Do I need an LLC to invest in real estate?

61 Replies

Originally posted by @Daniel O. :
Originally posted by @James Wise:

One key thing to remember is the corporate veil a single person LLC can be pierced relatively easily.

And yet don't most high-net-worth individuals lock up most of their assets in corporate structures? Do you know how they do it, how they avoid the single-person entity trap?

The point I want to make is there are pros & cons. The biggest pro to buying in your personal name is financing. If the individual isn't attempting to obtain residential financing there really are no pros to buying in their personal name. However don't think that just because you bought a property in a single member LLC you are covered in body armor. You are still susceptible to the risks out there just like any other landlord. Probably more so as a high net worth individual is a target as suing poor people is cost prohibitive.

@James Wise acknowledged. Very much understood that an LLC is not a panacea and, even if used correctly (which many people don't), doesn't prevent many maladies.

Original question still stands though: do you know how high-net-worth individuals get around the "single member LLC" issue? Is it a matter of avoidance by technicality (e.g., having an attorney as member), or is there a more involved work-around?

I'm just curious. Thanks again for all of your input.

@Daniel O. my advice doesn't change.  I just don't believe the thesis that entities  protect your personal assets from all business risks.  Entities just make it more complicated for plaintiffs, that's all.  

@Joe Splitrock brings up a good point about famous people. But my sense is that the use of entities by famous people is less about asset protection than creating anonymity. For example, if someone trips over a parking bumper in a shopping center parking lot and they look at the tax record and see that the shopping center is owned by Mr. Famous, they might be inclined to sue, both for the illusion of a deep pocket but also for the notoriety of suing Mr. Famous. But if the shopping center is owned by ABC Center LLC there is no cheese in the mousetrap, so to speak.

Certainly there are times when the proper use of entities is appropriate, but as you observed, it is not a panacea.

As to your follow-up question on how HNW individuals "get around the single member LLC issue"--they don't. There is no magic secret sauce here. Get good insurance, that is your best line of protection. If you are going to be in business there are going to be risks and while you can mitigate them, you can't eliminate them.

The use of an attorney as an LLC manager is simply another layer of creating anonymity. If you are sued, you could be ordered to produce financial records and disclose all of your holdings, which includes all of that stuff anyways. So it will come out in the end...but the idea being sold by the asset protection crowd is that obscuring your identity in the beginning can prevent the litigation in the first place. Perhaps there is some merit to that claim, but it's a game of chance. Some would-be plaintiffs will dig deep, others will move on. You don't know which one will be the one that has a bone to pick with you.

Originally posted by @Daniel O. :

@James Wise acknowledged. Very much understood that an LLC is not a panacea and, even if used correctly (which many people don't), doesn't prevent many maladies.

Original question still stands though: do you know how high-net-worth individuals get around the "single member LLC" issue? Is it a matter of avoidance by technicality (e.g., having an attorney as member), or is there a more involved work-around?

I'm just curious. Thanks again for all of your input.

 It looks like you are looking for a definitive "do this, this and this and you will be fine." It doesn't work that way. You are not going to find a clear blueprint for what to do here on this forum. The higher net worth you have the more complicated your corporate structure should be. However you need to remember that the more defenses you put into place to protect your high net there will always be more offense from the other side as the stakes are bigger.

Last thing I'll say on this topic is there are an unlimited amount of variables at play at all times. You can never eliminate risk, only mitigate it.

@Brian Burke very helpful perspective. Thanks for taking the time to write that all down!

@James Wise you said "It looks like you are looking for a definitive 'do this, this and this and you will be fine.'" Oddly enough, that's the polar opposite of what I want. I'm a lead in a profession in which there are never clear answers, only trade-offs to be managed with varying costs. I get that there is never one true answer for all situations, or even for a single situation. I'm just trying to feel out what the mechanics are the guide what my decisions should be in a given context.

Thanks again for all of your thoughts, and for humoring my many questions. I'm done now; I promise :)

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I know a lot of people have already posted on this, but I just wanted to throw my two cent in on the topic. I wrote an article not too long ago on this exact topic. When meeting with clients the first order is to discuss (A) their personal assets, (B) break down their current investments portfolio and other business ventures before discussing any (C) future goals. Each of these variables will dramatically change the advice for the individual asking this question. I often break it down into the "five pillars" of protecting your assets.

1st pillar is avoiding unnecessary and risky activities (don't drink and drive, insurance generally won’t cover your poor decisions) and take good care of your investments - these simple steps will help you prevent lawsuits before they even occur.

2nd pillar is a good insurance policy as that cover the majority of your exposure. However, insurance is limited because it only protects you from one type of liability: accidents/negligence. Insurance doesn’t protect you from any part of the sale or acquisition of a property (e.x. Somebody wanting to sue for you backing out of a bad deal or accusing you of selling them a property with defects like unknown termite damage). Insurance also doesn’t protect you from misunderstandings, especially those made in writing and email. What happens in these misunderstandings is that something goes wrong either in the sale or after, and then they sue you for some statement you made that they “misunderstood”. That lawsuit is a claim for fraud, and that’s what fraud typically is...a misunderstanding and someone being “injured” and wanting to hold the other responsible for it. Insurance never protects you from these kinds of claims and they happen all the time.

3rd pillar applies after you have good insurance You need to protect yourself from what insurance doesn’t cover by compartmentalizing your assets. Compartmentalization means that if something happens to one property they can't touch you or the other properties. You should use either LLC's (the old and expensive way) or a Series LLC (the new and more cost/time effective way). No matter where you live or where you own assets, I personally recommend the Series LLC to be a great tool for the individual investor who is planning to expand their operation, as it allows for you to scale infinitely for FREE- check out this article to learn more.

4th pillar is somewhat similar - you want to separate your operations from your assets. One company owns everything and does nothing (this is your SLLC a/k/a "asset holding company") and a completely separate company handles all of your operations (this is a traditional LLC a/k/a "operating company") For the operating company which serves as your face to the world and through which you do all your business, you establish a Traditional LLC to carry out the operations of your investments. The operating company takes on all of the liability that would otherwise blow back on you including: paying property management, paying contractors, collecting rent, marketing, etc.

5th pillar is owning everything anonymously. If people don't know what you own, then they are less likely to sue. People don't sue people that qualify for food stamps. This anonymity can be accomplished for free by using Trusts to own your companies as well as the assets. Trusts create this anonymity by removing your name from public record. Even if they can see you used to own a property, when properly transferred it will look like it was sold to investors. If they somehow guess you are the owner still, it doesn't matter because you are not the owner. The trust and the LLC are the owner of the asset/real estate, so even in the scenario that they guess, they guess wrong.

Do you need an LLC to invest? No. But LLCs are made to protect you and your investments, and I would recommend using them as early as it makes since financially. This isn't legal advice, just my opinion as a real estate investor.

Originally posted by @David Dachtera :
Remember that owning in your own name exposes your ENTIRE ESTATE and puts it at risk. Not much point trying to build wealth if you can lose it in a single bang of a judge's gavel.

 I realize that David's post is from two years ago, but it's related to the situation I'm looking for advice about!

I'm new to REI, living in Northern VA, and looking to purchase my first property (aiming for a single family home) in the Hunstville, AL area. My dad is a lawyer (practicing family and insurance law) and has seen so many people wiped out because they operated without LLC structures. As he puts in, "Sure, it doesn't happen often, but even a $2 million umbrella policy that doesn't do diddly when you're being sued because a serious accident left someone disabled and the judge rules against you." He is quite adamant that I create a sole member LLC as I venture into real estate to protect my existing net worth. I'm familiar with LLC's (I have recently started one for a side hustle to sell my crafting wares, separate bank account and operating agreement and all) and am a meticulous record keeper (interned with a forensic accountant some years ago, I'm an organizing fiend, and I file paperwork like it's my religion). I believe I'm relatively well prepared to competently keep affairs separate so that I actually get the protections of the LLC as they're intended. I also prefer the increased (but not absolute) anonymity of the LLC structure.

One of my main qualms is about the financing issues, as I'll go for a conventional mortgage for any property that I buy. As I understand it, the issue with getting financing as an LLC is that the bank isn't going to want to lend to my LLC since it won't be able to recoup costs if the LLC goes belly up (since the LLC has so few assets it could go after as opposed to me personally). That's my understanding.

My dad / lawyer has told me that I should be able to have the option of drawing up additional paperwork with the bank. In essence, it would will allow me to operate the rental business side of things as the LLC, and get the loan as the LLC, but still let the bank to hold me personally liable for the mortgage. In other words, I get the LLC protection against third party claims but not against the bank when it wants to hold me responsible for the mortgage payments.

To me, this sounds like the best of both worlds... but I haven't heard or seen anything about this type of option on the forums or podcasts. Admittedly I'm new so I haven't been through terribly much material yet. But my dad is saying he's seen this arrangement work favorably and be acceptable to banks many times and that it's 1,000 times better than putting my personal net worth on the line. Also, in my state (Virginia) it only costs $100 to form an LLC with only $50/year thereafter.

So, my question is: Has anyone ever used an LLC to run their rental business but used an additional agreement with the bank to satisfy their desire to be able to hold you liable for the financing? If so, I would really love to hear about your experience and also pick your brain a bit.

Thanks, BP family! Looking forward to getting my journey started.

Now I gotta follow this I am even more a  newbee to changing my bad practice looking and Anderson Law and going to a local attorney Wednesday can't wait to see some responses. Any thoughts on using Anderson law?

@Barb F. ,

Check with your attorney again. A single member LLC is more vulnerable than a multi-member LLC. Also, you want a multi-layer entity structure such that NONE of the entities are owned by a human person.

As for lenders, they can always foreclose and take the property back. This should be their sole recourse. It's a must when there are self-directed retirement plans involved.

Originally posted by @Barb F. :
Originally posted by @David Dachtera:
Remember that owning in your own name exposes your ENTIRE ESTATE and puts it at risk. Not much point trying to build wealth if you can lose it in a single bang of a judge's gavel.

 I realize that David's post is from two years ago, but it's related to the situation I'm looking for advice about!

I'm new to REI, living in Northern VA, and looking to purchase my first property (aiming for a single family home) in the Hunstville, AL area. My dad is a lawyer (practicing family and insurance law) and has seen so many people wiped out because they operated without LLC structures. As he puts in, "Sure, it doesn't happen often, but even a $2 million umbrella policy that doesn't do diddly when you're being sued because a serious accident left someone disabled and the judge rules against you." He is quite adamant that I create a sole member LLC as I venture into real estate to protect my existing net worth. I'm familiar with LLC's (I have recently started one for a side hustle to sell my crafting wares, separate bank account and operating agreement and all) and am a meticulous record keeper (interned with a forensic accountant some years ago, I'm an organizing fiend, and I file paperwork like it's my religion). I believe I'm relatively well prepared to competently keep affairs separate so that I actually get the protections of the LLC as they're intended. I also prefer the increased (but not absolute) anonymity of the LLC structure.

One of my main qualms is about the financing issues, as I'll go for a conventional mortgage for any property that I buy. As I understand it, the issue with getting financing as an LLC is that the bank isn't going to want to lend to my LLC since it won't be able to recoup costs if the LLC goes belly up (since the LLC has so few assets it could go after as opposed to me personally). That's my understanding.

My dad / lawyer has told me that I should be able to have the option of drawing up additional paperwork with the bank. In essence, it would will allow me to operate the rental business side of things as the LLC, and get the loan as the LLC, but still let the bank to hold me personally liable for the mortgage. In other words, I get the LLC protection against third party claims but not against the bank when it wants to hold me responsible for the mortgage payments.

To me, this sounds like the best of both worlds... but I haven't heard or seen anything about this type of option on the forums or podcasts. Admittedly I'm new so I haven't been through terribly much material yet. But my dad is saying he's seen this arrangement work favorably and be acceptable to banks many times and that it's 1,000 times better than putting my personal net worth on the line. Also, in my state (Virginia) it only costs $100 to form an LLC with only $50/year thereafter.

So, my question is: Has anyone ever used an LLC to run their rental business but used an additional agreement with the bank to satisfy their desire to be able to hold you liable for the financing? If so, I would really love to hear about your experience and also pick your brain a bit.

Thanks, BP family! Looking forward to getting my journey started.

In my experience the only time I have seen people access the favorable financing that is available through their personal name while holding onto the liability protection is through the use of a Land Trust. The Land Trust is an inter vivos trust, and is considered an estate planning tool. It would look like this: you would purchase a property into your own name, then use a warranty deed to transfer it into a Land Trust (a transfer protected under the St Germain Act,) then assign yourself as trustee and the LLC as beneficiary. You can check out this article for more. You would want to find an experienced real estate attorney to help you set this up - specifically an attorney who also has real estate investor experience.

This is not legal advice, just my opinion as a real estate investor.

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