Proper Use of LLCs for Real Estate

Below is the transcription if you prefer to read

Clint Coons: Hi, Clint Coons here with Anderson Business Advisors and Law Group. And I want to talk to you today about how to protect your rental real estate. What is the number one tool that we use as real estate investors to ensure that if something happens, our real estate is not going to be put at risk? Because, let’s face it, there are far too many attorneys out there looking to take a piece out of what you make and the easiest way to do that is find people that have assets in their own name.

There’s a story I like to tell about one of my clients, this individual had a night club and what occurred, is that two patrons left the nightclub. And as they were walking through the parking lot, the valet company that parked cars for that night club had given the car to one of the other patrons, jumped in his car, stepped on the accelerator rather than the brake and he pinned these two patrons up against the night club. One of them lost two legs and the other one lost one leg. I know it’s a tragic story but what we learn from this story is how lawsuits proceed. Because the plaintiffs, the two individuals who were injured, they sued the night club owner, they sued the valet company. Both of those individuals were able to settle for their insurance. How about the property owner? If you ask this question of most people today they would say, “Oh, well the property owner is liable.” But you ask that same question 25 years ago people would say, “The property owner had nothing to do with the accident.” Really the only person who is liable is the driver of the car. But nobody wants him because he has no assets, he’s in jail. But the property owner had his building in his own name. And in fact, the property owner had $20 million in real estate in his own name. So when it came time to settle, they looked at the property owner and they said, “No, we’re not going to settle for your insurance policy, we’re going after you because you’re a deep pocket defendant.” And so that’s what occurred. And the property owner ended up settling for a lot of money to make this case go away. Now, you contrast that to the nightclub owner who is my client. The night club owner had all of his assets protected in various business entities. In fact the way we had created that structure, you wouldn’t even know that he owned the business entities. And I’m going to share with you how you can do that with your own structuring by setting up LLCs and choosing an anonymity compliant jurisdiction.

Let’s start talking about this now. If you ever enter real estate, the number one entity you want to use is a Limited Liability Company. You don’t want to use corporations, because corporations create adverse tax consequences to you. I have real estate all throughout this country and some things that I do on a periodic basis is shift assets around. Now if I had that real estate inside of a corporation and I wanted to pull the real estate out, that would be a taxable event. That’s why I stick with LLCs to own my real estate, to ensure that I can move assets in and out of those LLCs and not incur a taxable event. The other reason why we like Limited Liability Companies is because they offer two forms of protection. They offer both inside protection and outside protection. Let me show you what I mean by that.

With inside protection, what we’re concerned about if this is your LLC, is that if you have a property here and you’re down here and you own the Limited Liability Company and of course you will control it. If something happens on the inside here, we don’t want this coming out and hitting us individually. That’s the first form of protection that a Limited Liability Company provides. In fact, that’s true with corporations as well, but where corporations fall off and LLCs continue on, is with outside protection. Which is equally important and probably just as likely to result in a lawsuit as the inside protection.

Outside protection is where you are the source of the lawsuit, you’ve done something, your family has done something that brings liability to you. Depending on the state in which you live in, liability can be quite high for you. The example I just shared with you ­­ that story, those individuals lived in California. And California is a joint and several liability state. That means that that property owner ­­ he could’ve decided to fight that case but the reason he didn’t, is because in California, if the jury finds you’re 1% negligent, then you’re 100% liable for all of the damages. Just think how that could apply to you. If you’re involved in a small car accident or maybe it’s not you at all, maybe you’re hit from behind and you’re propelled into another car, all they have to show is that you’re 1% negligent and you’re liable for all their damages. If all of your assets are in your own name, you’re a deep pocket defendant. So we want to get those assets out of our name. Our cash, our real estate, and put them into entities that provide us outside protection as well as inside protection. And that’s what a limited liability company does.

If we sue you or somebody sues you, and they get a judgment against you – let’s say the judgment’s entered against you for 300,000 dollars and you have no assets in your name, then the question is, “What do you own?” Well if you show that you own this interest in this limited liability company, the question then becomes, “Can they take it from you?”

States are not uniform in this approach to asset protection. Some states, like California and others, allow the creditor to take that interest from you. So you would lose your LLC and so goes your LLC and so goes all your investments. Other states like Nevada, Wyoming, Texas; they do not allow a creditor to take your LLC interest because they limit the creditor to a charging order. And charging orders simply means this ­­ that if you have cash from your rents that have been building up inside of that LLC and you decide to take a distribution – remember you decide because you’re in control of this entity. If you decide to take a distribution, then that distribution has to go over here to pay off your creditor because he has a judgment against you. That’s how charging order works. It basically attaches as the lien to your interests. So when you take money out you have to pay it to your creditor until your debt is paid off. We know we’re not going to take money out and so do plaintiffs’ attorneys. They know that when you set up entities in the proper jurisdiction and you have this type of control, you’re not taking the money out of your LLC. So these LLCs will never pay off and that is why when you use LLCs in their proper state, these types of people do not get sued. Let me rephrase that, they get sued but they don’t get collected on. They always settle out because the plaintiffs’ attorneys know there’s nothing for them at the end of the day.

Similar to my story that I just shared with you with my client — the attorney on the other side realized that all he had at his disposal was the insurance, that everything else was protected, removed beyond his reach. And he was looking for a quick payday. And so he took the insurance rather than try to fight and not win anything at the end of the day.

Asset protection with an LLC, two forms — we have inside, which is uniform in all 50 states and we have outside. And you want to make sure that your LLC offers you outside protection. Why only have one, when you can have two? And that’s how you know when you’re setting up a good Limited Liability Company, it’s a cornerstone to a great asset protection structure for rental real estate –one that provides both. And I’m going to show you how you can figure that out here in just a second.

When you’re thinking about forming a Limited Liability Company the question always comes up, where do you set up your limited liability company? What state do you use? Now I threw out there Wyoming and Nevada. Let’s assume that I own property in Oregon. Would it make sense for me to set up an LLC in Nevada to own my Oregon property? You’d be surprised how many people actually make this mistake. They own property right here in Oregon and they think ­­ after they’ve heard about the benefits of Nevada and Wyoming – let’s go over here, create this Nevada LLC and then have it own our Oregon property. Then we get all of the protections of Nevada. The problem is, if you set it up in this structure – let’s assume you have a tenant that quits paying rent, what do you do? Most people would say, “Simple Clint, you file an unlawful detainer action against them and you evict them.” But the problem is that if you set it up in this manner, you can’t evict that tenant because your LLC is not registered to do business in Oregon. So you’re basically an outlaw. So the dilemma becomes, how do you effectively manage your property, if you’re not registered to do business there? You don’t. So then you end up taking this Nevada LLC and registering it in Oregon to conduct business in order to own your rental real estate.

That brings up another issue, some of those benefits that Nevada provides you, namely this – if you set up a Nevada or Wyoming entity, you could have anonymity with your entity. That is, we could set it up so that your name doesn’t appear on it so nobody knows that you own this entity. This is a cornerstone to an anonymity compliant asset protection structure. Making sure that if someone performs an asset search on you, they don’t know that you have assets because nothing traces back to you. My partner, Toby Mathis, he and I started Anderson together; he’s on over 17,000 entities in Nevada and Wyoming. That is, he serves as a nominee officer, director or manager of these various entities. So if somebody’s looking up the entity name they see A.T. Mathis, they don’t see our clients. Now you may be wondering, is Toby in control? Does he have any type of say over the business entities? Not at all. He resigns before we turn over the business entity. So he’s off, our clients are in control, but nobody knows.

The first benefit then is anonymity. Second benefit is charging orders. Now this is something that a lot of people are looking for when they create a Nevada or Wyoming Limited Liability Company because they have some of the best charging order protections in the entire United States. The problem is, both of these protections fall off as soon as that entity gets recognized in Oregon. That is, once you’ve registered to do business there, you lose those two protections. Most of the companies that set up Nevada or Wyoming entities do not tell real estate investors this because they want to make money off you – and really, that’s what we’re doing here. When we create a structure we use the Nevada LLC to register it in Oregon or any other state for that matter. You end up paying double the filing fees. You end up compensating the person or the company that resides in Nevada to provide you with a business address, to provide you with resident agent, to provide you with anonymity. So, you’re paying this person for a service, for a benefit that you’ve lost as soon as you have filed it in Oregon. Don’t make that mistake.

When it comes to setting up Limited Liability Companies for rental real estate, we have an initial question we have to ask ourselves; and that question is: where is the property located? So I want to know where the property is located. I’m going to stick with Oregon here, since we’ve already started talking about it. Let’s assume that my property is located in Oregon. Ordinarily, what we might look at is, “Let’s create a Oregon Limited Liability Company.” But, we just can’t set one up right away until we know whether or not Oregon offers two forms of protection. That is, does it offer inside protection and does it offer outside protection? We looked into it, we find out Oregon does not provide outside protection. Now we have a problem. If we created that LLC for this Oregon rental that we own, we know that if something happens with the tenant, we’re protected but what happens if we get sued? And it doesn’t matter what state you live in. let’s assume that you live in Texas but if you have an Oregon LLC, and it doesn’t provide charging order protections, then that would be exposed to your personal creditors in Texas.

If you want those outside protections, then what we’re looking at is, “Where do we file?” We will file in Oregon. I’ll probably create an Oregon Limited Liability Company but I also want asset protection. I know that I don’t want to own this Oregon LLC personally, because if I’m sued, they can take it from me. So I want a buffer entity. I’m going to choose a jurisdiction that provides charging order protections. I threw out that I live in Texas. Texas provides charging orders. If I created a Texas LLC right here and I had it own my Oregon LLC and then I own the Texas LLC, now I’ve achieved my goal. That is, if somebody sues me individually, I own a Texas LLC that offers charging order protections. Therefore, I don’t own this Oregon LLC, so there’s no relation between me and the Oregon Limited Liability Company. If they’d ask me at the deposition, “Clint, what do you own?” “I own a Texas Limited Liability Company. I don’t own Oregon. Oregon’s owned by the Texas LLC.” It protects those LLCs from their faulty charging order statutes. This is how we obtain two forms of protection. We have to set up an LLC in a charging order protected state like Texas.

I did that because I lived in Texas and I wanted to further this example by considering, what happens if you want anonymity? Texas does not provide anonymity. If we’re looking for anonymity, we can’t use a nominee like AT Mathis in Texas to serve as our initial manager of our Limited Liability Company because as soon as he is replaced by you, that information has to be submitted to Texas Secretary of State and your name pops right up there. The question becomes, do we set this up in Texas or do we set it up in another state?  I’ve worked with thousands of clients, and those clients that desire an anonymity compliant structure – that is one where you cannot trace back any of their assets back to them – we start with either Nevada or Wyoming. Rather than go with Texas here, we end up setting up this entity –let’s say we’re going to go Wyoming. By creating this in Wyoming – this has to be the first entity you create before you even start here, because once your information is out here, game’s over. We can’t do anything. We can’t reverse it. Once the horses left the barn, there’s no bringing them back in.

If we start with Wyoming and we use AT Mathis on there so you have anonymity, then I will go into Oregon and set up my Oregon LLC. And when I do my filing – there’s a very important step here, when you’re filing this entity then you want to make sure that the Wyoming LLC is the member of the Oregon LLC – which brings me to my next point.

When you’re setting up an LLC there are actually two forms of Limited Liability Companies you can create. You can create what is termed a ‘member-managed’ – and most attorneys set up ‘member-managed’ LLCs just because they look at the individual that’s walking in they say, “Are you going to be the individual owner or you and your spouse? Let’s make it simple, we’ll just make all the members as managers.” I disagree in a lot of situations. Or you set up a manager-managed LLC. In a manager-managed LLC, ownership is different from management. You can have a bunch of owners but you’ll only have one or two managers. So the managers control everything. The owners don’t really control anything. There’s two different distinct entities we create here.

When I set up my Wyoming LLC, I set it up as a manager-managed LLC. That’s how I got the anonymity. Mr. Mathis is filed as the initial manager, he resigns and then I am appointed the new undisclosed manager of this LLC. But when I go to Oregon, I’m going to reverse. In Oregon, I’m going to set up a member-managed LLC. You want me to explain why? This is very important here that you write this down. When you form an LLC, you either have –as I stated, member or manager-managed. If you file a manager-managed Limited Liability Company, then you have to list the manager with the state. Yes, the manager’s information is listed there.  If you list yourself as the manager of this LLC, your name is going to be disclosed all over the state’s database. If you set up a member-managed LLC, then you have to list the members. You probably catch where I’m going with this.

If I file this as a member-managed LLC and I have my Wyoming LLC as its member, what happens? When you file this LLC, they’re going to ask you, “Who’s the member in that LLC?” You’re going to say, “It’s my Wyoming Limited Liability Company.” This entity will point to this entity and this entity will then in turn point to this guy over here which is AT Mathis. So it will all point to him. You, no one’s going to know about because it has kept your information private through this anonymity compliance structure that we’re creating.

When you go about creating your Limited Liability Companies, you really have to understand member-managed versus manager-managed, the inside versus the outside protection that your state provides to ensure that you’re getting the best overall protection that you can afford for your particular assets.

After we’ve set up these entities, the next thing you have to decide is how are you going to have them taxed because that’s equally important. Just the other day I’ve dealt with an email from someone who did not understand the difference between taxation and state law. He believed that if you set up an entity and you treat it as a partnership, then it’s a partnership for state law purposes. Or if it’s disregarded, it’s a single member LLC for state law purposes. He’s getting confused. And you may have gotten confused there as well when I started talking about taxation because you haven’t been exposed to this topic before.

Let me explain how LLCs work. When you set up a Limited Liability Company, you can choose how you want to have it taxed. That’s a unique aspect of an LLC. The federal government states that once you’ve set it up, you can elect to have it taxed as a C-corporation, you can have it taxed as an S-corporation. You can have it taxed as a partnership if there are at two members in your LLC or you can have it treated as a disregarded entity.

A disregarded entity is an entity that does not have to file a tax return. Everything reports down to the individual member’s personal tax return. If I set up an LLC like this and it’s a disregarded LLC and this person owns it, then any income here will show up on this person’s 1040. How about if it’s a married couple? Same thing, you’re going to have two members and still treat it as a disregarded entity provided they’re a married couple. Everything here will flow up on their 1040. This entity, this LLC will not have to file a tax return if it’s a disregarded entity.

If it’s a partnership – if it’s set up as a partnership, then you’re going to have to worry about that. When you set up your entity as a partnership because we have two partners here, then this entity is going to file a 1065 tax return. How you elect to treat that entity for federal tax purposes will depend on where the income shows up at the end of the year. 1065 is going to give a K1 that’s going to flow down on the individual’s tax return. They’ll report that income on their return, on their 1040 but you have to file two returns in this example.

Going back to that disregarded structure again. I showed you two individuals there owning it. How about if we did this? How about if I created an entity down here – and maybe this is that Wyoming LLC we’re talking about and I make this one 100% owned by the Wyoming LLC and we treat this as a disregarded entity.  In this case what the government will look for is that any income here, since this doesn’t file a federal tax return, will show up here. What happens if this is also disregarded, which you can’t do and you have this person down here and this person down here owning it, pretty straightforward. Any income that’s made here will pass through this won’t show up there but it’ll show up here on your 1040.

This can be kind of complicated, what’s really important here when you’re setting up these types of structures and I see this all the time – people make these mistakes day in and day out when they create Limited Liability Companies. They choose a tax status that does not match their LLC’s Operating Agreement.

A lot of these protections that we discussed – anonymity in charging order protections those come not only from State law but they also come from your Operating Agreement. I reviewed an Operating Agreement for an individual not too long ago that came into my office that is using our Platinum Service. And if you’re not familiar with the Platinum Service you should go to our website and check that out – that’s where you can get legal support for your business structures for a very low fee of $35 a month, unlimited support $35 a month. If you’re a real estate investor I encourage you to look into this program.

She signed up to the program and she brought in two Limited Liability Companies another group had established for her and they were seven pages long. She says, “What do you think?” I looked at them, I said, “These aren’t even juvenile Operating Agreements they’re infantile in their creation.” Literally, I couldn’t be any more blunt than that. They were not set up as LLCs. Although they’re purported to be Limited Liability Companies, they offered her zero protection. If she stuck with those Limited Liability Companies and she was involved in a lawsuit, all bets are off. She might as well own the properties in her own name. This is a very important aspect of creating these types of structures, making sure that your Operating Agreement provides you all the necessary protections.

Back to this example, so we have this LLC passed through to here. If they’re both disregarded then everything shows up on your 1040. When you set up the LLCs you have to choose how you want to have them taxed. And it really comes down to, what is your motivation? Depends on the state in which you live in, what you want to disclose to your state. For example, if you live in California I have a lot of individuals who have a Wyoming LLC or Nevada LLC or LLCs in Oregon, Texas, Arizona, Florida wherever they’re doing their investing and they choose to have them all disregarded. Nothing shows up from a tax return standpoint on their Individual State Return. Because they know that if this entity here was set up as a partnership and produced a K-1 California then is going to ask that they file $800 a year on this particular entity. That’s the way California works. If you’ve got an LLC setup, even if it’s doing business out of State they assert that it’s doing business in California and you have to pay $800 a year to have it.

Knowing this, you have to be careful on how you choose to treat these entities from a federal tax standpoint. Now most of the time what I will recommend a client does when they’re structuring themselves like this with their LLCs, is I’ll treat this holding LLC as a partnership. Now the reason I want to have this entity here set up as a partnership is because the IRS came out in 2013 and they were very blunt. They said this we are going to audit real estate investors. We think real estate investors have been under reporting their income, over reporting their deductions and we believe that we can balance our budget off the backs of real estate investors. Well maybe they didn’t go that far but they’ve really stepped up the amount of audits on real estate investors. I read about them every week, another real estate investor falls to the IRS when they’re audited. There’s a lot of reasons behind this but the point is how does the IRS know who to pick off, where are they getting this information? It’s your individual tax return.

When you have a bunch of rental real estate and say it’s in your own name or it’s in disregarded entities, all those properties show up in your 1040 schedule E. Think of it this way, you submit your 1040—your personal tax return come April 15th and you have all of these properties listed on your return. Do you think that’s going to get flagged for an audit? Absolutely. Given what the IRS said and what they’ve done, you’re going to be audited or there is a strong likelihood that you will.

One of the goals in asset protection plan is to keep my clients from getting audited. Even if they would walk through it unscathed, it’s no fun to be audited. I’ve been through them before. And I can tell you, the scariest part about an audit is the person auditing you doesn’t understand what it is you do, doesn’t understand real estate, doesn’t understand appreciation deductions and how they work and how you can make an aggregation election and write everything off –that blows right past them. And so they come up with this decision, then you have to appeal the decision and so at the end of the day you spent a lot of money to prove that you’re right. I don’t want to see you in that situation. That’s why I’m going to create a partnership here.

If I create this holding company that is anonymity compliant and offers charging order protections and we make that a partnership then what occurs is that all of the income from all of these other companies that hold your rental real estate that are flowing into here, this will all show up on a 1065 Tax Return that will be filed for that company. This 1065 will give you what we call a K-1. It will give you your share of the earnings generated from that entity. That K-1 is attached to your return, it wipes out your schedule E, doesn’t show up there, takes you out of the audit risk pool. That’s why I use partnerships many time for my holding companies to ensure that my real estate investor clients are at the lowest risk of being audited. A lot of audits are started by how you prepare your tax returns. Make sure you’re preparing them the right way so you’re not giving up too much information, this is my preferred structure.

We’ve covered where to set up your Limited Liability Company, the different aspects of it, what’s important in deciding where to create your structure. We’ve talked about how it will be taxed. We’ve also discussed the difference between member managed and manager managed LLCs and why you want to choose one over the other. Now I want to get in to properties. Because the biggest thing that always comes up is, how many LLCs do I need for my rental real estate? A lot of this comes down to reasonableness. I’ve dealt with people before that have a lot of real estate. They’ll come to me and show me they have 25 properties and they’ll say, “Clint, I want 25 Limited Liability Companies.” I’m an attorney, I charge to set up LLCs. I’m not going to push that business away. But I’m first going to ask them why. Why do we need to go to that extent? How many properties – what is the equity in your property? You really feel you need 25 entities? Sometimes they look me in the eye and say, “I don’t want to lose more than I have to in the event of a lawsuit. Structure, move the 25.” Okay, I’ll do it.

Now other people, when we have that conversation I talked to them about the reasonableness of their structuring. And I explain to them that when I’m looking at properties, what I’m really focusing on is the equity in the property. I’m looking at the type of property it is. Is it in a neighborhood where you need a shotgun to collect your rents or is it in a higher income neighborhood where the tenant mows the lawn and keeps the property up for you? So you have to determine that as well, when you’re deciding how many properties I should put in to one potential Limited Liability Company. And I also look at how well the property cash flows. And the last thing I’d probably want to do is take some of my best performing assets and put them with some of the least performing assets even though I was doing it on an equity basis. And what I mean by that as follows.

Let’s assume that an individual investor had four properties and property number one had equity of $150,000. Remember, equity is the difference between what the property is worth and what you owe. It’s that middle number right in there. That’s how much you stand to lose in a lawsuit. Property number 2 has $50,000 in equity, property number 3 has $200,000 in equity and property number 4 would just give it 100K in equity. I also want to know is, how profitable these properties are. Let’s say property number 2 is — will give it a, give 4Xs highly profitable, property number 2 gets 2Xs, property number 4 gets 3Xs and property number 1 only gets 1X. So now we got an idea of where the most valuable asset is in this property mix here. It may not have a lot of equity in it but it produces a lot of cash flow. Remember that’s what you’re living on, that’s the money that’s coming in, that’s the money you’re using to invest in other properties.

This property is very important to you as a real estate investor. What we might do here is look at the equity in the properties, looking at the income and then make a determination as where we should group them. In this particular example, I would probably take two and four and put them into one Limited Liability Company. You could possibly even throw in three in there. If you threw in three then you’d have $350,000 in total risk exposure. Your structure would look something like this. You would have an LLC here with three properties and you’d have another LLC here with only one property. Most people would probably divide these up, put two properties in each. But it really comes down to your personal risk tolerance level. I cannot make that decision for you I can give you some ideas on how you’d want to structure these but it’s what you feel comfortable with. Are you the type of person that wants to have one LLC per property? Great you could do that.

In fact, in a later series I’ll talk about the Series Limited Liability Company which is an opportune entity if you live in the right State and you have properties in specific States to utilize, to ensure that you have the best form of protection for the least amount of cost. That’s something we’ll save for a later date. But when you’re deciding which properties you need to put into LLCs, how many you need to create? It becomes a matter of grouping the equities, because remember at the end of the day when you create a Limited Liability Company it has to have a bank account. If you have 25 LLCs, you need 25 bank accounts because it’s a running business. This is a step a lot of people miss to their own peril. They don’t understand the importance of the LLC having a bank account.

And when I say, they miss it to their own peril I’ve seen it done before. I’ve seen a lawsuit devastate an investor’s entire structure because this investor thought that they could get away without having bank accounts for each of their Limited Liability Companies. All they did was have a Management Corporation. They thought they’d run all the money through the Management Corporation. In fact their CPA told them they could structure it that way. Who would you get your advice from? A CPA or a knowledgeable real estate attorney who understands how these structures work?

In my next segment I will be covering how to flip properties. If you’re a flipper, if you’re going to go out there and buy and sell real estate, I’m going to explain to you how important it is to set up the appropriate entity and that your local attorney or your CPA is probably giving you the wrong advice. But that I’m going to save for another segment.

One other aspect of the LLCs before we finish up here is, how do you move the properties in? We’ve talked about how many properties you could possibly put in Limited Liability Companies but the next step is deeding them in. Now there is some differences of opinion when it comes to how you put properties into Limited Liability Companies. Let’s assume that in my example right there, we have two LLCs setup and we’ve got our properties down here and we’re going to put two per LLC. Do you just deed them in? Just like that. Some people would say, “Yes deed the properties in. And now you have protection because the properties are now taken out of your name.” I would tell you, be careful don’t just deed them right in. If you have debt on that property, understand that when you deed the property from your name into the Limited Liability Company you risk the bank accelerating your note. That is you violated the deed on sale clause in your mortgage and it gives the bank the right to call your notes due. Give ten residential mortgages, it’s going to be difficult to get another mortgage or to get those properties refinanced with a new mortgage if they call your note due because you transferred the properties into an LLC and they find out about it.

I have heard attorneys tell me that they’ve never ever heard of a situation where a real estate investor’s note was called due by a bank when they transfer their property into an LLC. That just goes to show you their experience in working with real estate investors. I’ve been working with real estate investors for 17 years and I’ve seen it happen to real estate investors. Granted there are those outliers out there where people are in situations where they forget to pay their mortgage, they’re not insuring their property, yes that’s going to get the attention of the bank. But how about the situation where the bank has a insurer who comes in to spot check the mortgages they’re writing and they pull some mortgages and they find out, “The borrower doesn’t own the property. The borrower has transferred the real estate into a Limited Liability Company. In fact, the borrower transferred 10 properties into a Limited Liability Company.” That’s a real story, it happened. They came after that borrower for transferrin his property and called those notes due.

Other situation, the bank goes to sell your mortgage. People aren’t just going to buy all the mortgages the bank has to offer. They’re going to inspect those mortgages, if yours the mortgage that gets inspected, they may find that you’re no longer the owner. You put it into an LLC. So now the bank comes knocking. I’ll give you one other reason why you should seriously consider before you transfer your property directly into an LLC and that has to do with the importance of this acceleration clause. Interest rates – they’re going up and they’re probably going to continue to rise. If you’ve got a great interest rate on that house, do you want to jeopardize it? If I am in your situation, I guarantee you, I don’t. I don’t want to put myself in a situation where I could potentially lose it. Because from the bank’s standpoint if interest rates rise 3%, 4%, 5%, 6% they have every incentive to go through their loans to find out if the owner or the borrower of the property is also the owner. If he’s not, why not force that person out of that 4.5% mortgage and get him into a 10% mortgage, more money to be made there.

Be careful. What I would suggest you do and what we’ve been doing for years here at Anderson is don’t transfer property directly into an LLC unless it is debt free. If the property is encumbered by debt then what I want to use is a land trust. This is the entity that is going to prevent a bank from accelerating your note and allow you to transfer your real estate out of your name and into an LLC without alerting your lender to the fact that there has been a transfer. In fact if you set it up properly you can actually obtain anonymity. People don’t even know that this property is owned by the LLC. There’s a lot that can be done with land trust to protect real estate, as I said I’ve been doing it for 17 years. And I’ve had clients that have been in situations and lawsuits before and dealing with banks. And they have not a clue as to what’s been going on with their real estate because nothing shows up on the public record other than the land trust. Nobody knows where they own it. This is a very important topic and most real estate investors miss it. You’re not because on one of the upcoming segments I’m going to delve deep into the benefits of land trust and show you how they can benefit you when it comes to real estate investing.

I hope you learned something today with respect to Limited Liability Companies and how you should set those entities up from an asset protection standpoint. We at Anderson worked really hard to ensure that our client’s assets are protected because what makes us unique – that is, different from local attorneys or these Internet gurus who sell business entities is that, not only are we a law firm and we’re also a tax firm –that is, we have both the tax and the legal in-house. We’re also real estate investors. I flip properties, I own commercial real estate and I own residential real estate. If I haven’t done the deal I’ve got clients that have done the deal and so we have a breadth of knowledge. There is a reason why we have over 50 employees in our company working with real estate investors just like you to ensure that their taxes are minimized but their asset protection is maximized. And at the same time it’s compliant for real estate investing.

These are things I’m going to be sharing with you in upcoming segments. My name is Clint Coons managing partner of Anderson Business Advisors and Law Group. Feel free to give us a call and we’ll give you a free structure. We’ll walk you through what you should be doing in your situation to ensure that your assets are protected. All the best, take care.

 

 

 

 

 

 

4 comments On Proper Use of LLCs for Real Estate

  • Hi Clint,

    First off thanks for providing us with this invaluable information!
    Secondly, in terms of deed transfers, is this also why investors have issues with trying to get financing when owning more than a certain amount of properties? I understand this post is mostly about asset protection, but I assume since some have a bank account per LLC, can’t those entities obtain financing and banks handling them independent of the other properties because they are in other LLCs?

    • Alonzo,

      That only works with non-recourse financing. In this situation you remain personally liable on the loan so the banks will look at it the same even though title is held in a LLC.

  • Clint: I followed your advice and set up individual LLCs for our six rental properties that are fully paid and located in Georgia (where we live). I also set up a single member Nevada holding company to hold all individual LLCs. My wife and I are sole members of the NV holding LLC and it is the sole member of each LLC.
    My question is regarding taxes; do we have to file tax returns for the LLCs? Or are they just listed in our Schedule E of the 1040 return? What about the NV holding LLC; do we need to file a return in NV and or a federal return? There are no profits to report for it.
    I will appreciate your help.

    • Oswald

      Nevada does not require a tax return. As far as the other entities, I can not answer your question because I do not know how they were set up for federal tax purposes nor do I know what tax provisions the operating agreements contain.

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