you as the entity structure owner. The named beneficiary is not public knowledge and not easily determined. Most attorneys won't work that hard. Tracing an entity in a proper structure back to a specific human person poses enough of a challenge to deter all but the greediest shyster.
You mentioned liability protection for the person. That's why the trust is there as I described it. None of the other entities are owned by a human person in that scenario. Properly structured, it provides a good level of protection in addition to the necessary insurance. Contact your financial and legal professionals for the full details, or I can hook you up with one (Mark Kohler actually is my tax and legal expert).
As another lawyer, I have few issues with telling everyone that setting up a trust is way to go. You may be overselling the benefits of an irrevocable trust where the grantor, trustee, and the beneficiary is the same person. This is especially true when you factor in different state laws.
I'm not denying that irrevocable trusts can be an excellent tool. But it's not magic solution for everyone. Not knowing anything about @Tristan S. (e.g. his net worth, his marriage status, his previous experience managing corporations and trusts), none of us should blindly recommend him to go set up a structure where you: (1) create an irrevocable trust; (2) name yourself as both the sole trustee and sole beneficiary; (3) create an LLC (to be taxed as a S-corp) that the trust would own; and (4) create yet another LLC that the S-Corp LLC will own. This kind of structure could be a disaster if one is not sophisticated enough to appreciate all the dangers (e.g. under-capitalization, fraudulent transfers, etc.).
The above structure may also not be ideal when it comes to taxes. But that's for a CPA to comment on.
To my knowledge, they've never been tested in the courts but I do know that many investor friends of mine are believers in them because they allow the investor to segregate properties (typically putting no more than 2 - 3 properties in each series) therefore reducing the likelihood of a lawsuit wiping out the investors entire inventory. Again, this is where an attorney who specializes in asset protection will be worth their weight in gold.
My main worry with Series LLCs is that there are many unresolved questions from both liability and tax perspectives. Now I would be less nervous if Tristan just decides to use the Series LLCs to buy-and-hold rentals. A Texas Attorney and CPA will need to jump in if he intends to also do activities like property management and wholesaling under neath the Series LLC.
Mark Kohler is a JD Tax Attorney and a CPA Tax Accountant. His classes count as continuing education for JDs, CPAs, agents, brokers and other licensed professionals. I see no reason to question his judgement.
I never said anything about a trustee (public record), only beneficiary (not public record). You would ALWAYS rely on your financial / legal counsel to help you manage such a structure. This is a forum post, not a class on how to build / manage a business entity structure. (Mark Kohler's class is two days, 16 hours in the Renatus education).
I am NOT an attorney or an accountant, nor did I say anything I mentioned was "ideal". It is, at best, "recommendable".
Agreed, but in reality that can be said about almost any structure these days. Interpretation of the law and it's original intent seems to be a lost art when it comes to an increasingly activist judiciary, so whatever the law seems to be today may be very different tomorrow. Scott Smith, and asset protection attorney here in Austin works with a lot of investors and has spoken at my investor group about Series LLC's and he seems to be confident they will pass the muster when challenged. But they will be useless if not used properly for asset protection.
Agreed, but in reality that can be said about almost any structure these days. Interpretation of the law and it's original intent seems to be a lost art when it comes to an increasingly activist judiciary, so whatever the law seems to be today may be very different tomorrow. Scott Smith, and asset protection attorney here in Austin works with a lot of investors and has spoken at my investor group about Series LLC's and he seems to be confident they will pass the muster when challenged. But they will be useless if not used properly for asset protection.
Just out of curiosity, does Scott Smith recommend that people conduct active business (e.g. wholesaling, property management, and flipping) underneath the same Series LLCs that buys and holds rentals?
No...each series will be treated as though it's a separate LLC to limit one's liability, so his preference is do flips under one of the series, buy / hold under another (no more than 2-3 properties in each series), etc. So their's only one true LLC, but there's no limit to the number of series (or legs) that one can hold under that LLC.
Mark Kohler is a JD Tax Attorney and a CPA Tax Accountant. His classes count as continuing education for JDs, CPAs, agents, brokers and other licensed professionals. I see no reason to question his judgement.
I never said anything about a trustee (public record), only beneficiary (not public record). You would ALWAYS rely on your financial / legal counsel to help you manage such a structure. This is a forum post, not a class on how to build / manage a business entity structure. (Mark Kohler's class is two days, 16 hours in the Renatus education).
I am NOT an attorney or an accountant, nor did I say anything I mentioned was "ideal". It is, at best, "recommendable".
I'm familiar with Mark and his work. His books are an excellent read and I would recommend it to many folks to get good ideas about how to protect yourself and reduce your taxes. At the same time, he tries to write all his books and make his advice applicable to all 50 states. As he himself admits, not all his advice are applicable to each state --- let alone each person.
I'm a bit nervous about your statement that because Mark teaches classes that count as continuing education, you "see no reason to question his judgment." I assume you didn't mean it this way, but you should always actively question why your attorney or CPA is recommending a certain advice. This is not to be a rude client. Rather, all professionals tend to do a better job when a client is actively asking hard questions. Indeed, the best clients I have worked over the years were extremely knowledgeable and that allowed me to do a better job representing them because I understood that they knew the basic risks.
On a separate note, I see from the link below that you are affiliated with Renatus.
https://www.biggerpockets.com/forums/79/topics/147...
That's fine if you are, but my understanding was always that Mark has a close relationship with Renatus that goes beyond him working as an instructor. That again doesn't discredit his advice in any sense --- but I think it is worth disclosing your relationship with Renatus when recommending @Tristan S. to use this trust structure while also recommending to use Mark and his firm:
No...each series will be treated as though it's a separate LLC to limit one's liability, so his preference is do flips under one of the series, buy / hold under another (no more than 2-3 properties in each series), etc. So their's only one true LLC, but there's no limit to the number of series (or legs) that one can hold under that LLC.
Right. I suppose I'm being cautious. That said, it seems like the safest way to go is:
(1) Form one independent LLC to do all the flips; and
(2) Use the Series LLCs to buy and hold the properties.
I don't know how much more the above setup would cost compared to having all of that in a Series LLC, but I imagine it's not too much higher.
If you are doing anything illegal in the manner in which you wholesale, either intentionally or on accident, then there is not a legal entity on the face of the planet that will save you. There are many ways to wholesale, and most of them are not legal. To me, the proper order of operations is:
My unprofessional opinion, as I am not a lawyer.
Mark Kohler is a JD Tax Attorney and a CPA Tax Accountant. His classes count as continuing education for JDs, CPAs, agents, brokers and other licensed professionals. I see no reason to question his judgement.
I never said anything about a trustee (public record), only beneficiary (not public record). You would ALWAYS rely on your financial / legal counsel to help you manage such a structure. This is a forum post, not a class on how to build / manage a business entity structure. (Mark Kohler's class is two days, 16 hours in the Renatus education).
I am NOT an attorney or an accountant, nor did I say anything I mentioned was "ideal". It is, at best, "recommendable".
I'm familiar with Mark and his work. His books are an excellent read and I would recommend it to many folks to get good ideas about how to protect yourself and reduce your taxes. At the same time, he tries to write all his books and make his advice applicable to all 50 states. As he himself admits, not all his advice are applicable to each state --- let alone each person.
I'm a bit nervous about your statement that because Mark teaches classes that count as continuing education, you "see no reason to question his judgment." I assume you didn't mean it this way, but you should always actively question why your attorney or CPA is recommending a certain advice. This is not to be a rude client. Rather, all professionals tend to do a better job when a client is actively asking hard questions. Indeed, the best clients I have worked over the years were extremely knowledgeable and that allowed me to do a better job representing them because I understood that they knew the basic risks.
On a separate note, I see from the link below that you are affiliated with Renatus.
https://www.biggerpockets.com/forums/79/topics/147...
That's fine if you are, but my understanding was always that Mark has a close relationship with Renatus that goes beyond him working as an instructor. That again doesn't discredit his advice in any sense --- but I think it is worth disclosing your relationship with Renatus when recommending @Tristan S. to use this trust structure while also recommending to use Mark and his firm:
This is now going off-topic, and I'm not going to let this turn into another Renatus-bashing sub-thread.
As I understand it, NONE of the Renatus instructors is allowed to have any relationship which would compromise their integrity or Renatus's.
I have no active relationship with Mark Kohler or KKOS Lawyers. I was an affiliate with Mark, but that has long since lapsed.
Mark does a VERY thorough job of defining why any given strategy is advised. As I mentioned, his class is two days, 16 hours. If you know better than he does, perhaps you should approach him and offer your services as his trainer, or provide us a link to the CE classes you offer for other licensed professionals. You DO understand that such things are THOROUGHLY vetted, correct?
@Chris K. sincerely appreciate all of your inputs! thanks
The Real Estate Attorney in Austin that I use for my Central Texas deals, is also an Investor that insists one LLC is all you need until you get really good. Find the deals, close the business, then worry about LLCs. You can move properties into and out of LLCs. This isn't engineering, it's Real Estate. Don't over think things. 80% of people never get started because they can't think up a dad gum name for their LLC. name it "I Was An Engineer Now I Am An Investor" LLC and book the business. ;-)
1. Agreed about not making this into a Renatus thread.
2. This is irrelevant, but I have done several CLE classes for other lawyers. Most lawyers --- including me --- will receive a few calls each month from Continuing Education Companies to do these classes. Some people find it enjoyable, other's don't. Again, that neither credits nor discredits Mark's advice. But it's also irrelevant when discussing whether Tristan should use the structure that you suggest.
Perhaps you can find one of Mark's articles advocating such structure. If so, we can discuss the pros and cons of such structure.
3. I suppose the main reason I am hammering this point is because of the following post:
When I first read it, it made me pause since it's an awfully complicated set-up for someone who just completed his first deal. Then your later posts clarified that you learned this from Mark at a Renatus seminar. Since I wasn't there, I can't comment on Mark's reasoning for such a structure. As I suggested above, if you can find an article where he recommends this structure, I'll be happy to discuss this.
Again, I'm not suggesting that the above structure is inappropriate in all circumstances. But the benefits you listed in the later posts is incomplete at best:
Not sure exactly what you mean by "multi-member" but I assume you mean a structure where the Trust owns the S-Corp, and the S-Corp owns the LLC. First issue, I take is the statement that Single-Member LLC offers almost no protection. That's true if you fail to run it properly. But having an S-Corp (whether you create a single shareholder corporation or a single member LLC elected to be treated as a S-Corp) doesn't solve the problem. In fact, it could arguably make it worst because the mistakes that many shareholders and members make gets compounded by having to deal with two separate entities (e.g. under-capitalization, failure to adhere to corporate formalities, intermingling funds, etc.).
Along similar lines, if @Tristan S. commits the actual wrongdoing, the above structure may not help him at all depending on how Texas feels about participation liability.
I have few issues with this.
First, it is true that creating a trust could theoretically make Tristan less visible. But that's frankly a moot point if Tristan intends to actively participate in wholesaling or property management. If he wants to engage in those activities and use his skills to make money, he will be visible to the public.
Second, the liability issue depends on the circumstances. If Tristan commits the wrong doing, then Texas may allow the plaintiff to hold him liable regardless of how many fictional entities he creates between him and the plaintiff. If Tristan didn't personally commit the wrong doing, hopefully he has appropriate amount of insurance coverage (for each of his entities) to deal with the appropriate liabilities.
Third, the realistic question to ask is the time and money required to set up such structure. I'm not sure what the going rate is in Tristan's town, but I assume he would be able to spend between $1,000 to $2,000 to form his LLCs and get the needed advice from his lawyer and CPA about what he needs to do when running a LLC.
How much would it cost for a lawyer and a CPA to set up your structure and go over all the formality issues with Tristan?
Also you noted that you said nothing about Tristan becoming the trustee. So who will become the trustee? His attorney at an hourly rate? Or another company that offer professional trustee services? How much will that cost?
@Chris K. sincerely appreciate all of your inputs! thanks
Hi Tristan: sorry if I am hijacking your posts. The best advice is to find a good reliable attorney/CPA, and discuss all that you read here and on BP elsewhere. If you have doubts after speaking to them, make another post about what the attorney and/or CPA recommended. The BP members can share their thoughts on whether it makes sense.
The only other advice is to learn as much as possible about all facets of real estate. I'm a strong believer that the best way to work with a professional (whether it is a lawyer or a CPA) is to ask tough questions. To do so, you must continue to learn as much as possible and makes suggestion as you continue to work with your professionals.