personal home converting to rental: Address LLC?

Question

Hi everyone,

First, thanks for reading my post, and for all the information here on BP!  Wow!

I have a PA home I'm currently using as my personal residence, traditional bank financing, >20% equity, that I've been in for almost 2 years.  I'm interested in moving it out of my "liability column" and into my "asset column" by leasing it.  (Should be favorable cashflow after all is said and done, including mgmt. co, reserves for repairs, etc).

My question is this:  I'm interested in putting the property under an LLC for income passthrough, expense protection liability protection and all the other reasons one would do this.  How is this best accomplished?  I know how to set up an LLC, but specifically, do I retitle to house under the LLC as owner?  Sale from me to LLC for $1?  Sale from me to LLC for current market value (I don't have the capitalization depth to fund the LLC first, then show a paper money trail)?  How do traditional lenders view this sort of thing?

Thanks in advance for your thoughts, help or advice. I'm a single dad with twin 11 year olds, & we truly appreciate it!

Cheers

Pete

Kevin Romines · Answer

It seems as though the major issues have been covered here. The only other comment I would have for you on your decision to move it to an LLC versus holding it in your name is that if you ever wanted to refinance the home down the road, most residential lenders wont do it, as they consider it commercial at that point.

They may be will to do it if you change the titling back to your personal name, if not, its considered a commercial loan at that point. Commercial loans are much more unique in their terms than a residential loan, and not to your advantage.

Jean Bolger · Answer

Be careful with the LLC decision. If you keep the house in your own name and decide to sell (for whatever reason) within 2 years of moving out then any gain you have will be tax free. If you move it to an LLC then I'm pretty sure the gain would be taxed no matter when the sale occurs.

I've noticed that a lot of people starting out assume that they should have an LLC and that there are tons of advantages (even though they are not quite sure what they are, lol!) But to my thinking, asset protection is more reliably achieved at this stage of the game by a good umbrella liability policy. And all "income passthrough" means is that the LLC's income is treated the same as personal income (in other words, exactly the same as if it wasn't in an LLC). I'm not sure what you mean by "expense protection", however all of your expenses for a rental will be deducted on a schedule E at tax time whether the title is in an entity or not.

Should you choose to go ahead with the LLC (can you tell I'm advising against it, LOL?) then it's easy -- just do quitclaim to the LLC.

Oh, also there's a small chance that moving the property into the LLC will activate your "due-on-sale" of your mortgage. (I've yet to hear about anyone that this has actually happened to though)

Dave Toelkes · Answer

Your understanding is imperfect.  The principal portion of your mortgage payment is never deductible regardless of the absence or presence of an LLC.  There is no tax advantage to having an LLC vs holding the property in your own name.  You get the same rental expense deductions whether the property is in your name or the LLC.

By the way, you get profit when you sell the property for more than your tax basis.  Until you sell the property, your rental activity generates cashflow.  Cashflow can be either positive or negative.  Your goal, for a rental property activity, is to maximize positive cash flow.

Joseph S. · Answer

What about creating an LLC, then renting your home to the LLC? I'm as new as you so take what I say with a grain of inexperienced salt, but this seems like a good way to mitigate personal liability with the added benefits of maintaining tax advantages while also putting numbers on the books of the LLC.

Pete Mumma · Answer

Thanks for your responses and thoughts here.  My understanding about the principle portion of the mortgage payment is that the principle is not considered a deductible expense if the property remains in my name, but that it would be deductible if the property is in an LLC.  Have I made a mistake in my thinking about this?  Since the goal of me renting it is to make a profit, is the entire mortgage payment deductible as an expense, so that I'd only pay income taxes on the net rental amount after PITA, management fees, repairs, etc?

again thanks for your help!

Pete

James Wise · Answer

@Pete Mumma

welcome to the site.

Brad Vancil · Answer

Hey Pete!!

I would consider creating a land trust for your property.  Simple, quick and complete privacy and more importantly safety!  e-mail me if you would like more info vanmerica13@gmail.com.

Jean Bolger · Answer

I see @Ned Carey

beat me to it on the tax issue. I also think his timeline (you'd have three years to sell, not two like I said) is correct

Ned Carey · Answer

You may be giving up an substantial tax advantage.  There is a large $250/$500K(?) exclusion for capital gains when you sell a house you have lived in  for two of the last 5 years.  You could rent it out for three years and then sell with no capital gain.

However if you transfer to the LLC that tax advantage goes away.

Daren H. · Answer

Hi Pete! When I got married several years ago I turned my primary residence into a rental. Don't bog yourself down with all of the LLC, asset protection, title transfer strategies at this point. I don't think you need all that at this point (perhaps a good general liability umbrella policy). In your case, right now I would be more focused on things like:
- are my rent comps strong, vacancy, CAPEX, other operating expenses, etc
- what does my tenant pool look like 
- what is it going to take to get the place ready to rent
- finding an affordable PM with a good reputation
- best way to market the property

I have other rental properties now and all are still in my name. I do have umbrella liability insurance. Others may have a different opinion on starting out with LLCs and such. It could be that my assets are not substantial enough that I am not a prime lawsuit candidate :)

personal home converting to rental: Address LLC?

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