By: Jennifer Friedman
One of the best asset protection tools available to landlords today is forming business entities for their properties. An entity option that can be a good fit for landlords is the LLC. This type of entity provides flexibility to be taxed as a partnership or a corporation, while providing its owners with the limited liability of a corporation. By designating a business organization for their individual properties, landlords can simplify several corporate and legal functions – enabling them to focus on the needs of their tenants and maintenance of their property.
Here are a few reasons why landlords should consider choosing the LLC:
CHOOSE HOW THE BUSINESS IS TAXED
With an LLC, landlords can keep their business and personal finances separate, while maintaining the freedom to choose how they are taxed. This flexibility allows landlords to be taxed in a manner that produces the lowest tax bill.
Normally, an LLC provides for pass-through taxation, which means income, losses and other tax items are reported on the members’ individual tax returns. Many business owners find this feature helpful when they consider the numerous maintenance occurrences that come along with owning rental property. However, business owners can also elect to have an LLC taxed as a corporation, which provides more flexibility in structuring compensation. And, more recently a new tax—the net investment income tax—has created additional complexity in determining the tax structure, particularly with regard to real estate businesses. Given the complexity involved in determining the impact of the net investment income tax, property owners should seek guidance from an accountant who is well-versed in the rule that apply to real estate owners.
REDUCE RISK ON PROPERTY INVESTMENTS
Another useful aspect of an LLC, S corp or C corp is that individual assets of the business owner cannot be reached to satisfy debts and other financial obligations of the business. This is a great safety measure that ensures a member’s risk of loss is limited to the amount of capital invested in the business.
The limited liability factor directly relates to harm that might occur from the owner’s rental business. Landlords are generally protected from any tenant or visiting person’s injury that might result in legal action. The harmed party can sue the owner’s business, but the owner’s personal assets are protected.
However, this doesn’t overrule instances where landlords are personally responsible for harmful activity. Though some of the responsibilities associated with providing a livable environment are outsourced by larger entities, landlords with a smaller operation can be personally held accountable for certain housing hazards.
Also, if landlords fail to clearly separate personal and business assets, they can forfeit this asset protection. In order to capitalize on the limited liability aspect of an entity, landlords must separate personal and work-related finances. If a landlord has multiple properties, each property should be registered as its own entity. This ensures any incident tied to one property will not impact any of the others. Developing distinct financial entities sets your business up so that responsibilities associated with most property related issues fall on the respective entity’s resources and not personal assets.
From start to finish, properly establishing and operating a real estate business can position you for success, while lowering your tax bill and protecting what you have worked so hard to achieve.
Jennifer Friedman is the CMO of the small business segment of CT, a Wolters Kluwer Company, which provides legal compliance solutions to small businesses. In this role, Jennifer directs all activities related to digital marketing and advertising to help build the brand through innovation, partnerships, and enhancing the customer experience.