Should You Create an LLC for Your Rental Property?
An LLC or Limited Liability Company has become a very popular business structure for rental property owners.
If you are in the business of renting property, you should consider creating a limited liability company to benefit from its inherent features, especially if you own several units.
As a Mergers and Acquisitions specialist, I assisted several businesses and entrepreneurs in forming an LLC for their rental properties. I consulted our team of legal professionals to provide the benefits and drawbacks, as well as help you decide whether it's ideal to establish one.
Quick Summary
- In order to create an LLC for your rental property, it would be necessary to form a parent company with subsidiary entities.
- You should create an LLC for your rental property to benefit from limited liability protection and separate the individual business entities as independent units.
- According to Zillow, the average monthly rent surpassed $2,000 in June 2022. While this is true, consider the cost of maintaining your property.
- In my experience, apartment owners benefit most from an LLC-structured business set up.
4 Benefits of Creating an LLC for Your Rental Property
According to Census estimates, about 70% of rental properties are owned by individual investors. It would be a good idea to convert your property into a limited liability company.
There are four advantages to forming an LLC for your rental property:
1. Personal Liability Protection
A limited liability company is legally recognized as an independent entity, separate from its owner. If you create an LLC for your rental property, your personal assets are protected from any liability arising from the facility.
2. Separation of Property
Forming a parent company with subsidiary entities would create a separation between your rental properties and limit any liability to each independent unit. Any legal action brought against one property insulates the rest from litigation.
To illustrate, I had a client who was able to limit the amount of liability to one particular rental property by creating a separation between businesses.
3 . Tax Benefits
A limited liability company benefits from pass-through taxation, that is, all financial gain made by your rental property is taxed on your personal income tax return. The entity itself does not pay taxes on the business level, and you avoid double-taxation, which is imposed on corporations.
According to the IRS, the tax rate for a single taxpayer is between 10% and 37% [1].
"Real estate is a good investment to become wealthy."
- Jon Morgan, CEO & Editor-in-Chief of Venture Smarter
4. Separate Your Rental Properties From Each Other
Separating your rental properties is another benefit of forming a separate LLC for each property. Just like you do not want to mix your personal and business finances, you also do not want to mix or co-mingle your rental homes or other properties' business expenses with each other.
When it comes time to sell one of the rentals, potential buyers will want proof that the property they want to purchase is free and clear from any liens or other claims.
Drawbacks of Creating an LLC for Your Rental Property
While LLCs offer many benefits, as a property owner, you should know that there are some drawbacks as well.
1. It Costs More to Form and Maintain an LLC
Since an LLC is regulated by the state in which it operates, there are set up expenses, annual fees, and taxes that have to be shouldered by the business owner.
Additionally, you have to appoint and maintain a registered agent and file annual reports with a corresponding fee.
2. An LLC Requires Financial Monitoring and Paperwork
You have to manage and monitor your finances separately in order to protect your personal assets from liabilities. I encourage my clients to open a business bank account to legally separate their personal finances from company properties.
Other Things To Consider
If you do decide to create an LLC for your rental property, there are other things that you will need to do in order to protect yourself.
1. Maintain a separate bank account for your rental company
You should never put money from one property into the account for another because you could be risking the security of all of them.
If one tenant decides to sue your company, the money in all of your accounts could be considered fair game.
When setting up an LLC for rental property, I advise that you speak with a real estate attorney who can help you understand how this business structure will work for you and what you need to do to protect yourself.
With so many issues, including taxes (franchise or title transfer tax), liability, and property ownership, you want to make sure that you are doing what is right for yourself and your family.
2. Make sure to get separate licenses and permits
Although this should be done in any case, it is even more crucial when your rental properties are in different states or cities. If you have a federal tax ID number for your LLC, you will need to notify the Internal Revenue Service every time you move an address [2].
You will also have to report this change to all of your local government agencies so that they have the correct information on file.
3. Know what not to do if you are setting up an LLC for rental properties
Before forming an LLC for your rental properties, consider what you should not do. While the separate entity protects you from liability and responsibility, it also can make taking care of business more difficult.
If you need to file a permit or request a license from your city or state government, it will require that all of your LLCs have individual names.
This means that you will have to come up with a different LLC name for each property. In some cases, this can make things more complicated and may not be possible due to the naming requirements of your city or state.
How Do I Create an LLC for a Rental Property?
You can create an LLC for a rental property by filing the Articles of Organization with the state, appointing a registered agent, applying for licenses and permits, and complying with state business laws.
Once you register your LLC, it is important to make sure that all of your records are correct. Make sure that you take the necessary precautions from the start in order to keep yourself and your personal assets safe.
Related Articles:
- LLC for Spouses
- How To Start an LLC for Real Estate
- How to Transfer Real Estate to an LLC
- Real Estate Trust vs LLC
FAQs
How Much Does a Title Transfer Tax Cost?
The cost of a title transfer tax varies from county to county and will depend largely on the value of your property. In some cases, you may be required to pay this fee when you file for an LLC formation in the state where you live.
How Do You Name the LLC for Your Rental Property?
You can name the LLC for your rental property by registering an available name and following your state's specific guidelines.
References:
- https://www.irs.gov/filing/federal-income-tax-rates-and-brackets
- https://www.irs.gov/taxtopics/tc157