Why Landlords should incorporate Rental Business under LLC?
You are pursuing a rental business and doing great as a landlord. But somehow an unfortunate event occurred in your business. And, you are on the verge of getting sued by your tenant? The thing of worry here is that you are the sole proprietor. And, the lawsuit now requires settling the claim by using your personal assets. Do you want this day ever in your business? No, then it is the Limited Liability Incorporation that can protect you and your business from the setbacks.
Operating your rental business under LLC gives it a distinct identity. In the event of any lawsuit, you are protected from losing your personal assets which is not possible with a sole proprietorship. As a sole proprietor, your business is your personal responsibility. Incorporating your rental business makes it a separate legal entity and your liabilities as a business owner get limited.
Why you should incorporate your rental business under LLC?
The LLC incorporation has by far lots of advantages from just having assets protection. So, here are all the major reasons for getting your rental business under LLC incorporation today.
1. Personal Asset Protection
As a landlord, you are exposed to various situations that can lead you to a lawsuit. A disgruntled tenant, short circuits or fire can instantly cause you to lose money. You might have insurance to protect you from such unfortunate events but that alone is not sufficient.
Suppose your tenant got a permanent disability due to an electric shock from a faulty refrigerator that you have to get repaired. The tenant sues you and gets a judgment of $500,000. What will you do now? Your insurance is going to cover only $150,000 and your house worth only $250,000. Now, you need to pay $100,000 more to settle the claim.
Consider yourself as a sole proprietor in this case; which means you now have a debt of $100,000 on you. But what would if you be operating it as LLC? You might have lost this property. However, the judgment will go as the entity lacks any more assets and the injured has to stick with it. You then are not required to bear anything additionally.
2. Increased Credibility
Having an LLC stick to your rental business increases its credibility. You represent a more formal, recognized, and trustworthy business. Being a recognized and trustworthy business, you will attract more customers than a sole proprietorship business that lacks identity.
Having the best maintained rental property is not enough if your business lacks credibility. Such rental businesses see no to very few tenants on the property. It is the credibility of your business that will generate leads for you. The customers keep themselves away from businesses with low credit scores even if they are offering the best services.
Think of having a beverage in this case. Whom you likely to pick more; Coke or any other beverage from an unknown brand? Forming an LLC gives your business the same credibility. Having an LLC, your tenants can see you as an organized business where they can expect to get exceptional services.
3. Pass-through Taxation
Operating your rental business under LLC, you can enjoy the benefits of pass-through taxation. Your business will not be taxed as a corporate structure. Instead, you will be taxed at your personal tax rate. This can be favorable to you.
Now, you have a choice to spare from double taxation and save yourself from hefty corporate tax rates. The IRS in 1988 enabled the real estate business owners to enjoy pass-through taxation benefits and have a liability shield with an LLC.
The LLC owners can take advantage of low tax rates and a lot of deductions in their taxable income. As a single member of your LLC, the profits and losses in your business are passed to you directly. You then pay taxes as individuals while also having limited liability for your business.
Even the multi-member LLC`s can take the same advantage by filing the informational tax return. The LLC needs not to pay taxes itself. The taxes are to be filed by partners individually at the personal tax rate.
4. Flexible Ownership
LLC can offer a great amount of flexibility to its business owners. Running a rental business with partners is a difficult job and involves a lot of challenges. There can be issues related to business ownership, having authority, operating costs, profits, and tax filings.
Incorporating your rental business under LLC can save you from these hassles. Every member of the LLC has a designated role and shares of both assets and liabilities. These are previously set according to an operating agreement.
Having an LLC also enables you to add unlimited new members or partners anytime in your business. You need not change the title of property saving you from additional costs and fees. The LLC not only provides benefits of flexible ownership for multiple members. But, it also favors a single individual in ownership transfer of rental property without forming and executing the new deed.
5. Save from future co-ownership hassles
You are running a rental business that involves owning a real estate. And, having a co-owner in real estate investments can give you bad experiences at any point in time. It is highly possible that you and your co-owner have different perspectives and opinions on running the business.
In such events, arguments can occur and one partner may also want to opt-out of partnership. They want to sell their share of interest in the property to someone else. There can be a case when one of the members passes away and you have no pre-set agreements.
You can then go clueless and don`t understand what will happen to the property after them. What if some of their heirs appear and want to sell that share of the property to someone else. These events can quickly ruin your rental business and you should be proactive for such cases. So, it is a wise choice to incorporate your rental business under LLC and protect your rental business from these unfavorable events
6. Tax Deductions
The Landlord operating under an LLC business can enjoy the benefits of various tax deductions. You can save a large percentage of your profits after the fiscal year by taking more legit tax deductions. You must comply with the IRS guidelines and consult a professional for taking the deductions.
The basic deductions you can do from your taxable income include operating expenses. These expenses include office supplies, utilities, advertising, and marketing costs. The insurance premium comes under tax deductions. If you use your personal vehicle, you can deduct the transportation expenses incurred to run your business.
Also, if you have just started your landlord business under an LLC, you can take deductions on startup consulting fees and legal fees. Furthermore, you can take advantage of depreciation costs while writing your deductibles.
As a rental business owner, you may like to maintain your privacy from the tenants. Having an anonymous LLC can help you protect your identity. You can safeguard yourself from the prying eyes that can cause harm to you personally.
A real estate investor can easily become a sweet spot of frauds and scams. You must put great attention to your environment and the people. The landlords who want to maintain their confidentiality can opt for anonymous LLC.
Operating the business under this type of LLC is very common among famous individuals. The industry leaders, big stars, and individuals who want to run their business privately can incorporate under anonymous LLC. An anonymous LLC protects its business owner`s identity by hiding the information in the LLC filings. You can then have a property manager and prevent your tenants to directly contact you.
Financing is a major driver in any investment business. Being a landlord, you always look for increasing your rental property portfolio. You already have several properties but you now need to add one more. You are also having a good deal under your hand.
But, you have less money and need financing to buy this deal. You try to raise the money in a conventional way. But your bank told you that you have already borrowed much and your income to debt ratio is not sufficient. Will you stop there? Or, will you look for other sources of financing?
In such cases, an individual mostly needs to opt for commercial financing. And, the only way to get commercial financing is to finance through a legal entity (LLC). Most commercial lenders feel safe to finance business rather than an individual. Also, as you are obtaining financing under the LLC, you are not personally liable for repayment liability.
9. Less Risk of IRS Audit
Setting up an LLC quickly reduces your chances of getting audited by the IRS. The small and the sole proprietor businesses always stay at the targets of the IRS. But being a more formal and incorporated structure, the IRS spares you from putting close attention on your operations.
Incorporating your business under LLC gives your business credibility and you operate in a much-organized manner. The LLC businesses have 10 times fewer chances of getting the IRS audits. Under the LLC, you can easily operate your business and take tax deductions without fearing the intrusion by the IRA.
10. Large Contribution Limits
Setting up an LLC; you can make larger contributions to your retirement funds and insurance policies. The LLC business owners can contribute up to 25% of their business income in the SEP-IRA Pension Fund.
The Bottom Line
It is sure that operating under LLC is favorable for most rental business owners. But, it is not always true and can be contradicting for some business owners. The setup costs and operational costs of an LLC business remain at the higher side. And, the individuals looking to increase their portfolio through financing will also have a hard time obtaining financing under LLC.
Still, if you can see the bigger picture, the benefit of incorporating under LLC outweighs the disadvantages at a very big margin.