What makes making an LLC such an attractive option

Question

When you are choosing to keep rental properties to yourself, or creating an LLC, what do you do?

Can you still have a rental property business “ while not officially having a title such as an LLC

Lynnette E. · Answer

Most people with rental properties do not have LLCs.  But it seems to be a big deal on BP to have LLCs...even folks that do not have ten cents in equity and two pennies to their name want a bunch of LLCs to protect their 'assets'.  Not sure why seems to be a status symbol or maybe a peer pressure thing, or something in the water here...

Bethany M. · Answer

@Stephen Rager.  You do still need to separate expenses for each property, either in an accounting software or a spreadsheet.  Each property will be recorded separately on your tax return.  You can have 1 bank account & 1 LLC.  There also isn’t much liability protection if all of your properties are in the same LLC, unless you hold a plethora of personal assets you’re protecting.

Some states it’s very easy to have LLCs.  Ohio is a one time purchase of $99, so why not?  I think California is $800 annually...not as clear of a choice.  Florida is around $125 annually...

I really think, in general, an umbrella policy is sufficient for the first 5 - 10 Residential doors.  Most insurance policies and umbrella policies will cover any big suits...unless you have a multi family or commercial that burns down and kills people...then you’d lose everything without an LLC.  Even with an LLC, a suit could take that house.  Umbrella can protect you against that.

For us, we have liabilities in our business that are far more probable of causing suit than a rental property.  We keep the business in an LLC and the properties to keep it all extra separated.

Here’s some scenarios from an article that helped clarify it for me:

Scenario 1:  Umbrella insurance

The landlord owns a triplex worth $700,000. A tenant breaks their leg on the property. The tenant sues the landlord for $300,000.

LLC: The LLC has assets of $700,000. The LLC pays the full amount of $300,000.

Umbrella insurance policy ($10,000 deductible/$1,000,000 coverage): The dwelling insurance picks up the liability max. After that, the landlord personally pays $10,000 out of pocket for the deductible. The umbrella policy would pick up the remaining balance plus legal costs.

Result: The landlord would be better off with the umbrella insurance policy. With the LLC, the landlord would lose $300,000. However, with the umbrella policy, the landlord only loses $10,000.

Scenario 2: LLC

This unfortunate situation happened in Oakland, California. A landlord rented out a warehouse as an event and residential space. A fire ignited at the warehouse, killing 36 people. Prosecutors sued the owner and leaseholder for “negligently ignoring safety hazards.” Insurance paid out $3 million to the owner for the fire. However, 31 of the 36 victim’s families sued over the fire.

We don’t know yet how much the families will win. Let’s say they win $20 million.

LLC: The judgment is $20 million. The value of the warehouse is $3 million. The landlord loses the warehouse and insurance payout. The total monetary loss is $6 million.

Umbrella Insurance Policy ($10,000 deductible/$3,000,000 coverage): The landlord goes bankrupt, losing $20 million.

Result: The landlord is better off with an LLC, which shields them from personal bankruptcy.

Ultimately, landlords should make a decision based on their own real estate portfolio. An umbrella insurance policy is generally the better financial choice for most small portfolio holders. However, everyone’s situation is different.

Look at your personal financial situation and real estate portfolio. Make a decision that won’t eat away your profits, while lessening your risk for bankruptcy.

Kase Knochenhauer · Answer

Morning @Owen Thornton! This is a great question that provides a lot of confusion among investors and other business people.

LLC provide one thing: a legal hedge of protection for your assets. (NOTE: an LLC provides NO tax savings as it acts as a pass-through entity.)

If you are looking to create a business with outside partners, an LLC and it's Operating Agreement may help define the roles and responsibilities of the members involved but won't provide any tax savings unless you file as an S-corp (more on this below).However, if you choose to transition into real estate as a full time investor there are many more complicated arrangements that can provide additional legal protection AND tax savings.Here's a quick summary of how we have our real estate business legal structure outlined:

Stephen Rager · Answer

I'm just starting out and have been researching this particular question.  So for the first, 1 to 10 rental properties, if I stick them all in 1 LLC, that files an 1120S. I'm thinking I'm should be good, as we won't be a good target for lawsuits, with only 20% down on each property. I was also, considering the cost to maintain the bookkeeping and other costs, such as filing annually for 10 properties instead of 1 annual filing, 10 sets of books verses 1 set of books.  10 related tax costs verse 1 bundled set of books.  There won't be much equity in the properties as there will be 20 % down payments so, 80 percent loans.

Why all this 1 LLC per property talk? I get the legal security from lawsuits, but the associated cost to do this with 20 or more properties seems like a lot of superfluous work vs the benefit of protection.

Robert Nelson · Answer

@Owen Thornton

I am trying to decipher this as well. I have been told that LLC’s are not as protective as many people think and a good Umbrella insurance policy is simpler, cheaper and protects just about as well.

Does anybody have experience or expertise in this subject, rather than opinions??

Lee Ripma · Answer

@Lynnette E.

Haha, yes! Preach! You don’t need a bunch of LLCs when you’re starting out. You need to go get some deals!

Matty Foley · Answer

@Owen Thornton @Lynnette E. @Lee Ripma @Robert Nelson

I have no interest in selling LLC’s as I’m not an attorney, and I would suggest talking to attorney - but here are my thoughts: We talk about “risk appetite” on BP, personally I have zero appetite for risk when it comes to my personal assets. Worse case scenario, if one of your tenants were to die or be seriously injured at the property, without a LLC there is no shield in place. How much coverage does your insurance provide? What if the lawsuit filed against you is for $1MM more than your insurance covers and the judge rules in favor of the plaintiff? You’re likely filing for bankruptcy depending on your personal level of wealth. By forming a LLC you are adding one more layer of protection between your business and personal assets.

I’m very conservative and risk averse. I have a friend that owns over 30 rental properties, all in his own name - so to each their own. That’s just my take on it. Again, everyone’s circumstance

Is different. Talk to an attorney. A title attorney who performs the closings on the property can also set form the LLC for you. In most states it’s pretty inexpensive.

Basit Siddiqi · Answer

@Owen ThorntonThere is many threads on this topic.An LLC can be a great vehicle for asset protection. Consult an attorney if an LLC is right for you.Creating an LLC is case by case.It depends on the individual - what is his risk tolerance? How many assets does he have?It depends on the property - What is the risk exposure of the property? What is the cost of the property?etc

Dave Chow · Answer

Seems someone here on BP was explaining how Useful LLC would be so they can sell their services.

Ben Raygor · Answer

@Owen Thornton Good question. Lots of things to consider.

I agree that a lot of people are creating LLC's for investments, that if they analyzed their potential risk and considered the liability coverage they might be receiving from

- their individual property insurance coverage

- an umbrella insurance policy

- property management (if they are paying somebody else for this)

they might be a bit more likely to stick with holding their first few properties in their personal name.

I also agree that using an LLC for a property owned by two non-married individuals is a good consideration. If nothing else, just to force an operating agreement to be signed.

What makes making an LLC such an attractive option

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