Asset protection S-Corp LLC or both?

Question

Thomas Franklin · Answer

@Jeffrey Marshall I would strongly suggest you establishing a Corporate Entity such as a S Corp or a LLC. This is a relatively inexpensive process. I invite you to Google "Creating a LLC or S Corp in _____," "Division of Corporations in _____," or another phrase. You can go to http://www.sunbiz.org and see how Florida does things, to give you and idea what to look for, in a website. I invite you to please consider the following, from a Federal Income Tax Filing Perspective. I cannot stress the importance of finding a very good Investor Friendly CPA. Below are some things you may wish to consider, as to which Corporate Enity is best, for your Business Model as well as your REI Goals and objectives.

Flipping Properties

If the primary objective of your real estate business, or one of your real estate businesses, is to buy, potentially fix up an existing property and resell it within one year, the Internal Revenue Service can consider that to be an active trade or business. Unlike passive rental income, the income from an active trade or business is subject to self employment tax. If your goal is to reduce that self-employment tax to a minimum, an S Corporation is the best entity to use. Why?

It is the only entity structure whose rules allow the business owner to take a “reasonable salary” (subject to social security and medicare) and then take the remaining profit (often as much as 50% of the remaining income) out as distributions not subject to self-employment taxes.  Correspondingly, all business income taken from an LLC under similar circumstances is subject to self-employment taxes.

Holding Properties

When holding properties as a cash flow investor, the LLC (or LP) is generally the better choice because an LLC has more liberal distribution rules. The key here is flexibility. LLC distributions come out of the LLC at cost basis. The members of an LLC are issued K-1 Form and have to pay taxes on all profits as though it were income, which could expose the owners to high employment taxes. Also, an LLC can elect to be taxed like an S Corporation.

While there is never only one answer that is correct for all circumstances, there is a general rule that is almost always the correct choice. So remember, for legal and tax planning, a good CPA will recommend that clients hold their properties in an LLC or Limited Partnership and run their businesses as S Corporations to avoid self-employment taxes.

Costin I. · Answer

@Jeffrey Marshall Here is a diagram I put together when I was following the same quest - I hope it helps you find the answer you are looking for:

Thomas S. · Answer

Starting out in investing it is preferred, to make financing easier, to not use either. Your best option is to buy in your personal name, banks will require you to be liable anyway, and have adequate insurance coverage to serve as asset protection. Hiding behind a corporation is more of a physiological asset protection than anything else. Most new investors use it because they were told it was the thing to do as opposed to actually being necessary.

Insurance is for asset protection.

Ashish Acharya · Answer

@Jeffrey Marshall, that is an excellent question, but not an easy one.

We need to consider what you are trying to accomplish.

From legal protection side, there are so many variables.

You also need to consider tax implications. You don’t want to run a rental vis Corp. Also, if you have more than one partners, S- Corp can create some problems with distributions.

If you are doing flips, you would wanna get S-corps to save on the Self employment taxes.

Both of the entities will have an asset protection if they are maintained properly. The desired asset protection also depends on what you are trying to protect outside of the RE investing. Will the cost of maintaining a well run entity supports your Cashflow? An analysis of this sort should give you a clear picture.

Casey Powers · Answer

Hi there,

I used to provide registered agent services in Nevada. Note that I’m not a lawyer or accountant so take my comments as such.

If you’re looking for privacy, Wyoming might be better.  They also have no state income tax and lower state fees to maintain the company. Nevada requires that the owner(s) or manager/officer(s) be listed on the public record. Banks have become more and more strict about having the beneficial owner(s) match the person(s) named on the public record.

Also something to consider: when using an out of state entity, you may still be required to register the company to do business in the state where you hold property. I know Nevada requires this. This will add to your costs.

Depending on your situation and goals, it may be better to use an entity in your own state and simply use a virtual office or private mailbox as the company address.

Costin I. · Answer

@Jeffrey Marshall (and @Michael Plaks) you don't want to hold your rentals into a S-corp. Owning Rentals in an S Corporation Might Be a Costly Mistake: Here’s Why.

As for partnering, you might want read these threads:

• How to Effectively Conduct Joint Venture Agreements as a Real Estate Investor
• 596231-how-do-i-properly-construct-a-purchase-with-a-partnership
• 591376-create-an-llc-for-first-partnership-best-way-to-do-so
• 526244-taking-on-partner-s-and-limiting-our-liabilites

Michael Plaks · Answer

@Jeffrey Marshall

Legal protection is controlled by state law. Each state has variations, so consult a local attorney if you want a reliable answer.

In many states, you can get the best of both worlds: create an LLC for legal protection and then make that LLC taxed as an S-corp for tax purposes (if justified).

When you're starting out, you do not need an S-corp for taxes. So focus on legal protection and control.

Getting partners is a slippery road. Since one of yours is a CPA, he will probably take charge of the tax issues.

Jeffrey Marshall · Answer

@Ashish Acharya Thanks for the advice. My goal is to do both flips and rentals. So setting one for each should be the way to go? Also as far as the partners I do have two friends, one a cpa and the other a investment banker, that I’m considering going into this with. So how would the distribution get complicated in a s-Corp? Thanks again

Asset protection S-Corp LLC or both?

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