LLC or umbrella

[John M.]

I recently purchased a 5 unit apartment bldg. I plan on keeping it indefinitely . Cost to put it into a LLC would be approx. $4k because of transfer tax & LLC fee. Liability is my main concern! Should I just increase my umbrella coverage limits or try to insulate my self also with an LLC?

[Kevin Romines]

I agree with @Ned Carey the LLC is not a substitute for quality insurance. In your case, you will need what is known as a habitational policy. This is a commercial policy due to the fact that its 5 units. 1-4 units are considered by most lenders and insurance companies to be residential and 5 units and above are considered commercial. I would also follow this up with a commercial umbrella policy. They tend to be in expensive, and liability is your biggest concern, so load it up.

While the LLC can be used to insulate any assets that you have in other entities or that you hold personally, its not a guarantee that a sharp attorney couldn't pierce the corporate veil and get outside your LLC to other assets, so a solid foundation of insurance is critical.

Not to complicate things any further, but something you need to be aware of and that is how you hold the property is of great importance. What I mean by that is that the IRS has the ability to audit your overall business and classify you a dealer if you are known to flip houses, or sell on contract or only hold rental property for a short period of time. If they do this, they then will label all your transactions as dealer status and therefore tax you differently. You will lose out on depreciation, and the ability to do 1031 exchanges and will be required to pay taxes as if your profits were earned income? 

How do you avoid this situation, well the best school of thought is to create entities that only do like kind transactions in that specific entity. Have one entity for rentals, have one for flips and owner contracts / lease options. Basically separate the transactions into long hold, versus flips and owner contracts and lease options or short term holds. You could even keep the long hold properties as a sole proprietor, but the short term buy and sell must be in its own entity to keep from getting tagged this way by the IRS. Do the research on this so that future transactions don't bite you down the road.