Hello Hello BP Peeps,
As I get my real estate investing going, I need to know, do I create an LLC or not? I live in California but buy and rent in Oregon. Would I create an LLC in Oregon or Cali? I plan on buying multiple properties over the next few years so I just want to be sure I'm doing the right thing. Also, does it make sense to work with a CPA who specializes in real estate investing in person or is it ok if everything is virtual?
Thanks in advance for any and all help!
As far as I know the LLC would have to be created in the state the rental is located. As for whether you need one or not that is up to you. An LLC can offer you some protection if you need to protect yourself from some kind of lawsuit brought on by a tenant. It can be a pricey option however, and if you don't run an LLC like an LLC a good lawyer could argue in court that you actually aren't a real LLC. What I mean by that is there are certain guidelines in place that validate LLC operation i.e. not commingling personal fiances with that of the LLC aside from payouts to yourself as an employee, have x amount of meetings a year for the business etc etc. Basically in my view, bigger operations should consider an LLC while smaller scale investors should look for cheaper alternatives like umbrella policies which can protect you up to a $1 million in damages or more. Most claims don't ever reach this amount anyway unless something horrendous happens. Ultimately, you want to avoid ever being in the position of having to rely on either by properly vetting tenants and being a responsible landlord. Good luck!
It depends on whether or not you want to be hit with the franchise taxes each year. The ultimate structure for California investors is actually a type of trust, a Delaware Statutory Trust (DST). California currently charges all California residents $800 per year per property no matter what state the property is located in. If you're a California resident, then you are liable to pay this Franchise Tax. If you owned 10 properties for example, that would result in an $8,000 per year Franchise Tax being owed by you to the state.
It's not a structure I would at all advise you attempting to do on your own & there are some things you have to do on your end. There are several things you must do to keep a the DST from being pierced or having the Series structure collapse so that the court would treat all of the Series as one, instead of separate. The DST must have a valid trust agreement, must be filed with the state of Delaware, maintain a Delaware Registered Agent, and abide by certain other rules particular to the IRS rulings regarding the DST.
You can set up anonymous structures in any set or corporations, with where you invest & live a consideration & depending on the answer to those two questions - will depend on what structure is best for you & even what type of estate planning & other retirement options will fit best with that.
There are several considerations that can go into the analysis of whether you need an LLC or whether a large insurance policy will suffice. Will depend on several factors like the type of property, type of tenants, your risk tolerance, other assets you own, your estate planning, laws where the property is located, etc.
Any lawsuits would be limited to the assets of the LLC and not your personal assets (assuming you run the LLC appropriately and the corporate veil is not pierced). But, an LLC will not limit you from liability in total. You can still lose your investment in the LLC. If you're going the umbrella insurance route, make sure it will cover you for several things including just the routine slip and fall (like mold or earthquake). You'll also want to ensure you have a good property manager to look after the upkeep of the property if you are not there to notice anything deteriorating or which may need attention.
This article goes into a lot of the considerations about whether to form an LLC or not: https://www.mmpph.com/wp-content/uploads/2019/04/May-2019-newsletter.pdf
California is a sort of beastly state when it comes to taxes and filings. Even if you create a non-CA LLC, if you are managing the business from California, you will be deemed to be "doing business" in California and therefore subject to CA taxes. California charges a minimum tax of $800 a year per LLC, and more if you have gross receipts in excess of $250k. So, if you create an LLC in another state, you will need to register it as a foreign LLC in California. Though, this process will be the same for the other state (if you created a CA LLC you will need to register it as a foreign LLC in the state in which you are doing business/holding property). This means that you will need to pay registration and filing fees in at least 2 states if you don't buy CA property.
Be sure to tell your accountant that you now need to file non-resident income tax returns in each state where you own property as well. Most likely the state where the property is located is where lawsuits would be brought if they are something for personal injury like a trip and fall or something of that nature because the “cause of action” arose in that state. So even if you pick a state with stronger protections like WY or NV, the cause of action arose in the state where the tenant fell, so likely that the court where the accident happened would have jurisdiction.
California tends to have more laws on the books and requirements and restrictions that it can be a good idea to form a CA LLC for out of state property so that you as a CA resident are covered, and to try to have your contracts fall under the purview of CA courts. It also is helpful to have a California LLC in case you ever sell that property and move into another state so that you do not need to form a new LLC altogether with new operating agreement, just re-register in the new state as a new foreign LLC. Also, the state of formation is likely where internal disputes would be brought among LLC members, so if you and a partner live in CA, you probably want to arbitrate in CA if the two of you had a disagreement. But, that is not always the right answer and you should speak with someone familiar with your personal situation to get advice specific to you.
You also want to look at whether a pass-through entity helps your bottom line and your taxes. There is a new 20% pass through deduction you may qualify for that could help you, but not everyone qualifies. You should still be able to get this even if the properties are not in an LLC, if you qualify.
These are all things you will want to discuss with your attorney and CPA. If you need references for either of them in San Diego, let me know.
*This post does not create an attorney-client or CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.