How to create LLC/Scorp structure for Rental properties

Question

Hello all,

I have multiple rental properties but haven't created any LLC structure. Now that I have read multiple posts and received recommendations from others and read BiggerPockets threads, I am inclined to create Entity structure to avoid any property liabilities and get tax advantages using income shifting strategies for my 1099 revenue from small IT LLC

This is what I am thinking and need some inputs from others on this channel. Please feel free to provide inputs.

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Parent Holding LLC (X)-----------------------> Revocable Trust

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Operating LLC (Y)        LLC1 (A)                   LLC2(B)                  LLC3 (C)

1) Each rental property will get one Wyoming LLC (single member LLC) e.g. LLC1, LLC2, LLC3. This comes with advantage of anonymity of owner and address.

2) Parent Holding LLC (X) will be a multi-member Wyoming LLC responsible for buying or selling LLCs (A, B or C etc) and is taxed as SCorp for tax advantage. All rental Property LLCs (A, B,C) and Operating LLC reports under X. This also comes with advantage of anonymity of owner and address.

3) Operating LLC (Y) will be a single member Wyoming LLC and works as a Property Management responsible for day to day operations such as collecting rents, making mortgage/insurance/HOA payments etc on each LLCs (A,B,C) behalf. Also responsible for other expenses such as lawn maintenance, repairs, replacement of appliances etc on behalf of rental LLCs (A, B,C).

4) Y will charge monthly operating fee of 10% from each LLCs (A, B and C).

5) LLCs (A, B, C) will NOT have separate bank accounts. Only X and Y will have bank accounts. Y will collect rents and pay for all expenses on behalf of all rental LLCs.

6) Any leftover gains from Y will flow into      X which can be distributed to its members at the end of the year. Also any      losses from Y will flow into Parent Holding X for tax purposes and such      losses will be adjusted towards active income.

7) Use a revocable trust to      replace us in the ownership chain to avoid probate issues and easy      inheritance to our kids.

Questions:

• 1) Is this a good structure OR should I keep Operations LLC (Y) separate from Parent Holding LLC (X) and      not under it to avoid any legal complications ?
• 2) Also if keep Y separate from X, then should Y be a multi-member LLC and taxed as SCorp ?
• 3) If I were to create a rental      agreement essentially leasing my Home office space to any or all of these      LLCs, can each of these LLC's have a separate Rental agreement with same      residence ? Any Tax implications  or      any tax advantage ?
• 4) What if I do the same for      renting car to my own LLCs via a fomal lease agreement ? Any tax      advantages ?

Thanks in Advance. Ready to get inputs from experts here !!

Regards

Tanner Lewis · Answer

For bullet point #1 I would do each rental property LLC the same as the state in which the property is located. There is no need to double nest with Wyoming LLCs; same-state LLCs sometimes offer more protections. You are already off the articles of incorporation since the Wyoming LLC is established first through a registered agent service. (side note: you can still tell that you bought the property in your own name and did a deed of transfer to an LLC when you look at the chain of title.

For question #2, I advise against an S corp since there are higher fees. The break-even would be about $50k in cash flow/year (at least in Texas).

For questions #3 and #4, you need to have a reasonable and ordinary expense for doing this, and you would likely need to track usage.

I am not a tax/legal expert, but as an underwriter on DSCR deals, I have seen many entity structures.

Stuart Udis · Answer

@Gaurav Vedi You are over complicating this. Let's start with I am inclined to create Entity structure to avoid any property liabilities.  Vetting and screening vendors, ensuring your vendors are licensed and insured, maintain all necessary permits and licenses, maintaining appropriate insurance,  requiring vendors to list the deed holder as additional insured, execute contracts with indemnification clauses, being an active owner or have a PM who is actively checking on your properties to ensure there are no premises liability issues or property conditions that could lead to claims. This is how you avoid liability, not by filing some papers.

Most equate forming an entity to asset protection, but completely ignore the action items  that should be done on a daily basis that actually protects against the claims from arising. Wouldn't you rather avoid the claim in the first place along with the time and expense, increased insurance premiums, being limited to surplus insurance carriers etc. rather than absorb claims simply because you have an entity?

You are no more protected from a lawsuit with your proposed entity structure than the person who owns the building next door  who forms an entity in the state where the property is located. I have been waiting for someone on the BP forums to explain to me how a Wyoming LLC will stop a plaintiffs attorney from filing a claim against the deed holder when their client falls in front of your property because of a down tree or ice patch amongst the many other common claims a real estate owners encounter....and to this day  crickets.

Anonymity is not asset protection, never has been and never will be and as others have mentioned the Corporate Transparency Act, recorded instruments or simply waiting for that claim to be filed and completing the discovery process will reveal who you are. No to mention plaintiff's attorneys care more about the insurance than you, even if you do have assets because that's the path of lease resistance.

Most investors, particularly new investors don't understand this and believe they can hide under the cloak of secrecy for additional fees and there are slick attorneys out there lining their pockets selling the platinum level car details to the owners of 1995 honda civics with a rusted hood and 4 mismatched donut wheels. There are benefits to forming entities, but nothing as elaborate as what you are proposing and the reasons are generally more beneficial for business planning than asset protection.

William Hochstedler · Answer

Do not put rental properties in an S Corp.

Generally, you should have an S Corp for flips, property management operations, commissions and any other activities that generate ordinary income.

Passive investments should be held in pass-through entities like partnerships.

I'm not an accountant, but I have clients and personally had to pay taxes to move long-term holds out of S Corps just to change title (e.g. for refinancing).

Ryan Cheek · Answer

Hi Gaurav,

Your plan for structuring your rental properties through a series of LLCs is detailed and seems well thought out, especially considering the goals of liability protection, tax efficiency, and anonymity. Here are a few points to consider:

• Operating LLC (Y) Under Parent Holding LLC (X):Pros: Keeping Y under X might simplify your structure and reporting, as everything flows through the parent. However, this might expose your operational LLC to risks associated with your rental properties, which could be mitigated by keeping them separate.Cons: Separating Y from X could provide an extra layer of protection. If Y remains independent, any legal or financial issues it encounters won’t directly affect the parent LLC (X). This might offer more security but also could complicate tax reporting.
• Pros: Keeping Y under X might simplify your structure and reporting, as everything flows through the parent. However, this might expose your operational LLC to risks associated with your rental properties, which could be mitigated by keeping them separate.
• Cons: Separating Y from X could provide an extra layer of protection. If Y remains independent, any legal or financial issues it encounters won’t directly affect the parent LLC (X). This might offer more security but also could complicate tax reporting.
• Taxation of Y as an S Corp:If Y is profitable, electing S Corp status could reduce self-employment taxes, but it also comes with more stringent IRS rules. Separating Y and taxing it as an S Corp could be beneficial if you're looking to take advantage of those tax savings, but only if Y's profits justify the additional administrative burden.
• If Y is profitable, electing S Corp status could reduce self-employment taxes, but it also comes with more stringent IRS rules. Separating Y and taxing it as an S Corp could be beneficial if you're looking to take advantage of those tax savings, but only if Y's profits justify the additional administrative burden.
• Rental Agreement for Home Office:Yes, you can lease your home office space to your LLCs, but it’s crucial to keep everything documented and ensure the rent charged is fair market value. Each LLC can have a separate agreement, but the IRS will scrutinize this, so keep everything above board to avoid issues.Tax Implications: This arrangement could allow you to shift income and claim home office deductions, but it needs to be done carefully to avoid triggering any red flags with the IRS.
• Yes, you can lease your home office space to your LLCs, but it’s crucial to keep everything documented and ensure the rent charged is fair market value. Each LLC can have a separate agreement, but the IRS will scrutinize this, so keep everything above board to avoid issues.
• Tax Implications: This arrangement could allow you to shift income and claim home office deductions, but it needs to be done carefully to avoid triggering any red flags with the IRS.
• Renting a Car to Your LLCs:Renting your car to your LLCs can also offer some tax benefits, such as shifting income and potentially deducting expenses like mileage and depreciation. Again, everything must be at fair market value, and all documentation should be meticulous to withstand IRS scrutiny.
• Renting your car to your LLCs can also offer some tax benefits, such as shifting income and potentially deducting expenses like mileage and depreciation. Again, everything must be at fair market value, and all documentation should be meticulous to withstand IRS scrutiny.

• Pros: Keeping Y under X might simplify your structure and reporting, as everything flows through the parent. However, this might expose your operational LLC to risks associated with your rental properties, which could be mitigated by keeping them separate.
• Cons: Separating Y from X could provide an extra layer of protection. If Y remains independent, any legal or financial issues it encounters won’t directly affect the parent LLC (X). This might offer more security but also could complicate tax reporting.

• If Y is profitable, electing S Corp status could reduce self-employment taxes, but it also comes with more stringent IRS rules. Separating Y and taxing it as an S Corp could be beneficial if you're looking to take advantage of those tax savings, but only if Y's profits justify the additional administrative burden.

• Yes, you can lease your home office space to your LLCs, but it’s crucial to keep everything documented and ensure the rent charged is fair market value. Each LLC can have a separate agreement, but the IRS will scrutinize this, so keep everything above board to avoid issues.
• Tax Implications: This arrangement could allow you to shift income and claim home office deductions, but it needs to be done carefully to avoid triggering any red flags with the IRS.

• Renting your car to your LLCs can also offer some tax benefits, such as shifting income and potentially deducting expenses like mileage and depreciation. Again, everything must be at fair market value, and all documentation should be meticulous to withstand IRS scrutiny.

It sounds like you’re on the right track, but it may be beneficial to consult with a CPA or tax attorney familiar with real estate and LLC structures to fine-tune your plan and ensure you're maximizing benefits while minimizing risks.

Good luck with your investments!

Best regards,Ryan Cheek

Sebastian Bennett · Answer

What are you protecting against?

Scott Mac · Answer

Anonymity...... The Corporate Transparency Act (CTA) requires LLCs and other entities to disclose who their beneficial owners are to the U.S. Treasury Department's Financial Crimes Enforcement Network (FinCEN).

I do not think this is part of Homeland Security, but it might be. Although I don't think they're going to be waterboarding anyone for the information, failure to disclose ownership probably comes with some severe penalties.

And as far as this complicated setup that you have envisioned each of those shells has to have independent bookkeeping, and corporate minutes, some of them will probably require tax returns. S-Corp's requires a payroll which can be a PITA to comply with compared to owners draw, or distributions.

And when you really need a complicated setup like this is when you're under attack, meaning you need an attorney to handle the case.

What if you've made a mistake in your logic- meaning you've left an opening for an attacker to seize what you have.

If you think you need something that complicated, it might be best to get with an attorney to have this set up in a way that the attorney understands it in case it needs to be defended in court.

If someone designs it for you they should be able to defend it for you- make sure of that.

That's just my thoughts on it - Use an attorney to guide you through complicated setups so you don't make a mistake.

Then get with your tax Person to find out what the cost of this type of setup will be, and also talk to your lender to see if this is going to put any restrictions on your borrowing.

Good Luck!

Sean O'Keefe · Answer

@Gaurav Vedi this is very thorough.

Did you also evaluate the increased cost of compliance, admin, and time you will need to invest in executing setting this up and maintaining it?

How to create LLC/Scorp structure for Rental properties

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