Joint Venture: Should we form an LLC

[Taylor Tindal]

Hello,

I'm interested in partnering on a deal with 3 individuals. In order to do this should we all create an LLC together for this one deal? Or will our individual businesses protect us? (One person is not protected by an LLC at all).

Thanks!

[Thomas Franklin]

Taylor Tindal You did not specify what type of "deal" you are are considering.

With that said, I would strongly suggest you establishing a Corporate Entity such as a S Corp or a LLC. This is a relatively inexpensive process. I invite you to Google "Creating a LLC or S Corp in _____," "Division of Corporations in _____," or another phrase. You can go to http://www.sunbiz.org and see how Florida does things, to give you and idea what to look for, in a website. I invite you to please consider the following, from a Federal Income Tax Filing Perspective. I cannot stress the importance of finding a very good Investor Friendly CPA. Below are some things you may wish to consider, as to which Corporate Enity is best, for your Business Model as well as your REI Goals and objectives.

Flipping Properties
If the primary objective of your real estate business, or one of your real estate businesses, is to buy, potentially fix up an existing property and resell it within one year, the Internal Revenue Service can consider that to be an active trade or business. Unlike passive rental income, the income from an active trade or business is subject to self employment tax (a nasty 15% tax commonly referred to a "social security and medicare" by working folks). If your goal is to reduce that self-employment tax to a minimum, an S Corporation is the best entity to use. Why?

It is the only entity structure whose rules allow the business owner to take a “reasonable salary” (subject to social security and medicare) and then take the remaining profit (often as much as 50% of the remaining income) out as distributions not subject to self-employment taxes. Correspondingly, all business income taken from an LLC under similar circumstances is subject to self-employment taxes. For a business owner with $100,000 taxable annual income, the net tax savings for using an S Corporation instead of an LLC in taxes paid every year can be as high as $7,500.

Holding Properties

When holding properties as a cash flow investor, the LLC (or LP) is generally the better choice because an LLC has more liberal distribution rules. The key here is flexibility. If you purchase a large piece of property and later decide to sub-divide it, you could distribute out a piece from an LLC without incurring a taxable event. LLC distributions come out of the LLC at cost basis. The members of an LLC are issued K-1 Form and have to pay taxes on all profits as though it were income, which could expose the owners to high employment taxes. Also, an LLC can elect to be taxed like an S Corporation.

While there is never only one answer that is correct for all circumstances, there is a general rule that is almost always the correct choice. So remember, for legal and tax planning, a good CPA will recommend that clients hold their properties in an LLC or Limited Partnership and run their businesses as S Corporations to avoid self-employment taxes.