For Newbies: Umbrella insurance or LLC; which makes more sense?

Question

For a military veteran who's a new investor looking to purchase their first multifamily property to house-hack, does it make more sense to just get an umbrella insurance policy with VA financing (since you have to purchase in your name) or create an LLC using any other type of financing?

The question is intended to focus more on risk mitigation rather than financing as a newbie. However, is there a "sweet spot" that makes more financial sense when determining risk mitigation? (specifically, when just starting out?)

Chris K. · Answer

@Mike Hoherchak

From an ROI perspective, the ROI tends to increase as you borrow more money --- at least at the pro forma level. If you are willing to house hack and use a VA loan, I would think that combination would give you more padding than an average investor. That said, even that combination cannot always rescue you from a bad purchase.

If I were in your shoes, I would go with the VA loan option. I would personally borrow money all day at the low-interest rate and do "something" with it. But it depends on your risk tolerance.

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

Jonathan Taylor Smith · Answer

@Mike Hoherchak - I financed my first 3 properties in my personal name, along with my wife - so we just had insurance (property and umbrella) as our protection. Since then, all have been handled within an LLC. I'm never comfortable depending on insurance alone, as I know they are in the business of collecting premiums and denying claims. Once my assets started to grow, I had to start using LLC's - but I was willing to roll the dice early on.

Also, I'm not a lawyer and have no idea about PA laws, but check to see if your liability may be different in PA if the rental property is also your primary residence as in the case of a house hack. Does homestead protection apply?

Patricia Steiner · Answer

A serious investor would never title in his/her own name for a host of reasons.  Using an LLC and utilizing non-recourse lending are the best route.  If you don't currently own a home, I recommend that as a first step to take advantage of your VA financing and to start building your personal wealth. Keeping your personal and business investments separate affords you greater liability protection than insurance coverage.

Chris K. · Answer

@Mike Hoherchak

For house hacking, the loan products often force you to go without an LLC since getting traditional financing can become a challenge. Can't say I know if there is something within the VA loan program that would allow you to buy the property through an LLC.

For insurance, I personally think you should always have good insurance coverage even if you use an LLC. It normally makes no sense to skimp on insurance. I would recommend that you work with a good broker who can help you get the right coverage. Not directly applicable to your situation, but an acquaintance of mine got into a lot of trouble in a slip-and-fall incident because she tried to DIY the insurance. Even as a lawyer, I rely heavily on advice from my insurance brokers since it's a very niche industry.

If you are married, Pennsylvania has fairly robust protection for properties that you own as tenants by the entireties. Depending on the circumstances, it can make it very difficult for a creditor to collect a judgment against you and your spouse. You kind of have to know what you are doing and it shouldn't be an excuse to skimp on insurance. But it's a good concept to keep in the back of your head.

Thank you for your service and good luck!

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

Jason D. · Answer

@Mike Hoherchak because you plan on living in the property, you wouldn't be able to purchase it in an LLC. Lending to an LLC requires commercial loans which, as far as I know, do not allow for owner occupants.

Buy with the VA loan (just make sure it cash flows when fully occupied), and get the umbrella policy

Mike Hoherchak · Answer

@Jonathan Taylor Smith This is how I've heard many people started and was considering doing the same. From what I've researched, it seems to make the most financial sense, specifically when just starting out. I'm sure many policies deny claims so I suppose shopping around for investor friendly insurance companies is important. Also, thanks for the reminder, I completely forgot about looking into homestead laws.

@Chris K. You can't use VA financing using an LLC. The stipulation is that it has to be for a primary residence, not an investment property, with the exception of a residential MF that you live in one of the units. I did plan on having an umbrella insurance policy regardless of purchasing in my own name or LLC. I'm just curious the opportunity costs of using the VA loan with no down payment and just an umbrella policy vs. 3.5%-25% down using an LLC and commercial financing. I figure as long as I purchase the right property and have the least amount of cash in the deal, my COC should be significantly better. I'd prefer to not have to use any of my savings up front and keep it as reserves for the property so I'm interested in others opinions on finding the right balance within this specific context.

@Jason DiClemente I didn't know LLC's with commercial loans don't allow for owner occupants. I'll need to research that further! My plan was to purchase my first property in my name using a VA loan and after 2 years or so, building equity, doing a cash-out refi into an LLC using any gains for another property. If I can't live in it using an LLC I may need to rethink my strategy!

For Newbies: Umbrella insurance or LLC; which makes more sense?

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