Entity Formation and Flow of Rent Payments

4 Replies

Thanks in advance to anyone who reads this.  I have read several book regarding this and somewhat understand the overall jist but was curious what everyone else is doing.  

I currently have 3 properties in one LLC (call it LLC A) and am beginning to think down the road in regards to raising money and bigger deals etc. Few questions:

1-Should I be having my tenants make payments to another entity say (Parent Entity LLC) that is not the entity that holds the properties (LLC A)? For example a management/parent company entity or does this open me up for exposure since the lease would be signed with Parent Entity LLC. Or should my tenants make all payments and contract with the LLC A that holds the property and then I subsequently make draws out of there.

2-If i were to raise money under the traditional GP/LP and the GP would be a newly created LLC that I wholly own and I also wanted an equity interest using one of the LPs, should the LP interest be owned by a parent company (Parent Entity LLC) or is it individually myself?

Maybe I am overthinking this but was trying to think in terms of the principles of consolidations and was curious what everyone's experience has been and the flow of funds to legal entities.  Thanks everyone.

@Gary Fare   Which book did you read regarding entity formation? I have been trying to find one  but have not been able to locate it. 

To answer your question,

1) let me know if this is what you were trying to achieve.The easiest and simplest way to do this is:  

- have each property(or few more depending on your risk threshold and situation such as different LLC for different State) under one LLC and have a rental contract for houses under the same LLC, keep a separate bank account and book for this LLC. and repeat the same with other LLCs. The asset in different LLCs are protected even if one LLC is sued, OR

- Create a holding company that holds all the LLCs with the properties and the property management company, (need to create PM company because you don't want to do property management via holding company, see below for reason ). Property management company provides service to all the Rental LLC as a property manager. Each LLC needs to keep separate books, including Property management LLC.

In here, if you have a contract for rental 1 with LLC1's name, only LLC1 is subject to the liability. But if you have a contract with holding company name for rentals, a creditor will sue Holding co, and Holding co's entire interest in other entities is subject to liability, not just one rental. 

2) If I am understanding correctly, you also want to be a limited partner on some of the ventures ( BTW both General and limited partners have equity interest). You can use the same model above, and just invest in another partnership as limited partner(see below)

None of the entities will pay taxes, all the income will flow to the holding company to the owner of the holding company. All the entities will file taxreturn though.  

This is an extremenly simple example. 

If each LLC has leases themselves, what is the purpose the property management LLC?

Also if we were trying to brand an overall company, would that legal entity be the PM and the Holding Company?

@Gary Fare

Your question, Gary, touches on at least 3 separate issues.

1. Liability. This is an attorney's question, and I'm not one, so no comment. But my layman's understanding is that generally attorneys suggest that you spread properties (and, therefore, risk exposure) between multiple LLCs.

2. Funding. This depends on a lender. Are you thinking about commercial blanket loans, private lenders or other sources? You need to ask them, as each lender is different. Some of them might lend against properties which are spread between multiple LLCs, and others won't. Also, keep in mind that business credit will be assigned to each LLC separately.

In other words, to get blanket funding, you may want to consolidate, however consolidation may undermine asset protection. Need to balance these two conflicting considerations.

3. Operations. This is where PM company usually comes in. Each holding LLC would hire the PM to handle operations, including leasing. The lease is between the tenant and the owning LLC, however the PM LLC acts as owner's agent and executes leases on the owner's behalf. It also collects rents on the owner's behalf. Check with a NJ lawyer about possible wrinkles due to the state law.

The main advantage is simplicity: one set of bank accounts and books, with each transaction assigned to a specific property under management. You also consolidate maintenance and repairs, bill paying, payroll etc.

One other advantage is an ability to generate "active" income via the PM company and create retirement plans, benefits, SS credits etc.

Join the Largest Real Estate Investing Community

Basic membership is free, forever.