If you're interested in buying a rental property, you may be wondering if it's better to do so through an LLC. There are pros and cons to each option, and it ultimately depends on your specific situation. We'll discuss the benefits of buying rental property with an LLC and how to go about doing so. I'll also cover some of the drawbacks of using an LLC for this purpose. By the end of this blog, you should understand whether or not purchasing a rental property through an LLC is right for you!
What is LLC?
LLC stands for Limited Liability Company, and it is a business structure that provides limited liability protection for its owners. This means that if the LLC experiences financial losses or is sued, the owners are not held personally liable. In addition, an LLC provides flexibility in terms of taxation and ownership structure.
Benefits of Buying Rental Property with an LLC
There are several advantages to buying rental property with an LLC.
- Separate personal assets from business assets: You can open a business account by forming an LLC. This allows you to keep all of the income and expenses related to your rental property separate from your personal income. During tax season, when you will need to keep track of all of your rental business's expenses and income, this can be especially helpful.
- Liability exclusions: You can limit your legal fees liability and safeguard your personal assets by owning real estate through your rental business LLC.
- Partnering makes it easier to invest: Although forming an LLC to purchase an investment property with another person is not required, it may help facilitate administrative tasks. On the operating agreement, you and your partner's names may be substituted for your LLC and each person's percentage of ownership.
- Tax benefits: Pass-through taxation can be beneficial to businesses owned by individuals. You can reduce the amount of money taken out of your income for taxes by having an LLC because the income from your business can "pass-through" you and be added to your individual tax return.
- Privacy: Your LLC's name can be included in the property deed instead of your own, giving you more privacy. Because the property is owned by your company, no one will be able to access any personal information if you hire a property manager or deal with tenants.
Drawbacks of Buying Rental Property With an LLC
Although there are many benefits to buying a rental property with an LLC, there are some drawbacks as well. These are the list of drawbacks of buying rental property with an LLC:
- Give up the preferential treatment for capital gains: When you buy a rental property through an LLC, you have to give up preferential capital gains treatment, which means you don't have to pay capital gains tax on the first $250,000 of a property's profit.
- Cost: Buying a rental property as an LLC typically entails higher operating costs, higher fees, and a larger down payment. LLCs are subject to additional restrictions in some states, so you should familiarize yourself with the local landlord-tenant laws pertaining to rental businesses.
- Limit your options for financing: There are a variety of ways to finance rental properties, but unlike LLCs, most are only available to individuals. You will need to act as an individual investor if you want to get a conventional mortgage loan or a loan from the Federal Housing Administration (FHA).
So there you have it, the pros and cons of buying rental property with an LLC. While it may require a larger down payment and increased costs, setting up an LLC to purchase a rental property can provide substantial benefits in terms of legal protection and tax advantages. Ultimately, this decision is up to you as the investor; weigh your options carefully and do your research before making a decision.
Who Should Consider Buying A House With An LLC?
Anyone who is looking to reduce their liability and protect their personal assets should consider buying a house with an LLC. Additionally, investors who want the tax advantages associated with owning a business may find that forming an LLC is beneficial. But, it's important to remember that there are additional costs associated with setting up and maintaining an LLC, so make sure you can afford these costs before making the investment. Lastly, make sure to understand all of the local laws and regulations associated with owning a rental property as an LLC in your area. Doing so can help you ensure that you stay in compliance with the law and protect yourself from potential legal issues.
The Process of Buying Rental Properties With an LLC
If you decide to purchase a rental property through an LLC, the process is relatively straightforward. Here are the steps:
1. Choose a name for your LLC and select a registered agent
- Decide on a name for your LLC and make sure it’s available in your state. You will need to choose a registered agent who can receive any legal documents that are sent to the LLC.
2. File Articles of Organization with the Secretary of State
- Submit the proper paperwork, usually referred to as “Articles of Organization
3. Create an Operating Agreement to outline the roles and responsibilities of all parties involved
- It’s important to create an Operating Agreement that outlines the roles and responsibilities of all parties involved.
4. Obtain a Tax Identification Number (EIN)
- Every LLC must obtain its own unique Employer Identification Number (EIN) from the IRS for tax filing purposes.
5. Select a corporate structure for your LLC
- Typically, you will want to choose a single-member LLC for rental property investments.
6. Open a bank account for the LLC
- You will need to open a separate bank account in your LLC’s name so that all of your rental income and expenses can be tracked separately from your personal finances.
7. Find an appropriate property to purchase
- Take some time to research the local market and find a property that meets your criteria and budget.
8. Negotiate the purchase of the rental property with the seller and draw up contracts
- Negotiate the terms of the rental property purchase with the seller, including price and any other conditions. When you come to an agreement, have a lawyer draw up contracts for both parties to sign.
9. Complete the purchase of the property
- After all of the paperwork is completed, you can complete the purchase of the rental property. Congratulations – you now own a rental property through an LLC!
- Make sure to include the LLC’s name in all documents related to the purchase, such as deeds, title documents, and mortgage contracts.
10. Find a reliable management team (or if you're self-managing)
- You will need to hire a professional management team to take care of the day-to-day operations of your rental property and payments.
- If you’re self-managing the rental property, you will need to set up a system for screening tenants, collecting payments, and handling any disputes that may arise. A good way to do this is by creating an online tenant portal where tenants can easily apply, pay rent or view their lease agreements. You should also consider using a property management software system to help you keep track of all your rental properties in one place.
11. Build relationships with tenants and contractors
- Building solid relationships with tenants and contractors is key to running a successful rental property business.
12. Monitor your finances regularly
- Make sure you track all expenses, income, profits, and losses associated with your rental property, as well as the performance of your management team.
13. Comply with ongoing legal requirements
- You will need to follow all local landlord-tenant laws and file appropriate taxes every year.
By following these steps, you can successfully purchase a rental property through an LLC. Keep in mind that the process may vary slightly between states, so it is important to familiarize yourself with the laws and regulations of your state before you get started.
Can You Transfer an Investment Property You Own to an LLC?
Yes, you can transfer an investment property you own to an LLC. This process is called “transferring a deed” and it involves transferring the title of the property from your name to the LLC's name.
In order for this transfer to be valid, you will need to file the appropriate paperwork with the county recorder's office in your area. In some states, you may need to pay a transfer tax in order for the deed transfer to be valid. It is important to consult with an attorney and accountant before transferring ownership of an investment property to an LLC. Once the deed is transferred, all future profits and losses associated with the rental property will belong to the LLC. This can be beneficial since it can provide some legal protection in the event of a lawsuit.
Additionally, an LLC can help you maintain control of your rental property without having to be personally involved. This can be especially helpful if you own multiple properties and want to delegate the day-to-day tasks of managing them.
The Bottom Line
When it comes to buying a rental property with an LLC, it is important to plan ahead and understand the legal requirements of your state. It can be a complicated process but with the right preparation and help from professionals, you can make it work for you.
LLCs are excellent for seasoned investors, but they are less useful for novice investors. The members of an LLC can gain liability protection within their business entity by establishing an LLC. But, LLCs are less useful for new investors than they are for established investors. You can get a general understanding of your state's LLC laws from the government there. Privacy, limited liability, tax advantages, and partnership opportunities are also provided by an LLC. But, you should be aware of ongoing expenses, difficulties obtaining a mortgage, the drawbacks of capital gains taxation, and a few other drawbacks.
Keep in mind that analysis paralysis is normal! Consider applying for a mortgage in your own name and working your way up to more complex investments to combat indecisiveness.