Scranton, PA area -- LLC?

15 Replies

Hello,

Looking to become an investor in the Scranton, PA area.  I live locally.

My initial plan would be buy/hold duplexes and eventually larger multi-unit properties in the suburbs around Scranton, such as Dunmore, Dickson City, Olyphant, etc.  

My plan is to find a property by the end of the summer. My question is should I form an LLC prior to purchasing a property? It seems that this would help with personal asset protection, and forming and transferring property would seem to be more difficult after the fact.

Also, any recommendations regarding a lawyer who could help me with this step and others would be appreciated.

Thanks,

Dan Brown

If you are going to attempt to use some sort of traditional bank financing, an LLC will be a hindrance. If you have cash, or plan on going with commercial, private, or hard financing, an LLC is the way to go (especially if you have personal assets that want/need to protect). I'm from Luzerne County, so I really cannot recommend an attorney for you, but I would think any attorney that lists real estate as part of their practice, could/should be able to file the necessary paperwork to get your LLC listed and legal.

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Dan,

Also, there is a REI Group (NEPA Real Estate Investors Network) meeting tonight at Perkins in Pittston. We meet monthly on the second Wednesday of the month. There is no fee for this group, but since the restaurant provides us space at no charge, everyone tries to have a bite to eat. There are usually 15-20 local investors at these meetings, and you can probably get better answers to any questions you may have. The meeting starts at 7, and usually lasts until 9 or so.

@Daniel Brown

A few factors to consider: 

  • You first need to ask whether you want an LLC. While it's theoretically possible, you may face additional challenges if you want to use Freddie/Fannie financing using an LLC. If you are okay with using a portfolio/commercial loan, LLCs are fine.
  • If you decide to use an LLC, you'll want to form it before you enter into an agreement of sale since it could have realty transfer tax implications.
  • Note that liability protection for single-member LLCs is somewhat limited by the fact that you are the only member. Most folks are aware of the corporate veil doctrine. But there's another legal theory called participation theory. It stands for the proposition that if a member makes a decision and that decision leads to liability, the plaintiff may personally sue the member. So if you have net worth to protect (say a, you may want to do some asset protection.
  • Feel free to PM me for lawyer recommendations. I would say you'll need to decide what the right strategy for you is first. 

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

To answer your exact question specifically:

It is absolutely best to put the properties under an LLC for your own asset protection, but you do not necessarily NEED to form the LLC prior to purchase as they do not take too long to create; many of my clients have their closing attorney create one for them during the closing process of the property. I would be able to write the sales agreement in a way for you that you could contract the property under your name, but close it under the LLC with no additional cost or headache. But yes, transferring to the LLC AFTER the purchase, could cost you a bit of unnecessary paperwork, time, and money.

The only situation that I would definitely recommend getting one created prior to searching and making your offer as opposed to during is if you plan to purchase the properties with cash (vs. loan), as these contract periods to close are generally much shorter than if you needed to utilize financing (2-3 weeks vs. 4-6 weeks). It also never hurts to be prepared and is a wonderful step in the right direction! Possibly in doing this, you can form a great relationship with a local RE attorney who you trust to handle your future transactions. If you'd like recommendations reach out!

@Bob Derwin

Thanks for the replay.

So is an LLC basically a non-starter for traditional bank financing, or is it more a case of having to jump through several hoops?

Thanks for the invite to the REI Group, I will try to go next month. I had a family commitment tonight, but it sounds like it would be a great idea.

@Chris K.

Thanks for the input, a lot to consider here!

If my wife and I form the LLC together, will that reduce some of the risk stated above re: the participation theory?

I do feel that asset protection would be important, though I'm not sure if I'm being overly cautious, and perhaps I should start with one or two properties and worry about the LLC once I have gotten my feet wet.

Will send a PM.  Thanks!

Absolutely! Many buyers choose to put each house/property under their own individual LLC and even name the LLC after the address to keep it straight. All depends on your strategy and goal! But as far as timelines go, it's both feasible and common. Your attorney can take care of it all for you. Hope that helps!

@Kate Daye and @Daniel Brown

So there might be situations where you could avoid paying the realty transfer tax twice. But the PA Department of Revenue has argued for decades that that entering into a contract as an individual then assigning or transferring property to an LLC owned by the individual can be taxable. See this Bulletin for more details. Scenario 2e and 2f probably are the best examples of what can go wrong. There are examples showing when you could avoid it --- but they generally involve you opening an LLC before the sales agreement. 

The PA Department of Revenue has does periodically audit transactions. Now for smaller properties, the damage is arguably minimal. Pay the tax/fines and move on. But if you buy bigger properties in area like Scranton where the realty transfer taxes are high, the damages can be catastrophic. 

Since the cost of forming a single-member LLC is around $400 to $800, I cannot really think of any good reason why someone shouldn't just form the LLC before entering into a sales agreement. PA Department of Revenue can be a ferocious foe.

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

Hello Chris, there is a way to properly write the agreement of sale / offer to allow this to be closed and recorded in the LLC. It's nothing sneaky and no transfer takes place. This way the LLC can be created by your attorney at same time that they are handling closing. We do it every day :)

Unless there is some kind of approval from the PA Department of Revenue on the exact language/method you rely on, parties at the closing are taking a gamble. That's especially true when it's a topic that the PA Department of Revenue has paid close attention to for over a decade. Now such a letter ruling or a bulletin may exist. If you have it, it would benefit the BP Community a lot if you share it. 

In general, I do think there are situations where it is worth taking a gamble on. After all, reasonable people can interpret a statute differently. And Pennsylvania Courts have held that it will read a statute in favor of the taxpayer when there is any ambiguity. With that in mind, it may make sense to take the risk of: (1) the reward is good/great; and (2) you could make a reasonable argument as to why you are right. 

I would, for example, put the option method used by wholesalers in PA as falling in this category. Yes, it's true that the PA Department of Revenue did not expressly rule on that method either. But there is enough room in the statute to make the reasonable argument that termination of an option is not a taxable event. So if wholesalers want to avoid all the headaches that can come from assignments, I would consider it to be a viable option despite the uncertainty.  

But here, I'm having a hard time seeing why anyone would take the risk. Opening a single-member LLC is a de minimis cost. Even if the deal falls apart, you could always use the same LLC for another deal. So why take the risk when the PA Department of Revenue prepared 14-page memo on the topic?

Below is what the Department had to say about this topic. I personally wouldn't take the risk based on what it says.  

The facts as presented in Scenarios #2e and #2f suggest the possibility of a principal and agent or straw-party transaction. The sale agreement states that Gina is either purchasing the real estate on her own behalf or on behalf of her nominee. If a nominee exists at the time the sale agreement was executed, the “nominee” can be viewed as the principal and Gina as an agent or straw party. But, like Scenario #2d, at the time Gina executed the sale agreement, the LLC had not been formed, and therefore, it did not legally exist. Therefore, Gina could not have been an agent or principal for the LLC for purposes of entering into the sale agreement. As a result, Gina was the intended purchaser and grantee under the sale agreement and should have received the deed. Gina could then have contributed the real estate to the LLC by executing a deed for the real estate to the LLC. Because the substance of the transaction is actually two conveyances of title to the real estate the proper taxable value is $1,100,000. David and Gina are jointly and severally liable for tax on the $600,000 purchase price, and Gina and the LLC are jointly and severally liable for tax on the $500,000 computed value.

If the LLC had been created prior to Gina executing the sale agreement Gina could have entered into a principal and agent or straw-party agreement with the LLC to execute the sale agreement on the LLC’s behalf. In that case, the series of transactions would be viewed as a sale to an agent and a subsequent transfer to the principal, and the tax liability would be identical to the liability in Scenario #2c. Gina and David would be jointly and severally liable for tax on the $600,000 purchase price. The subsequent transfer from Gina to the LLC would be excluded from tax.

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

@Carmen Falcone there are 2 active groups that I belong to in Luzerne County.  The NEPA Real Estate Investors Network meets monthly at the Perkins restaurant in Pittston.  There is no charge for this group.  This group is more investor oriented.  We have folks that come from as far away as Williamsport and New Jersey, but a majority of the members are from the greater Scranton/Wilkes-Barre area.  We meet on the 2nd Wednesday of every month.  Meetings run from 7 to 9 or so.  There is usually a guest speaker, or a member of the group will speak about a real estate investing topic.  After the speaker, we have networking time, to get to know what each other is doing, and discuss deals, etc.  The next investors network meeting is set for Wednesday August 14.

There is also the WVREIA (Wyoming Valley Real Estate Investors Association).  This group meets on the last Tuesday of most months (there are no meetings in July, August, or December).  This group was more landlord oriented, but we are in the process of recreating ourselves to become more balanced between landlording and real estate investing in general.  There is a nominal yearly fee for this group (I believe it's 55 dollars), which is used to cover soft drinks, a sandwich tray, and renting of meeting space.  This group meets in the Dolphin Plaza on Rt 315 in Wilkes Barre (between the casino and the Woodlands).  Again, this group tries to have guest speakers.  In the past we have had an insurance agent, a magistrate, insurance adjuster, flooring store owner, and many others guest speakers.  The next WVREIA meeting is set for Tuesday September 24, meeting starts at 7.

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