How Many LLCs do Real Estate Investors Need

RiskHow many LLCs or business entities should you create to protect your assets? This is a common question during an asset protection consultation, and my standard lawyerly answer is – “it depends”.  It depends on the following factors:

1. the individual’s personal risk tolerance level, i.e., how much can you stomach losing
2. nature of the asset, i.e., is it safe or dangerous
3. how important is the asset to your overall financial well-being
4. do you live in a state with joint and several liability

Item #1 and #2 – Risk tolerance and danger level
Item #1 and #2 are fairly obvious. If you have five properties each with 100k in equity and you were to put all five properties in one LLC then all 5 or, 500k in personal wealth, is at risk. Another way to state this rule is if one property is the cause for harm then all your properties can be used to satisfy any judgment. If you are not comfortable with this potential outcome, then segregating your properties into multiple LLCs would minimize your overall risk exposure. Similarly, you would never want to put savings or stocks in the same LLC as your real estate because these assets would be made available to your LLCs creditors.

Item #3 – How important is the asset to your overall financial well-being
If all you focus on is equity, then you may be unnecessarily risking your more valuable assets. Consider Nancy, who owns four properties each of which, has less than 35k in equity. Nancy is comfortable placing all four properties in one LLC figuring her total risk exposure is no more than 140k. However, two of Nancy’s properties are cash flowing cows and generate 14k a year after all expenses. Nancy would be wise to segregate these properties out into different LLCs based on the value of their income and less so on their equity.

Item #4 – Do you live in a state with joint and several liability
Most investors are unaware of this rule, but it is very dangerous to your overall financial well-being in a lawsuit. I am currently working with an individual who is in the midst of a heinous lawsuit. The facts are as follows: Roger owns a San Diego nightclub – Paradise LLC, that he operates out of a building he leases from Frank. Roger also uses a local Valet Company to handle his parking. One night a patron, after receiving his car from the valet service, runs into two club patrons permanently disabling both of them from the waist down. After the dust settles the plaintiff’s attorney settles with Paradise LLC and the Valet Company for their insurance policies but applies the full court press to Frank for 15 million in damages. Remember, Frank is just the property owner and had nothing to do with the operation of the club.

You might be thinking Frank should be able to beat the case because he didn’t do anything. In some states, you might be right but California follows the rule of joint and several liability. This rule makes each of multiple defendants liable for the entirety of the plaintiff’s loss, regardless of each defendants’ degree of fault. Thus, if the plaintiff’s attorney can convince a jury Frank is just 1% at fault, Frank will be liable for 100% of the damages.

If you own and lease property in one of these states, AL, AZ, CA, DE, HI, IL, KS, KY, ME, MD, MA, NC, RI, VA then you are in a state that follows the rule of joint and several liability. You should be particularly careful in how you segregate your assets because you face a greater risk exposure to potential lawsuits for situations you might not think you could ordinary be held liable.

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