Umbrella Policy Vs LLC: What’s Better for Your Rental Property?
You might know about an umbrella policy or an LLC to protect you and your rental property from liabilities. But, little do you know which is better in terms of protecting you completely? Well, it is neither an Umbrella Policy nor an LLC that can protect you completely. Both these are just a little extra thick cushion to absorb a liability and these two protect rental property owners in a different way. You then have to choose very carefully between an Umbrella Policy Vs LLC.
So if you are concerned for your business? We are here to tell you what to choose between an Umbrella Policy Vs LLC. And, what if you have any of these already? Should you need the other one too? Let us address all such questions, a rental property owner has in his mind to protect him or her from a liability.
What is an Umbrella Policy?
An Umbrella Policy is an additional cover above the standard Landlord insurance policy. With an Umbrella policy, you are protected from a liability even if your standard policy cover is used to its maximum limit.
Suppose you are sued in the court and the judge ordered the compensation of $600,000 and your standard policy is worth only $300,000. Now, if in this case you have an umbrella policy say of $1 million. The claim settlement will be absorbed by the umbrella policy.
Imagine not having an umbrella policy in this case. Your rental property or even your personal assets will come at risk. The claim will be settled by going after the equity in your rental property. And if it isn’t enough, the judge can order for tapping into your personal assets to settle the claim.
What is an LLC?
An LLC stands for Limited Liability Corporation. The LLC provides your rental property a distinct identity, separating your rental property from your personal assets. When you have your rental property owned by an LLC, it is the LLC not you that is liable in case of liability.
Suppose if a tenant got electrocuted at your rental property and he sues you for getting a permanent disability. The claimant can only go behind the assets your LLC owns and not for your personal assets if your primary policy reached its maximum liability limit.
An LLC protected you in this case and if it wasn`t for an LLC, the court can even go behind your personal assets to settle the claim.
Umbrella Policy Vs LLC
Both the Umbrella Policy and the LLC protects the rental property owners from liabilities, but one is not the alternative of the other. There is no direct comparison between the two. And as I even said above that both these protect you from liabilities but in a different way.
So, if you are confused what is best protection for your business and want a precise answer. Keep reading this article.
“To have a better insight on what protection is best for your business, let me shed some light on how these two protect you exactly from a liability.“
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How Umbrella Policy Protects From Liability?
With an umbrella policy, you buy yourself liability insurance for cases when you can get sued and your primary insurance is not enough to pay for that liability. To have an umbrella policy, you must have a primary landlord or homeowners insurance with a minimum liability coverage of up to $300,000.
The minimum Umbrella Policy that you can opt for is $1 million dollars and can further purchase it for a bigger amount according to your needs.
Now if your tenant sues you for some reason, say getting his arm broken due to the slippery bathroom tiles. And, the judge awards him a compensation of $500,000. Now, first your primary landlord insurance policy of say $300,000 will kick in. And, since it is not enough, your umbrella policy will cover the additional cost of the liability. And, in this case, you only pay the deductible amount for the primary landlord insurance policy.
Remember the Umbrella Policy protects you from liability but your claim can be denied if the liability occurs through your negligence, like continuous written requests from the tenant for changing the slippery tiles.
How LLC Protects You From a Liability?
When you have an LLC, any liability arising due a lawsuit is not your personal responsibility but of your LLC. This means, even if you got sued, only the assets owned by the LLC are at risk and not your personal assets.
Let’s say one of your tenants sues you and wins the lawsuit. Suppose your net worth is in millions but the LLC has only one rental property that is worth $300,000. Now even if the claimant was awarded for $500,000, he will get only $300,000.
Umbrella Policy Over LLC
Now, you may think with the above case that it is the umbrella policy that is much better in terms of protecting you from liability. As in the former case, you only paid for the deductible of your primary insurance policy and in the later case, your $300,000 rental property got exposed.
So, does an Umbrella Policy is superior to having an LLC? In the above case, yes it was. But it doesn’t mean it is always the case. And, it also doesn`t mean an LLC is useless over Umbrella Policy.
Consider this case for an example.
A 30 Apartment building catches fire due to old electrical wires that haven’t been taken care off by the landlord. The result of which is 25 people got burnt severely and the families of those sued the landlord.
In this case, the landlord has $500,000 landlord insurance and a $5 million Umbrella Policy. In the lawsuit, the judge awarded $1 Million for each person who was burnt totaling $25 million in compensation.
The landlord paid $5,000 for deductible and the combined insurance covered the $5.5 million liability. Conclusion is the landlord got a $19.5 million personal liability. And if this landlord has owned the rental in the name of LLC and has liability insurance in name of LLC, he wouldn’t have occurred to any personal liability.
Now, if you can see, the umbrella policy in this case wasn’t able to protect the landlord from a liability completely.
So, Umbrella Policy Or LLC?
Umbrella Policy Vs LLC is simply comparing apples to oranges. And which one should you opt for completely depends upon your personal case. Even, whether you should choose both, that too depends on your own. But some suggestions
You are Fine with a Landlord Insurance and an Umbrella Policy, when
- You own a single family rental or multifamily property with no more than 4 units.
- You are just starting out or own only 2-3 rentals with few tenants. Less no. of tenants means less liability.
- Your combined equity in rentals hasn`t exceeded $1 Million.
Get your Rental Property under an LLC too, if
- Your Portfolio has various Rental properties ranging from single family homes, multi family properties and apartment buildings.
- The Combined Equity is more than $1 million in your rental properties.
- You have more than one owner owning the rental properties.
Should You Have Both the Umbrella Policy and LLC?
Having Umbrella Policy and LLC both works hand in glove and gives you strong liability protection. But as I said above, transferring your rental property to LLC has certain consequences and it is not suitable for all Rental Property owners. So, it is under your own discretion to analyse what actually your business needs.
“My whole purpose behind writing this article is to make you informed about protecting your asset and take the right measures if you haven’t yet.”
However, from the above examples you can understand that whether you have an LLC or not, you must have a Landlord Insurance and an Umbrella policy. Though there is still a catch with an Umbrella Policy.
Not all umbrella claims get approved always . Some claims do get denied. It happened in the past and can happen with you too. Oh! You got a liability, we are happy to give you a claim. An insurance company doesn’t work like that. Always remember to read the fine print of the policy for the exclusions and limits that exist in the policy.
Even, if you have both the LLC and Umbrella Policy for your rental property, still you are not 100% protected. Some attorneys are expert in piercing the corporate veil that the LLC provides you. And if that happens, the liability can even pierce through the LLC on your own personal name.
Neither Umbrella Policy Nor LLC, then What?
Yes, you can’t expect yourself to be 100% protected from a liability even if you have either an LLC, or Umbrella Policy, or have both. Treat these two as little cushions to absorb some part of the liability. When you own real estate and deal with tenants, occurring to a liability is the harsh truth. You can only prevent this, plan for this but you can’t stop this. So have as much cover as your business needs to protect you from a liability.
One tip here is to always try to have a good relationship with your tenants and act on your landlord responsibilities in time. Doing so, you reduce your chances of getting sued in a considerable amount. When you have more happy tenants and less of disgruntled tenants, your rental business flourishes.