Real estate investing is a business. While individual real estate investors may not feel like they are part of a business, they essentially are. Like in any other industry, real estate businesses can be classified under different structures.
Real estate businesses choose these structures to not only fit their business needs but for the benefits. A popular structure for a real estate business is the real estate limited liability company. The title alone is enough to get real estate investors on board, but we need to know all of the major advantages and disadvantages of a real estate limited liability company (LLC) in order to decide if it is right for our real estate business.
Related: Real Estate Investing 101: How to Start a Real Estate Business
What Is an LLC?
When real estate investors form a real estate limited liability company, it becomes its own legal entity, apart from the individual real estate investors. This means that a real estate LLC can have its own bank account, have its own tax ID number, and conduct real estate investing business all under its own name. A real estate LLC is, in a sense, liable then for all of its own “actions”.
A real estate limited liability company is somewhat a cross between a corporation and a partnership. It has some positives from each type of real estate business which is why it’s a popular choice for real estate investors.
Why Start an LLC? Advantages of a Real Estate Limited Liability Company
Limited Liability, of Course
Let’s cover the first, most obvious advantage of a real estate LLC: limited liability for real estate investors. With any real estate investment, a real estate investor is taking on risk and liability. Forming an LLC would be a good option to limit a lot of this risk when investing in real estate, especially for first-time real estate investors.
Click here to easily find an investment property for your real estate LLC.
Personal assets of LLC members are protected from any issues that come about from investing in real estate. Rather, the real estate LLC and its assets come under fire in any kind of situation like bankruptcy or debt. If facing bankruptcy, a bank can only come after the assets of the real estate limited liability company, as it is its own entity.
Real Estate Partnership vs. Real Estate Limited Liability Company
Because an investment property owner has a few different options for structuring a real estate business, we’ll compare some of the advantages and disadvantages of the different types.
Investment property owners who become LLC members have greater limited liability than those who choose a real estate partnership. Even compared to a limited liability partnership, a real estate LLC still comes out on top in mitigating risks.
Limited Liability Insurance vs. Real Estate LLC
Again, a real estate limited liability company has this advantage over limited liability insurance for real estate investing. An LLC offers more protection for an investment property owner than limited liability insurance. Sometimes, real estate investors are hit with lawsuits that aren’t covered by this insurance, and this can ruin a real estate business.
Tax Benefits, Because Who Doesn’t Want to Save Money
Another major benefit of a real estate limited liability company is the advantages of LLC taxes. In fact, many real estate investors form an LLC simply for the benefits from LLC taxes. If you’ve been following the US tax reform of 2018, then you know this year is the time for real estate investors to get on board with a real estate limited liability company.
LLC taxes are not paid directly by the real estate business. Instead, a real estate LLC only files an informational tax return because it is eligible for pass-through income taxation. Pass-through income taxation allows LLC members to tax any business income through their own personal tax rate, rather than the corporate rate. This can be beneficial depending on the personal tax rate of LLC members compared to the corporate tax rate.
Click here to use Mashvisor’s investment property calculator to see how taxes affect your return on investment.
Corporations vs. Real Estate Limited Liability Company
In general, corporations, besides an S corporation, do not have this advantage of pass-through income as a real estate LLC does. While an S corporation does have this advantage, you will see how a real estate LLC trumps this business structure in other ways. Keep reading to find out.
A Real Estate Limited Liability Company Is Allowed More Freedom
A real estate business structured as a real estate LLC doesn’t have too many regulations or restrictions to adhere to. For example, there is no rigid structure for management and no restrictions on ownership. Foreign ownership of a real estate investment is permitted through an LLC. A real estate limited liability company is not forced to have any regular meetings or keep thorough records. Even the distribution of cash flow is decided by LLC members.
Limited Liability Insurance vs. Real Estate LLC
Running or being part of a company comes with forming a real estate limited liability company. An investment property owner who doesn’t find this appealing may choose limited liability insurance for real estate investing instead.
Corporations vs. Real Estate Limited Liability Company
This is the aspect which favors a real estate LLC over an S corporation. Forming an S corporation for a real estate business means having a formal management structure, by-laws, stocks, and meetings with records of meeting minutes.
Why Might You Avoid a Real Estate LLC? Disadvantages of a Real Estate Limited Liability Company
Fees, Fees, and More Fees
While a real estate LLC allows you to save money from tax deductions, there are costs associated with forming an LLC as well as fees for keeping it in a good legal standing. These costs vary depending on how an investment property owner chooses to set up a real estate limited liability company: on his/her own, through a lawyer, or using an online company. They can also vary depending on what state the LLC is formed in.
- Filing with the state (average of $127)
- Enlisting a lawyer ($1,000-1,500)
- Using a website ($100-900)
- Hiring a registered agent ($100-300/year)
- Operating agreement ($50-100)
- Annual real estate LLC fees (average of $100); sometimes paid every 2 to 5 years, depending on the state
- Other miscellaneous fees
Related: The Best Real Estate Investing Tips for Cutting Down on Your Expenses
Real Estate Partnership vs. Real Estate Limited Liability Company
A real estate partnership doesn’t require the same initial costs and is inexpensive to form compared to a real estate limited liability company.
Corporations vs. Real Estate Limited Liability Company
Corporations will be more expensive to form and keep up with for real estate investors than a real estate LLC.
Virtually Inevitable Ending for a Real Estate Limited Liability Company
Many states require that a real estate LLC has an end date when it’s first formed. This structure for a real estate business can also be dissolved due to bankruptcy or death of one of the LLC members. If one of the LLC members chooses to leave, the real estate limited liability company may also end.
Real Estate Partnership vs. Real Estate Limited Liability Company
In general, a real estate partnership is not easily dissolved because of similar conditions that bring an end to a real estate LLC. Even when there is a death of a real estate business partner or a real estate business partner leaves, a real estate partnership may be continued as long as certain conditions are met.
Corporations vs. Real Estate Limited Liability Company
Corporations do not have this disadvantage. While a real estate LLC has an end date for its lifetime, corporations exist outside of any of those conditions and are not easily dissolved because of the circumstances of real estate investors.
“Piercing the Corporate Veil”
An investment property owner involved in a real estate limited liability company has to ensure that the LLC is an operating entity that can be distinguished from the LLC members. Otherwise, real estate investors will lose any protection that a real estate LLC provides.
Related: Should You Form an LLC for Your Investment Property?
A real estate limited liability company could be a good choice for you, it just depends on what you’re looking for. Analyze your real estate business and decide if the advantages of an LLC outweigh the disadvantages for your real estate investing goals.
A real estate LLC starts with finding good investment properties. Use Mashvisor to easily find and analyze investment properties to add to your real estate LLC.