Entity Creation?

Question

Hello All,I'm in the beginning stages of starting my real estate investing career. I had a legal/tax question. Should I form an LLC, S-Corp, or something of that nature before I even start investing to protect my self legally and take advantage of tax benefits? The firms I have been in contact with are kind of pricey and I don't want to take away too much from my investing cash. Thoughts?

Kevin Brown · Answer

I started REI about 7 months ago. The first thing I did was start an LLC. One thing I will warn you about is financing through an LLC is a pain in the butt. You're looking at commercial loans with very unfavorable terms. An LLC passed through as a sole proprietorship is the best tax favorable entity for passive income from rental properties from my understanding. Make sure you have a good idea of WHY you want to form an entity. You might be better off just having properties in your name with appropriate dwelling and Liability insurance along with an umbrella policy. It's a lot simpler and cheaper plus you get better financing. If you're not a millionaire and have a bunch of assets to lose this might be the better bet. I'm finding out private lending is my best bet which means I have to rely on people I know. Not a huge deal, but dad is starting to get annoyed!

Mohammad Akif · Answer

@Scott TajimaIts a good question but has many complicated answer. Every individual has a unique tax situation so its hard tell someone that LLC-->s-corp/partnership/disregarded entity would be the best route for them until detail information is obtained. Since you are new I would suggest reading on it more and more and getting your first REI through.

David L. · Answer

You could also exist as a LLC but file as a S-corp, thus giving you the additional tax benefits that corporations receive. Potentially gives you the flexibility to do things loosely or more formally. But really, even though it's a tempting option, I would suggest you figure how you want to run your business first, and then just pick the appropriate entity to execute your plan. Don't find the route that gives you the easiest (laziest) path.

Kevin Romines · Answer

Do some research on dealer status with the IRS and factor that into your decisions. It can make a huge taxation difference.

Scott Tajima · Answer

Thanks so much all of you guys. I'm pretty much looking to pay the least amount of taxes possible while also protecting myself in a legal sense. I'm new to REI so I wasn't sure of all of the available options or best practices. I plan on starting off in land investing and eventually branching out into rental properties in the future.

Dan Waugh · Answer

I went with a C-Corp. It blankets me from insane taxes. Last year, I made 81k and went to a higher tax level, costing me $2500 out of pocket .. I can buy from the profit-pool, write off any business-related expenses ie travels to Orlando, Hawaii, Alaska, dinner, lodging .. Ya know, anything while in the prsuit of new markets ... I can give myself a functioning salary without the temptation of bleeding the account dry because of the double taxation. I could always file as an S-Corp and give myself those cash bonuses, however. ... There are plenty of reasons.

John Pauler · Answer

Hi @Scott Tajima. It's a great question. I will second @Kevin Brown's point that buying the property through an LLC will likely make financing more difficult. Also completely agree that you should think about why you want to hold the property in an LLC and then decide if the LLC is the best way to achieve that goal. I myself have elected to own my (only 2) properties in my own name, with liability insurance on the individual properties as well as a personal umbrella policy. If you do really want to hold the property in an LLC, one strategy recommended to me in the past was purchasing the property in your name, and then after the closing, deed the property from your name over to your LLC via a quitclaim deed. My understanding is that technically this may be against the terms of your mortgage, but as it was explained to me, the mortgage holder likely would never even know, and as long as you make your payments, they wouldn't care even if they did. I am not advising this as the best course of action, but rather sharing a strategy that was recommended to me previously. If you do like the idea, it's best to discuss the risks with your attorney and get their opinion. Has anyone out there tried this? Was it successful or did it backfire?