LLC Formed, what next?

13 Replies

Hello all,

Looking for some help for the BP folks....

My business partner and I currently own 4 rental properties, which we plan to put into an LLC. The LLC has been filed with the State of TN, and once it has been recorded, we will QC the properties to it. (our lender has approved this). We are 50/50 partners in the LLC and will split profits / losses accordingly.

My question is: How do we protect our personal assets, and the equity in the rental properties, in the event a Tenant sues us etc.?

I have been unable to get a personal umbrella policy to cover the rental properties to this point, because we are both named on the Titles of the properties.

Is there some kind of business insurance that would be suitable for this situation?

Any insight from those that may have an opinion or experience with a similar situation would be much appreciated.

Thanks!

You should get a general liability policy and a E&O policy. I have mine through Hiscox.com.

@Lewis C.  

You best protect your assets by putting each individual property into its own LLC. Just make the LLC name the address of the property. This puts a huge limitation on the access to your other properties in the event of law suite.

You can also set up your business as an S-Corp (even more protection overall, it offers the benefits of a corporation but you don't get double taxed with the S election the way you do a C corp) and that S corp can "own" each of the LLC's that each hold one property.

@Lewis C. Since you have a partner, putting the properties into a LLC makes sense. Make sure you are aware of the rules surrounding LLCs because in the event that a tenant does sue, you don't want the opposing lawyer to "pierce the corporate veil" and have your LLC rules as a disregarded entity.

Your properties being in a LLC will likely protect your personal assets in case a tenant does sue. To protect your equity in the properties, you may want to consider setting up an additional LLC that performs property management functions such as leasing, hiring maintenance crews, etc. Your property LLC then contracts your management LLC and if the tenants have issues, they take it up with your management LLC, thereby protecting your equity in your properties. That is obviously a high-level overview, so you will want to discuss with a lawyer that can analyze your situation and provide you with more detail.

@Natalie Kolodij While placing each individual property into an LLC will provide you with maximum asset protection, it often causes an accounting and legal mess of which the cost is generally not worth the hassle. Of course having another entity own all the LLCs can simplify the process.

But a problem with the parent/subsidiary structure (i.e. having 4 LLCs and a parent S-Corp) is that you are essentially placing all of your expensively created separate entities that you formed to maximize asset protection in one basket. If a creditor sues the parent and gets a judgment against the parent, the creditor can likely reach all of the parent’s sub's.

Best bet - consult with a lawyer. 

Not legal advice.

@Brandon Hall  

I guess from my POV each level of difficulty put between someone and having access to all properties owned is worth the bit of extra money put out. 

I would at very least spend the few hundred dollars to put each property in its own LLC.

@Lewis C.  Not cut and dry advice- It's obviously personal preference. And you should discuss with your lawyer and your CPA what they think is your best structure. 

Originally posted by @Natalie Kolodij :

@Brandon Hall  

I guess from my POV each level of difficulty put between someone and having access to all properties owned is worth the bit of extra money put out. 

I would at very least spend the few hundred dollars to put each property in its own LLC.

@Lewis C.  Not cut and dry advice- It's obviously personal preference. And you should discuss with your lawyer and your CPA what they think is your best structure. 

 Natalie, 

Don't believe the Gurus about everything. When you get a boatload of rentals, then worry about asset protection. Have good liability insurance and get to investing. 

Lewis, 

What are you going to get sued for. I would get a good commercial insurance policy with a $1M liability on each property. You will be fine.

@Arlan Potter  

I was surprised to read your background was in accounting. I'm in public accounting which is why I feel you should separate into separate LLC's- I didn't just believe something I heard at a seminar.

I am no accountant, nor a lawyer. But let me speak from my experience in managing a company that had close to a dozen LLC's. Banks hate it. It's confusing.

When I recently started my new business, my banker flat out told me, "don't have too many LLC's. It's too confusing for bankers."

Essentially, the bank wants to know your solvency is what I got from it. Our companies were made up of an S Corp, with multiple LLC's under it and 2 partners owning the S Corp. It got to be a huge mess on paper to work with lenders.

So, I'd follow up with your banker before deciding to put every property in an LLC, just my $.02. If they are good with it, then go for it. Regardless of what a tax attorney or an accountant tells you, if the bank doesn't like it, it could hurt future lending capabilities. 

Last note, the company I was managing had over $16M in assets and built $10M per year in new homes. It could be different on smaller scale, which I am just starting out on my own doing. So, please, take my comments for what they are worth :-)

Originally posted by @Natalie Kolodij :

@Arlan Potter 

I was surprised to read your background was in accounting. 

 Natalie, I am an accountant. 20+ years as a corporate accountant, controller, CFO. I am still a CPA. One thing accounting has taught me, well many things, but I believe in good accounting for my businesses. I also know that accounting needs to be a simple part of what my business does. If it is complicated, it probably adds little value. I think that for most investors, especially new investors, they should concentrate more on building their business and less on complicated accounting and asset protection schemes. Most people never invest enough or actually have a high enough net worth to worry about LLCs, S corps,  or whatever. 

Plus, I really don't know what a landlord could get sued for that the $1M in liability insurance would not take care of. And even if you have LLCs you still need the insurance.

Either way, go buy some rentals.

I know folks are tired of hearing me, I am an accountant, among other things, beyond that and I'm not an attorney,  you can check my profile as to general experience.  

Do not use multiple LLCs, one for each property, I have never heard any of our member attorneys suggest or endorse that strategy. As mentioned, it's a PITA to manage, you mess up and veil is pierced.

Next, you must capitalize each LLC, no LLC will stand with $100 bucks in the bank under its name with a $10 or 100,000 asset. Do you have, say $40K to divide among 4 LLCs?

So far, the business knowledge is zip, as you don't know what to do next, that's okay, just saying you're probably not up on the required admin functions of your LLC with unrelated partners....multiply those duties by 4!

Get insurance after you deed the property to your LLC.

Now, with all that set aside;

File the LLC, it should be "filed" upon receipt and acceptance of your Sec. of State unless they have some notice to confirm filing.

Next, did you have an Operating Agreement made? Your LLC isn't functional until that is adopted, should have been done together with filing process.

In the Operating Agreement, identify who has signature authority for binding the company, ability to incur debt in the company name, what limitations they may have, when it becomes necessary for both partners/members to sign or execute documents. In accounting or finance, this is a "cut off amount" neither partner should be able to clean out a bank account, people die and the rights of others may become effective as to the rights of the dead guy, other things can happen as well, so give these cut offs careful consideration, but make it so that you don't need two signatures to go buy a mop and bucket either.

Other issues need to be addressed in the OA as well, but ask your attorney, this is a forum post, not a book.

Next, you need to apply for an EIN tax number with the IRS and you state should be using the same, but check.

Business licenses, municipal, county as applicable, they may want your EIN. Any sales tax applicable to the business? If you sell stuff as part of your operation, you'll need your tax account.

After you have your tax number, set up bank accounts. Understand the initial deposit requirement and treatment for an escrow account, it shouldn't be any of your money. That one account can take care of 100 property deposits or whatever under one company name. If you are allowed to earn interest on any escrow account, check state laws as to who is entitled to that, usually the principal who's funds are held, but, you may be able to agree that interest will be paid to you for the maintenance and expenses of the escrow account, id so, that needs to be addressed in your deposit agreements.

I think, IMO, $1,500 is sufficient for the first rental as to an operating account, then 1,000 for the second, then 500 for each additional SFD property, minimum as an initial deposit, more is better. You can have a money market account as your operating account. Ask your attorney what capital requirements might be deemed appropriate as this will be on a case by case and as a local assessment.  

If you hold funds of others, like deposits, that is an "Escrow Account" you need to be familiar with state law on the accounting, deposits and withdrawals, understand what "comingling funds" is!

You need an "Operating Account" this is the bank account used to run the operations of the company. You can not comingle funds of your personal needs or monies with this account either or your veil will be shredded not just pierced. (Now, think about running 8 accounts for 4 properties! An accountants dream, not yours, especially when you pay them.

If you have sales taxes, you may need a tax account. (Most RE types don't, but I've had operations where tenants went to classes, bought books, those in maintenance classes bought supplies, etc. so sales taxes can be applicable)

After you have deposited your initial contributions to the company, you can begin buying stuff in the company name and use the business account.

Do not use company money to pay for personal use items, I don't like buying gas with a company account unless the vehicle is in the company name. Write yourself a check to your drawing account (how you get paid) and then buy gas, as for taxes, you can use business expense deductions to wash out income to you by accounting methods. See your accountant.

Deed the properties over to the company.

Get insurance in your company name.

Contact your title insurance company and have the title policy changed to insure the company. It's not your personal property any longer. Now, title coverage can flow through, but it's much less hassle doing it right especially if you have a claim.

Flip the owner's utility accounts to the company name, a landlord utility account can keep utilities turned on in the event a tenant fails to pay and avoid shutoff turn on fees.

Now you can advertise in the company name. Use the exact name of the company in all ads and written materials.

When you sign, you will be signing for the company, never simply sign your name without a signature block as an official capacity or representative of the company.

Now you can get business cards, stationary, office supplies, etc. Keep all receipts and see your accountant. Receipts under $100 can generally be recorded and copied electronically or physically (in a file), I kept them for 3 years, over $100, I kept for 7 years. Over a thousand, I kept 10 years, two reasons, one as an audit trail for taxes, secondly to prove transactions as to claims or guarantees. Paying laborers I keep for 7 years, primarily as to liability matters from poor work and taxes. 

Understand what constitutes a major purchase, all real estate transactions must be authorized in compliance with your OA. For title work, you will need proof of your authority to execute deeds, that should also be done as a part of your records or in the Minutes as needed  as well as major expenditures with partnerships in the OA. Ask you attorney about proper administration.

Anything you sign in the company name prior to proper filing of the company you will have personal responsibility for, but may have that business conducted under the company, best practice, don't sign anything until you are properly filed. 

See your accountant and see your attorney, see your banker and insurance agent too.

 Do not take legal advice off the internet, unless the advice comes from an attorney AND they are in fact advising you specifically! Generally, that won't happen with an attorney.

I understand everyone wants to form their company on the cheap, you can accomplish some things, I'd say most OAs that are canned boilerplate are probably trash, you should consider your other assets, your estate, Will, Powers of Attorneys, matters with heirs to build a sound, orchestrated machine to run your personal side along with your business interests, I bet less than 10% here have a fine tuned orchestrated and operational contingencies. DIYers will never get there, without assistance, IMO.

The best way to protect yourself personally is 1. Good property and company management, 2. Insurance, 3. Knowledge, 4. Company structure, 5. Personal estate planning.

Good luck! :)    

      

Originally posted by @Arlan Potter :
Originally posted by @Natalie Kolodij:

@Arlan Potter 

I was surprised to read your background was in accounting. 

 Natalie, I am an accountant. 20+ years as a corporate accountant, controller, CFO. I am still a CPA. One thing accounting has taught me, well many things, but I believe in good accounting for my businesses. I also know that accounting needs to be a simple part of what my business does. If it is complicated, it probably adds little value. I think that for most investors, especially new investors, they should concentrate more on building their business and less on complicated accounting and asset protection schemes. Most people never invest enough or actually have a high enough net worth to worry about LLCs, S corps,  or whatever. 

Plus, I really don't know what a landlord could get sued for that the $1M in liability insurance would not take care of. And even if you have LLCs you still need the insurance.

Either way, go buy some rentals.

Interesting point of view. Granted that this aspect of my experience is from big-firm legal services, but I would never, never refer to a sole-purpose LLC as a 'scheme,' asset protection or otherwise.

The same way that when "you" own assets, they are "all" exposed if something goes wrong, if something goes wrong on one of your properties, that property and all the others similarly held in the same asset are also exposed. Do yourself a favor and separate them by keeping them in separate entites. BigPock1, LLC; BigPock2, BigPock3, LLC. it doesn't have to be complicated. Keep yourself appropriately insulated from the Asset, according to legal counsel's advice. This is how you can best compartmentalize the liability.

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