Texas BRRRR to LLC or not?

Question

Hello all,I'm a newbie at the rent/refinance stage of my first BRRRR in Corpus Christi, Texas, and I'm wondering what my best course of action is for the property. The house was bought with cash from a private lender, and the title is under my name. I'm still searching for tenants. I've been told by bankers/mortgage agencies that my cash-out refinance will have to come via an investment loan rather than an owner-occupied A6 cash-out, as I am not actually living in the property. My question is: should I create an LLC and transfer the property into the LLC before I refinance or after I refinance? I've heard Brandon talk about the due on sale clause written into loans and am thinking that I can avoid that by rolling the property into an LLC while I still have full ownership in my name. And ultimately if I'm already looking at an investment loan rather than an owner-occupied refinance, what are the advantages/disadvantages of leaving property in my name vs rolling into an LLC? My main concerns are tax benefits, ability to refinance/obtain a loan against the property, liability issues, etc.Thanks in advance!Sam

Drew Shirley · Answer

If your note has a due on sale clause, the transfer to the LLC would trigger it. However, with a private lender, there's virtually no risk of the loan getting called.Each lender is different, but many/most will want you to guarantee the note personally, whether the property is titled in your name or the LLC. Find non-recourse financing if you can but it's hard to find, especially for beginners.From your perspective, you would want the property in the LLC instead of your own name, every day of the week and twice on Sunday.

Jeffrey H. · Answer

Amazon has several books on LLC's and using a "holding company" with subsidiaries for asset protection, such as:http://www.amazon.com/How-Limited-Liability-Compan...Also with respect to an LLC's capitalization - I might have a $20,000 mobile home on land in an LLC that I rent. This is not well capitalized, but assume I have a net worth of 5 million an the tenant knows that I own many properties and probably have some money. One day the tenant takes a tumble that they believe is my fault - the tenant could sue me with some lawyer who thinks he/she can pierce the LLC's veil to show that I am mixing personal finances with the LLC's and it's not really a separate entity, and as a result my personal assets are also at risk as part of the suit. This is where a holding company can help clearly establish a bright line between business, semi-business, and personal financial activity.Management and Holding LLC's are not used much unless you have personal wealth exceeding a million or more - when you choose to start using one is based on your own risk tolerance. There is paperwork overhead using these with taxes, so don't do it until you're ready to either spend more time or more money getting through the IRS hoops.

Samuel Turner · Answer

Some more great info! Thanks very much @Jeffrey H.Can you cite some of your favorite books on the "management LLC" topic? I'm very interested.

Samuel Turner · Answer

Great info @Drew Shirley Thanks for your input!Can you elaborate as to why I'd want this property in an LLC rather than my own name. Since you are are an attorney, maybe you can focus on the liability side of things. A professor of mine in college used to encourage me to use thinly-capitalized LLCs to mitigate any loss from a lawsuit. Do you have any experience in such things?

Drew Shirley · Answer

A thinly capitalized LLC is unlikely to be a major target for lawsuits because why sue if there's no deep pockets? Similarly, if an LLC owns only one asset -- let's say a rental house -- and it's worth $300K but there's a $290,000 mortgage on it, then that LLC is also not a likely lawsuit target.

Jeffrey H. · Answer

In the unlikely even that you're sued beyond the limits of your general liability policy it will not extend to your personal assets with an LLC, unless you have pierced the veil. As you increase your assets several people use a "management LLC" for activities that are semi-personal but investment related (e.g. using a personal car to drive to the investment property for showings) and then have the property itself in a separate LLC where the activities are very strictly related to the rental (e.g. rent deposits, repair bills, taxes, etc). There are books on this strategy and would recommend reading up on it...The more assets you have the bigger target you will be, so if this is your first rental an LLC may not be fully essential, but I would recommend one to get familiar with how they work and how to protect yourself using one as your wealth grows.Every property has their own reasons why they might need to be in an LLC, whether it's someone tripping and falling on your front steps because a nail wasn't hammered in completely, and are now permanently disabled for the rest of their lives - to finding out the property you bought used to be a toxic dumping site and the State notifies you that you need to spend millions to remediate it. You get the drift.

Drew Shirley · Answer

@Samuel Turner The main purpose of the LLC is liability protection. Think of the LLC as a separate, legal person, because that's exactly what it is. If it owns the property instead of you personally, then the liabilities for the property are limited to the assets of the LLC, rather than all of your personal assets.This may not matter when you're broke and just starting out, but as soon as you can, you want to put your real estate assets in an LLC (preferably each one in a different series of a series LLC) and don't sign or guarantee any note or other legal obligation personally.

Samuel Turner · Answer

Awesome stuff! Thanks again @Jeffrey H.

Samuel Turner · Answer

Thanks for the additional info @Drew Shirley

Jeffrey H. · Answer

When you're first starting out you won't have a choice but to personally guarantee a loan otherwise you won't get it. Once you have a portfolio of properties that have established their own credit worthiness (via your Management LLC) you can look for conduit loans that are non-recourse. The only other form of non-recourse loan you can get starting out is via Seller Financing.