Management Corp to LLC model?

Question

Hello BPers,I’ve been actively following and learning along for several months preparing to begin doing business in Q1 of 2020.I was planning to go the LLC route with my partner for purchasing properties, but I got intrigued recently by another investor’s model.Does anyone have experience forming a C-Corp (or similar alternative) as the management group, and the LLC beneath that as more of a holding company for properties? The C-Corp would serve as the instrument for disbursements for investors.Any and all feedback is appreciated, and I’m happy to answer questions to help clarify my goals if it helps.

Mike S. · Answer

It is a great concept, asset protection wise, to separate the entities holding properties from the entities operating.In my case all my properties are held in local single member LLCs that are all owned by a WY holding LLC (to get the anonymity and charging order protection).In addition I do have a management C Corp that is under contract by all my LLCs to manage the properties.This C Corp is the public face of the operation, signs lease, collects rents, pays all repairs, taxes and utilities. Quarterly, the C Corp pays the properties' owner (the LLCs) the excess profit.The C Corp give me fringe benefits like wellness plan that reimburses all my out of pocket medical expenses, vehicle mileage use, etc...I could also use that C Corp to get W2 income and contribute to a Qualified Retirement Plan or I could just choose to lower the management fee to just balance the expenses and make a minimum profit to lower taxes.In your situation you are looking at a partnership. Will your partner be involved in the day to day operations, or will he only be just an investment partner? In the latter, you would probably have him only involved in the property LLC, while you keep full ownership of the C Corp. It all depends on your specific situation and future goals. As @John Warren suggested, consult with a real estate, asset protection oriented and tax savvy attorney.

Mike S. · Answer

If you were using a third party property management, you would still receive the rents and pay taxes on these rents in your LLC (or as pass through on your personal taxes in case of a disregarded entity). When you own a C corp that is doing the management, that is the same principle. The C Corp is not getting any income from the rents. The rents are owned by the owner (aka the LLC). The C Corp is merely acting as fiduciary on behalf of the owner and will issue a 1099-MISC to the owner about all the rents collected and remitted. The only income to the C corp is the fee that it is billing to the LLC to manage the property. That could be a fixed fee, or a percentage of the rent. But that fee is payed by the LLC not the rents. The C Corp is merely holding the rent money in escrow and transferring the surplus to the LLC.

John Warren · Answer

@Ryan Green I am not sure if you would use a C-Corp as there are issues with double taxation, but I know several people locally who have either an S corp or an LLC that is the "management company". This management corporation takes a management fee, and then each of the properties is held in a separate single member LLC. This allows you to have multiple partnerships, but only one entity where you have to pay attention to the ins and outs of the money. This also allows you to pay yourself for managing the properties through one company. This is definitely an area to consult your attorney though as a lot of this will be locally controlled.

Mike S. · Answer

It is only a factor if you are taking money out of the C-Corp. If you keep your profits low and not taking money out of the C-Corp the tax factor is irrelevant. Most of the income is rental based and transferred to the LLCs (with a 1099-MISC) and not subject to the C-Corp taxation. The only income of the C-Corp is the management contract that you can make as low or as high as you want (within justifiable reason).If you want to get a W2, you will have taxes anyway you look at it.

Ryan Green · Answer

@Mike S. This has all been really helpful to get back on a clear path of research - thank you for taking the time to talk about it!

Ryan Green · Answer

@Mike S. That’s really helpful to know if I were to structure it that way. Just to make sure I’m following...If I were to have the management Corp contracted to properties with, let’s say a 1% fee, and rent collection going through the LLC, then the taxation on the corporation wouldn’t be much to worry about and the CCROI from rents could be reinvested more easily?

Ryan Green · Answer

@Mike S. Thanks for the feedback, Mike. You actually listed more benefits of forming the management Corp than I can been considering. John’s comments on double taxation are still a factor, but if I’m weighing pros and cons I have several additional factors to consider.My partner is looking to be involved in operations. We are still planning to outsource management for the time being. We’re going to BRRRR properties and have them managed by a local company, and in a couple of years explore adding our own management component to the organization.

Ryan Green · Answer

@John Warren thank you for that feedback, John. I’ve read a bit in the issues with double taxation which concerns me, plus my current company is a S Corp and that’s caused some complications and added expenses for the years.