Should You Put Rental Properties in an LLC?

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[Editor’s Note: I am not an asset protection, legal, financial, or tax expert. I can only tell you the things I’ve learned when researching whether an LLC is the appropriate structure for holding my own rental properties. Please consult a professional being making any decisions in this arena.]

Should you form an LLC and put your rental properties in it?

If you have rental properties or are looking to purchase some, the question of whether or not to form a Limited Liability Company (LLC) has probably come up at some point. I see this question posed quite often on related forums, as well as on the Passive Income Docs Facebook Page. LLCs can be a great way to protect yourself and your assets, and as an owner of several rental properties in various states, I’ve pondered this question myself.

Unfortunately, it’s never completely cut and dry. There are many factors at play, particularly asset protection and taxation issues, that need to be considered before making this decision. For some, it may be better to simply increase your insurance coverage. But finding unbiased advice on this question can be difficult.

If you ask an entity lawyer whether you should form an LLC, they’ll say yes. If you ask an insurance agent whether you should increase your liability and umbrella insurance instead, they’ll say yes. The old saying, “Never ask a barber if you need a haircut,” seems to hold true.

So, should you put your rental properties into an LLC? Well, the answer is. . . it depends. Once you’ve weighed the options, the answer to your situation will hopefully become more clear. So let’s try to break it down a bit with a classic advantages/disadvantages list–one for the LLC, and another for simply increasing your insurance coverage.

Advantages of an LLC

Asset Protection

One of the major reasons LLCs were created in the first place was to limit personal liability. This is probably the main incentive for investors have rental properties in an LLC. The risk of a lawsuit is hypothetical, but every one of us in the medical field knows to take the threat of a lawsuit seriously. The last thing anyone wants is for a tenant in a rental property to have an issue, even if it’s out of your control, and have them go after your personal assets.

Tax Advantages

LLCs can be designated as different types of tax entities, but I would venture to say that if you’re reading this, you would likely have it taxed as a “pass-through” entity. This means that the income and capital gains from the LLC pass directly to the owner. Taxes are then paid as an individual. However, the owner still gets to enjoy the protection afforded by the LLC. The recent changes in the tax law have made some adjustments to how pass-through entities are taxed. Whether that is to your advantage, specifically, is something you should discuss with your CPA.

Anonymity

When you own rental property, the name on the deed (yours) is public knowledge. In a very bad scenario, they could see you’re a high-income professional with M.D. status. This knowledge may determine their behavior. This is exactly why many of my colleagues say they will never put an M.D. vanity plate or hospital bumper sticker on their car in case they get into an accident. If you have a holding company in a state that allows for total anonymity like Wyoming or Nevada, it’s even more difficult for anyone to figure out who the owners actually are.

Equity Multiple

Disadvantages of an LLC

Cost

There is a cost to forming and maintaining the entity you create. There may also be an additional cost for tax preparation. I’ve talked to lawyers who will charge $600 for an entity creation and others that will charge $2,000. There are companies like IncFile who only charge $49 + state fee to get started, then there’s always LegalZoom which will do it for a couple hundred but who knows whether it’s good enough. I’ve found that just to maintain any of my California LLCs, it’s about $800 a year for each one. Is the cost worth it? Well, that leads me to the next point.

Unclear Asset Protection

Unfortunately, simply have the letters “LLC” on the deed doesn’t necessarily fully protect the owner. There are situations where it does protect well. . . and there are times when it doesn’t.  Again, it’s not fully clear what those situations might be. What’s in your operating agreement may help, but that depends on who helps create the entity. The only way you’ll know for sure is when a suit arises.

Trouble Getting Financing

Good luck trying to get a loan when purchasing a single family home (or a duplex/tri/quad) under the name of the LLC. As far as I know, almost all lenders will not let you borrow in the name of the LLC. Instead, they want someone personally liable. This may require you to buy the property entirely in cash, or you can try to deed the property to the LLC after purchasing in your own name. Which, again, leads right to my next point.

Due-on-Sale Clauses

It’s quite possible that if you try to convert ownership over to an LLC, your lender will view that as a complete change of ownership and ask for full repayment of the loan. I’ve talked to many investors who say they’ve done this conversion with no issues, but there’s no guarantee that the bank won’t ask for full repayment of the loan. At that point, you’re left to either pay it off in cash, refinance (which might be difficult–see my above point), or sell the property.

Rich Uncles Student HousingInsurance

There is another option altogether, which is to protect yourself with liability and umbrella insurance. Sure, tenants can sue you personally, but if you have enough insurance to cover, then you’ll likely be just fine. However, as always, there are some advantages and disadvantages.

Advantages of Increasing Insurance

It’s Simpler

We all have to get insurance for the property anyway. While you’re at it, you just have to make sure the policy covers the proper limits, add umbrella insurance, and you’re done.

Cost

Umbrella insurance is typically pretty cheap for the type of coverage you get. It’s a small fraction of what the primary insurance premium is. The concept of umbrella insurance is an add-on to cover you above and beyond your typical insurance.

Disadvantages of Increasing Insurance

Potential loss

If you’re sued with a property-structured LLC, the worst case scenario is you declare bankruptcy on the LLC and you lose the property. With only insurance as your protection, if the lawsuit exceeds your policy coverage, then you may have to pony up the money yourself and lose personal assets beyond just that single property.

Exclusions

Insurance policies often have exclusions which you have to account for. You really need to know what they will cover and what they won’t. Are you willing to take that risk?

Roofstock turnkey rental property

What About My Properties?

It all comes down to a matter of risk tolerance. After all, isn’t that really what insurance is? You’re paying to mitigate risk and to sleep easier at night. When it comes to my rental properties, I pretty much have all of them under an LLC, and the ones that aren’t yet are in that process.

Through the LLC, my lawyers and I have created a structure that seems to offer me good protection. Of course, nothing is ever ironclad, but it helps to have some structure. In case you’re curious, here’s a very simplified representation of what I have set up.

In this simplified diagram, you can see that the holding company holds owner interest in each of the separate LLCs. The one big tip I will give you is that if you are planning to buy properties with an LLC, it is much easier if you have that entity created prior to taking ownership of the property. If you’re using buying an apartment using a commercial loan or an investment property in cash, you will be able to directly buy it in the name of the LLC, otherwise you have to convert it later.

I’m going through that process right now with some properties and it’s time-consuming and expensive to hire the lawyers to change over the deeds. I’ve had to pay extra for title insurance companies to continue with my policy. So, try to have the entities created beforehand if possible.

In my own case, the anonymity of the LLC under a holding company has definitely made me rest easier. In the area of asset protection, one term that you’ll hear is “piercing the veil.” This means that when sued, the lawyers will do their best to keep tracing back the lineage of origin or ownership to see exactly who can be brought into the suit. If they can “pierce the veil” they can hold the owners of shareholder personally liable. So in my case, they may get to my holding company if they are able to get past the LLC, but that’s pretty much as far as they can go–the owner of my Wyoming holding company is not public.

How much did all that cost? I actually knew I would be forming a good number of companies and ended up doing an unlimited LLC formation plan. This cost me $6,000-$7,000. I invite you to tell me if that seems ridiculous or if it’s a good deal. But after forming 8 entities with more coming, I think I made the right decision (so far).

Beyond the LLCs, however, I also maintain a decent umbrella insurance policy. I believe that the best idea is to have both the protection of the LLCs and the coverage that insurance provides. Based on my assets, I currently have $3 million in umbrella insurance, but I’m continuing to evaluate that as I go.

By going with both approaches (LLCs and good insurance), I feel as well-covered as I can be. Yes, there will be lawyers who tell you it’s not enough. I spoke to one lawyer who pitched me a plan that would’ve cost me close to $30,000 to make my asset protection “totally ironclad.” Perhaps it would have been, but I wasn’t willing to pay that much and I felt that my current level was enough to put my mind at ease. Don’t be afraid to get a second opinion and learn from each expert’s advice. I’m still learning as I go, but for the moment, I can rest easy at night.

How about you? Do you hold your properties in an LLC? Or is insurance enough? I’d love to hear, share information, and learn.


INCFILE

50 COMMENTS

  1. Nice article! Lots of these issues on my mind too.

    Getting back to one of your earlier points, are you having trouble financing these real estate deals with your LLC structure?

  2. I learn from your posts on real estate. One of the things I learn though is that it is complex and that reading your posts doesn’t make me want to buy a rental. But yet I read on…..

  3. Question: I structured my rental properties (4 so far) into a similar model. It’s called a series LLC. Each property is on its own LLC and they are under a common LLC. My question is, do you have umbrella for the holding company or 1 policy for each LLC?

  4. We always keep our properties in LLC’s.

    We were lucky to find a firm to do this for us about 9 years ago right out of residency.

    The biggest thing is working with a reputable asset protection firm that is going to:

    1) Explain that ramifications for what you are doing and make it easy to understand
    2) Show you the balance between anonymity, taxation, and liability protection
    3) Not charge you exorbitant fees to set up
    4) Have a maintenance program so that as you add assets, they can help you to properly title them and update you on tax law changes.

    What people don’t realize is that attorney’s do not usually specialize the way we as physician’s do.

    So not everyone that says they can create your trusts, holding companies, and LLCs understands the different jurisdictions that can be used to off-set some of the negatives that were discussed in the article.

      • “How much did all that cost? I actually knew I would be forming a good number of companies and ended up doing an unlimited LLC formation plan. This cost me $6,000-$7,000. I invite you to tell me if that seems ridiculous or if it’s a good deal. But after forming 8 entities with more coming, I think I made the right decision (so far)”

        I need to do something similar and this is a much lower quote than I was given. If you could reveal the attorney that helped you do this and if you can tell me at 6-7 k are they able to work through the year as one or two different llcs have to be made and transfers have to occur later on? or was that a one time one structure (8 enteties) fee?

  5. I ran into the same issues when I was buying rental properties right out of college with two of my trusted buddies.

    We setup a similar legal structure and also added a Management company that the three of us worked for. The tenants only knew of the Management Co. Didn’t hold any assets, simply an administrative pass-through entity on behalf of the LLC’s to the Hold Co.

  6. I just inherited a tree farm and have to cut down trees or pay $20 k in back taxes. I have a forester devising 10 year plan. I plan to buy a tractor and build pole barn but otherwise contract out the planting of trees and harvesting of trees. (As I know nothing about the business-yet) Nearing retirement age. Should we form an LLC to protect from injury of those planting trees and harvesting trees? Plan to mostly break even with costs. What is an S Corporation.? Stay as unincorporated but have a large umbrella policy? It will be a small family owned business. Trying to figure out options.Thanks

  7. For those of us new to this, any advice on finding a good attorney in this arena? Do they have to licensed to practice law in the state the rentals are in? I imagine it’s not as simple as Googling

  8. I just have one accidental condo rental property and am not sure if its worth it to go thru the expense ect of converting it to an llc? I guess ive been kinda ignorant to the possibility of lawsuits from my tenant. What are some of the first hand examples or reasons tenants sue their landlords?

    • Hi Jason, it may not be worth your while to set up an LLC, and it may make more sense financially to make sure you have a great insurance. Umbrella insurance is relatively cheap and will probably provide adequate coverage to help you sleep at night. But again, I’m not an expert in this field.

  9. So I am in the process of buying several single family units for a company who handles adults with disabilities, run through the state.. I have an LLC for the one but should I get a holding company for further LLC’s?

    • Caveat: I am neither an accountant nor an attorney.

      You seem to be mixing asset protection with entity structuring, and while they go hand in hand, there are some nuanced differences.

      You can have a holding LLC that holds multiple assets (not ideal, but better than in your own name). Or you can have a holding company that your trust owns that in turn then owns multiple LLC’s that house each of your assets (probably most ideal but can get expensive and cumbersome possibly).

      If you are in a jurisdiction that recognizes them, you could use a series LLC where your risk asset holding company owned by your trust owns an asset holding company that is then series’d with each individual home (this is our preferred structure). For us it gives a good balance of structure, anonymity, flexibility, and ease of use with minimal expense and upkeep.

  10. I would like to know what insurance carrier will cover multiple llc entities under the one umbrella. I have a client that has a partner and they own quite a few condos. One of the partners uses the same LLC for all his properties but the other partner starts a new LLC for each of the condos. That partner wants to get a $10,000,000 umbrella but the insurance carriers won’t give him one because of all the different entity names. Any suggestions? An individual umbrella won’t cover these because of the two entity names (each partner) has on each policy plus there are over 30 of these.

    • If they are in a state that recognizes series LLCs they could just have the “mother” LLC get the policy.

      Then the LLCs in the series should be covered, they may want to get the blessing of a coverage counsel (attorney who reviews insurance coverages) to be sure.

  11. There are a lot of ways that your tenants, their guests, or even trespassers might sustain injury on your property for which you could be liable. The sort of nightmare scenarios include dieing in a fire, gas leak, falling from the balcony, etc. that could result in millions of dollars of damages. Even I you (more specifically your property) are ultimately not found to be at fault, the legal costs of defending against such claims could be significant. Get yourself some liability insurance; it’s cheap and could save you from bankruptcy.

  12. Hi I love your article. I am currently purchasing several properties in a state separate from where I reside. i have a couple of questions:

    1) Do I set up a separate LLC for each property I purchase or do i set up one LLC for all the properites? All the properties are in one state.
    2) Do I need to register my LLC as a foreign LLC in the state I reside for the LLC where my properties are located?

    Thanks for your help.

  13. Hey Victor,

    This is a personal decision that you should make with your asset protection firm. Some states allow you to create series LLCs others don’t.

    As for foreign registration that is DEFINITELY a question for your asset protection firm.

  14. Question for the editor:
    Is the holding company in this structure an LLC too ? I like to do something similar but am debating if I should keep separate LLC’s for each property or keep them under one? Thanks and great article

    • The holding company is an LLC, based in Wyoming. Whether to put them in separate LLC’s is very personal, based on the properties and your risk tolerance. I have LLCs that hold only one property and others that hold more than one.

  15. Good article. We’ve 3 rental properties so far (about to pay off the last one). We carry all 3 under an LLC. You can add one more degree of separation by making your family trust the managing member of the LLC… and then you are the beneficiary of the trust. It’s an additional way to distance yourself from civil liability. We similarly carry $3M umbrella policy specifically for the LLC.

    • Hi Frederick, so you have 3 properties in 1 LLC and an umbrella insurance policy… Is that correct? I am thinking of doing the same with my 6 single family properties. After what I’ve read, seems that good general insurance for each property plus umbrella should cover most issues that may arise. Then I’ll have them all in 1 LLC in case disaster strikes and someone sues for more than the insurance covers. All 6 properties would be at risk, but they couldn’t get to my personal assets(in theory) and only 1 LLC will save costs. Did you have any Due On Sale issues when transferring the properties into the LLC?

      Eric, do you think that plan is wise? Good general insurance, umbrella, and 1 LLC for all 6 of my properties?

  16. Thank you for sharing the article. Very helpful. So I have recently set up a series LLC to hold my rental properties. Now I am not sure if I should notify the original insurance companies for those properties about the formation of the LLC. I am afraid that the insurance company will either do not insure the properties any more, or somehow notify the banks which gave me personally for the mortgages initially. Thoughts?

  17. Hi Peter,
    Thank you for sharing this insightful info. I am new to your blog and find it to be very helpful. Regarding your comment about having both an LLC and umbrella policy, I spoke to GEICO this morning and the agent stated that their Umbrella policy will NOT cover rental properties that are held under an LLC, only if it’s held in your name. She sounded very confident about it. Have you ever heard of this?

    Thank you.

      • I am encountering a similar problem. In the past I had dwelling policies on the units and a personal umbrella over them all. As part of estate planning, my lawyer suggested the we put each in an LLC last month, and we did. I added the LLC and the Trust that holds them as additional insureds on the dwelling policies (which are “personal” insurance policies). My lawyer suggested an umbrella policy covering the LLCs for any risks I might not be insured for. But the insurance companies I have talked to (in Illinois) want corporate policies for each LLC, and I would cancel the existing dwelling policies. Some said they “might” be able to write a single corporate umbrella over the 4 LLC policies if I set up the 4 separate corporate policies. The corporate policies seem expensive in comparison to what I have–and cover potential losses that don’t seem important to me (loss of business records, for example). I can’t seem to find an agent that can tell me what it is that I need. Can you help?

  18. I have 2 rentals and a disgruntled Tenant who acts as if he’s looking for a lawsuit. I’ve been a Landlord over 30 years with an umbrella policy that I thought was enough to cover me. Now, I am anxious to create the LLC protection for the rentals and our personal property. I think that $6,000 – $7,000 is worth the investment when I hear some lawsuits are into several million dollars against Landlords. Would you please provide me the name of the attorneys that you used, confidentially of course? Thanks!

  19. I have a question that I have been trying to get an answer to. Perhaps you or someone on this board may know. I own an office building in Massachusetts, which is owned by me personally and my legal residents is in Florida. My business which is a Massachusetts LLC operates from my office building which generates an income. That income is pasted down to me as a single member LLC and since the income was derived from Massachusetts, I have to pay a non residents Mass. income tax. The business also pays me rent, creating rental income, which also becomes taxable as a non resident, again I believe because it was derived from Massachusetts. My question is, if I form a Florida LLC and put my office building into that LLC, would I have to still pay Massachusetts income tax on that rental income? Considering the income is coming to me now from a Florida LLC and Florida does not have a state income tax.

  20. Good article.

    I have several properties and have gone back and forth when it comes to holding them in a LLC or in our names. The annual fee of $800 California charges (don’t get me started) for holding an LLC is ridiculous. In your current structure are you paying $3200 ( assuming the holding company is a LLC) every year to the Franchise Tax Board?

  21. The best think is to put property in trust and held the trust by LLC. If you have Umbrella insurance you are very easy to find and all of your properties will be found as they are linked by umbrella.

  22. I live in NYC. My family owns a house in California that is paid off. We have renters who pay my mother. The deed is under my name.
    I am thinking of starting an LLC and transfer deed over for my protection.

    Does anyone know what my tax situation will be for out of state taxes, property taxes, and whether the rent would be consider my income even though it goes to my mother?

  23. We accidentally ended up having two rental properties. One in Indiana and one in North Carolina. We are also forming a business that will be a traveling service business. We have learned about forming LLC’s and having to register as a foreign LLC in different states but, not sure how to include the two single rental properties.

    Another question I haven’t been able to find an answer, do you have to be a resident in the state where you form your LLC? Or, is just owning property there enough? And can you file for an LLC in a state where your are a resident but do not own property?

    Please point me in the right direction.

    Thanks

  24. Im asumming your LLCs are set up in the states where the properties are located. Is this the way they have to be set up or can they be set up in the state where you reside?

  25. I’ve read on numerous sites about the pros and cons of forming an LLC for rental properties as well as the idea of a holding LCC in addition to individual property LCCs. I definitely appreciate and agree with the fact they can provide some asset protection but are very far from infallible. But I haven’t been able to find information on is if there is any benefit to having an LCC simply to act as a property management company, with the properties being held personally. I understand the idea deeding the property from personal to the LCC, but in this case one of my two properties would definitely not be able to do this as it is a duplex I currently live in on a VA loan. Additionally my other property, I’m not really willing to risk triggering the due on sales clause by transferring. Currently have insurance but wanted to explore if an LCC responsible for managing properties would provide any form of asset protection. (Of course I realize this is not formal legal advice)

    • Sean, That is a complicated question. Almost all states require that you are a real estate broker (not an agent) to have a property management company. Most states have an exclusion that if you are managing your own properties that you do not have to be a real estate broker. So that said, I would think that if you create your own property management LLC, you are not longer yourself managing the assets you own. Your property management company is and now a lawyer to is going after you for a liability issue can start with your property management company was not legal and thus pierce the property management LLC and go after you. I am looking into that to see if there is anyway around that, but probably need a lawyer to provide additional insight. As an agent myself, I maybe able to see if my broker will allow me to set that up under him, but I really do not want all the administrative overhead that will create and cost.

  26. I noticed you stated you setup a Holding Company in Wyoming. But you did not say what state you have your rentals in. As I am pretty sure all states require that if you have a property located in their state which is generating rent, you have to register as a foreign entity doing business in that state. When you register as the foreign entity doing business in that state, you generally have to supply the following: Registered Agent (can hire one to keep your anonymity), and the names of officers of the business that can act as a manager. This is an extra requirement over just setting up an LLC in the state where you could simply put a company name and not the officers. That is usually where you have to either A) you have to list yourself if you are the sole owner or B) list someone you totally trust that can at any time screw you over and sign the assets of that foreign company (all of your sub-LLCs) over to themselves or anyone else. If you do not register as a foreign business in the state properly, then you can be subject to a $1,000 fine per year you were not registered, per LLC that you improperly setup. So if you have 10 properties, and you are caught 5 years later….that can be $50K. So I would be curious as to how you may have got around that. As a couple of lawyers who supposedly specialized in this suggested not registering as a foreign business as a calculated risk. Owning 35+ properties, that is not an option for me as if I got caught, it would be $35K a year in fines.

  27. I have my LLC structure similar to yours, where I have several LLC’s in various states, and a California based Holding Company that they are under. This is how my legal people told me to set it up. But I do no business in California, the holding co is CA based only because that is where my residence is. You have a Wyoming holding co, is that because that is your state of residence?
    The reason I ask is, other states are reasonable with their LLC fees and taxes, but California is not! $800 is exorbitant, and their penalties for late payment are ridiculous.

  28. do you mind sharing your legal team involved
    CPA , real estate lawyer , mortgage company , insurance company etc…
    thanks

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