Investing in real estate is a great way to get rich, and this strategy is increasingly being used by businesses rather than individuals. Because of this trend, many people who are interested in real estate investing for the first time may wonder whether they should buy investment property in their own name, from a limited liability company or LLC.
Unfortunately, there is no definite answer. Your client has many factors to consider, such as whether they have previous experience investing in real estate, what they are going to do with the real estate, whether they have an exit strategy and the risks associated with owning real estate. Analyzing the pros and cons of real estate investing should prepare you to help your client make that decision.
An LLC is a business structure that limits liability, which means that the assets and liabilities of the LLC are separated from the personal assets of the business owner. If something happens to the business, such as a lawsuit or bankruptcy, only the business assets are held liable, thereby protecting the business owner from, for example, losing a home or car.
If your client decides to buy property and become a landlord, the main advantage of owning property within an LLC is that tenants can only sue the LLC and not your client if something happens. There are exceptions to the extreme of fraud or negligence, but the bottom line is that the rental property will be the only asset at stake in the event of a lawsuit. It is even possible to create separate LLCs for each property to further reduce liability.
There are other benefits of owning real estate within an LLC. First, it is easier to invest with partners in an LLC or add an additional member by selling a percentage of the LLC. There are also tax advantages to working with an accountant or lawyer. Finally, setting up an LLC allows the owner to separate their real estate income from any other income, making it easier to track real estate transactions.
Despite the benefits, there are reasons to avoid an LLC, especially if your client is investing in real estate for the first time. While an LLC removes personal liability for real estate, if your client is facing financial difficulties, their bank may decide that their personal mortgage and property take precedence over their commercial real estate.
This is why mortgages for LLCs are more difficult to obtain, interest rates tend to be higher, and larger initial payments are expected. In addition, your client will not be able to get a home loan and take advantage of various government programs designed to encourage home ownership. In many cases, a bank will not approve a mortgage unless your client provides personal assets as collateral, which largely negates the purpose of setting up an LLC.
It is also necessary to take into account the costs and hassle of setting up an LLC. Application fees range from $ 40 to $ 800 depending on where the property is located. There is also the cost of hiring a lawyer to make sure the LLC is properly set up, and you should definitely advise your client to consult a lawyer rather than trying to set up one yourself. Your client will also need to pay an annual LLC maintenance fee. While these costs are generally small compared to the cost of buying a property, they should be considered.
How to buy real estate in LLC
Fortunately, buying real estate through an LLC is not much different from buying real estate on an individual basis. However, it is important that your client sets up an LLC long before they buy a particular property. The delay while your client is trying to form their LLC can cause the seller to look elsewhere.
As soon as your client makes an offer and it is accepted, he will need to contact the lender and discuss the details of obtaining a mortgage. In addition to the issues mentioned earlier, your client will need to provide personal documents to prove their own income, as the LLC will not yet have income or tax reports to prove it can pay. When the mortgage is approved, the property will be in the name of the LLC.
If you still don’t know how to advise your client, consider the following questions:
· What property does my client intend to own? If they intend to own one property and rent it out, buying it individually may be the easiest thing to do. If they plan to own multiple properties, the enhanced LLC protection becomes more significant. It is important to note that while it is possible to transfer property from an individual to an LLC, doing so while it is still in the mortgage can be risky depending on the original loan conditions.
How much money does my client have? Lending requirements are stricter when buying real estate as an LLC and a larger down payment is required, so your client should have enough money accumulated for this purpose if he intends to buy real estate as an LLC.
· What are my client’s long term plans for this property? Do they ever intend to cash out their property or do they plan to leave it to their children? An LLC can make it easier to transfer property to heirs if certain steps are taken in advance.
Owning real estate within an LLC provides certain benefits, but there are also issues to consider. Setting up an LLC takes time and money, and obtaining a loan can be more costly and difficult to maintain. If your client is just starting to invest in real estate, it may be easier for him to buy real estate in his own name without an LLC. A person who has significant cash and big ambitions of owning a real estate empire might be better off working with an LLC, while a person who wants to own or perhaps rent out one or two properties might be better off alone.