There are a number of advantages to transferring your rental property to an LLC, including asset protection, tax benefits, and anonymity.
- Asset protection
- Tax benefits
- Anonymity
What is an LLC?
An LLC or Limited Liability Company is a simple and common business structure that can help protect your personal liability when you conduct business, as long as you maintain your LLC properly. (Check out our blog on How To Maintain Your LLC). It provides limited liability to its owners, but also has many of the characteristics of both a partnership and a corporation.
An LLC can be formed on your own; however, it is recommended that you allow a professional business attorney to assist you in creating your LLC. A business attorney can file and draft the correct required documents, such as the articles of organization and a personalized operating agreement, which sets out the rules of ownership. An operating agreement is extremely important if you have business partners.
Having an LLC offers significant advantages whether you are an investor holding multiple rentals or an individual managing a single property.
Asset Protection
One of the main reasons people set up an LLC is to protect their personal assets. As long as you maintain your LLC properly, it should provide a layer of protection for your personal assets. Owning property in an LLC can prevent a tenant, neighbor, or other party from going after assets that you hold individually or in another business entity. If you are sued due to your ownership of a property, the plaintiff would only be able to collect against the property owner. If the property owner is an LLC or other business entity, then the plaintiff's recovery would be limited to the assets of that LLC.
Tax Benefits
There are a number of tax benefits to holding real property under an LLC. An LLC has default “pass-through taxation,” which means that any income—such as rental profits—passes directly to the member(s) of the LLC. You can also elect to be taxed similarly to a corporation by making an election with the IRS. We recommend speaking with a CPA or tax professional before making any formal tax elections.
Anonymity
Property owners can maintain privacy when they form an LLC with the help of a business attorney. The attorney can register the LLC with the Secretary of State without publicly disclosing the owner or members of the LLC. Holding a property in an LLC can help reduce the likelihood of a lawsuit from parties searching for "deep pockets," preventing individuals from easily identifying you as the owner of the property or business.
Multiple Properties
What if you have multiple rental properties? In this case, we advise keeping each rental property under a separate business entity. You will want to keep each property insulated from liability claims by placing each one under its own LLC. If a lawsuit is filed pertaining to one of your properties, the other properties will not be impacted as long as each LLC is maintained correctly and separately.
Timing of LLC Formation
When should your LLC be formed? It is always best to form your LLC before purchasing your rental property; however, it can also be formed after you already own the property.
A major benefit to creating the LLC beforehand is avoiding the need to notify your mortgage holder that you are transferring title later. This prevents potential closing costs, interest rate increases associated with issuing a new mortgage, or having to amend existing tenant lease agreements. Some lenders include a "due-on-sale" clause where the entire loan balance becomes due upon a transfer of ownership. Transferring property from an individual to a single-member LLC is considered a transfer of ownership under most mortgage agreements and security deeds. If you choose to form the LLC after already purchasing the property, discuss the transfer with your mortgage lender prior to initiating any steps.
Conclusion
Understanding the full picture of investment property ownership ahead of time will help prevent major headaches down the road. A prudent way to protect yourself and your future is to have your rental property or properties held in a Limited Liability Company to safeguard your personal assets, equity, cash, and investment accounts. (See our guide on How To Maintain Your LLC for more details).
If you have any questions or would like to set up an LLC for your rental property, please contact Kapadia Naik & Farhoudi or call us at 770-881-8081 to discuss how we can assist you.