We often receive interesting questions from our students. We received permission to publish this one as a Blog since it might be of interest to many of you visiting our site.
Thank you for your help. I hope learning all this is not “too little too late”.
Q. You said an LLC should be the manager of the rental properties. What exactly does that mean? Does it mean I establish an LLC and put my properties into it or do I establish an LLC and put my property manager (my son) into it?
A. I would do both. I would form two LLCs . I would put your property into one LLC and have the other LLC act as a management company. Your son can act as an employee of the LLC and help manage it. He can but does not need to own part of the LLC. The tenant will contract with the management LLC (Rental Agreement) and the LLC will “do all of the management” of the rental. You (the property owner) should have a contract with the LLC, just like you would with one of the management companies you can hire for 7% of the rent to manage the rental property. Your LLC will be the management company. My LLC Wizard has all the forms you need to form both LLCS.
Q. My Living Revocable Trust says to put property into the Living Revocable Trust. Into which do I put my rentals: the trust or the LLC?
A. You can do either, but I would use both. I would put the property into an LLC, owned by your trust. The membership interests (stock) in the LLC should be owned by the trust, so it won’t be subject to probate at your death. The LLC is an asset. The LLC papers at the state should show the trust as the owner AKA member. If you have the LLC taxed as a subchapter s corporation, you should make sure the living trust is a subchapter s qualified trust. The trust in my Accumulation and Preservation of Wealth materials is a qualified trust. It has to be written to meet certain IRS Rules or the Subchapter S tax election will be voided.
Q. Warranty deed or quit claim deed: is one cheaper or better than the other?
A. When you put a property into the LLC make sure you use a warranty deed, not a quit claim deed, because you will lose the title insurance if you transfer to a company using a quit claim deed. The LLC is a company (limited liability company). The transfer of the property technically violates the due on sale clause in the mortgage. As long as the ownership of the LLC is the same as the ownership of the property before it is moved into the LLC, the banks have been unable to call the due on sale clause in the courts.
Comment: Frankly, a lawsuit has me so concerned that I would rather sell my 3 rental houses, than risk one.
A. Carry a big liability policy, use an LLC to manage the property, a different LLC to own the properties, and sleep well at night. It isn’t all fool proof, and justice always depends on what the judge or jury eats for lunch, but real estate is the only true form of wealth an individual can make money with – statistically.
Q. Does an LLC allow the set up of the other benefits such as HRA, a family limited partnership, a children’s trust, etc? I know these can be done with an s or c corp but I do not think we want those.
A. An LLC can be a sole proprietorship, a partnership, an s corp or a c corp, depending upon how you choose to have it taxed. The legal structure of an LLC is independent of the tax structure. You get to choose. All the benefits of a c corp are available to the LLC taxed as a c corp. So you can use an HRA etc. The limited partnership and children’s trust (2503 trust) are totally independent of the LLC. They are other legal tools you can use with an LLC or not have an LLC and still use the limited partnership or children’s trust.
Comment: We want to stay very small and uncomplicated.
A. It is a good idea to stay small and keep it simple. The lawyers love to get you in over your head with legal structures. Carry the insurance, have a living trust, and set up the management company LLC. Own the properties in the living trust for simplicity not asset protection. Asset protection, you would own the properties in a second LLC, but that complicates things.
This post was edited for clarity on 4/28/14.
I have become interested in a self directed Roth IRA. I understand the tax advantages of one but what are the asset protection capabilities of a self directed Roth IRA? Is there a seasoning period from the time the IRA is opened and the time withdrawals can be made? How do I go about setting one up? To your knowledge, are the online setups reliable?
My CPA is of the opinion that an LLC has better tax advantages taxed as a partnership rather than an S corp. Your LLC wizzard course says to have it taxed as an S corp. Will you explain the difference?
A self directed IRA can be set up with many different trustees. Do some research first to make sure they are credible. IRA protection differs state to state. Most states do provide strong protection to money put into an IRA up to a certain amount. You can take the money out of the IRA after you are 59 1/2 without penalty.
The taxation of an LLC depends on what you are doing with the LLC. If you are investing in real estate then a partnership is best. If you are generating earned income it is best to be taxed as an S-Corp. With an S-Corp you pay yourself an income which you will pay the self employment taxes on. Any money above your income will be a distribution which you don’t have to pay self employment taxes on. If you are a partnership you have to pay the self employment taxes on all the earned income.
Your information regarding LLCs and rental properties has been very helpful. However, I do have a follow up question:
When putting a rental property into an LLC owned by a living trust, should the property deed be in the name of the LLC or the name of the trust?
The property should be deed in the name of the LLC and the LLC member should be the trust.
When putting a rental property into an LLC owned by a living trust, should the property deed be in the name of the LLC or the name of the trust?
Q; Do we need LLC for legal protection if a rental property is in an unrevocable trust?
If the property is in a properly set up irrevocable trust then it will give you some asset protection.
We are thinking about placing our rental property in separate LLCs and placing them in and owned by an irrevocable trust with our daughter being trustee and me or both of us) as beneficiaries. We desire our daughter continue to manage the properties for us thru a service agreement & paid as independent contractor. Is she required to have a licensed broker or be a licensed property manager? Would service agreement be between us and her OR the Trust (she being Trustee) and her?
How will I know if/when this has been answered. Am I sent email or link with your reply?
This can depend on what state you live in. Some states require that you have a real estate license to be a property manager, and some states don’t. If she is a trustee of the trust, she may be able to get around the real estate license requirement because she would be considered the legal owner. You will need to check with your state.
We list the answer to your question here and will send you an email with it as well.
I am still confused about the advantage of setting a separate management LLC from the ones holding the titles (especially in case of pass-through SMLLC). What are the con of collecting the rent directly from the LLC holding the title?
If the management LLC takes a % fee of the rent, will this income be then taxed differently than the real estate income would have been from the “title” LLC? Wouldn’t the management LLC income incurred also a self employment tax?
The idea of having a separate management company is for asset protection. When you sign a lease with a tenant you are making a legal contract. If anything happens on that property that arises in a lawsuit, then the first line of connection is that lease. If a separate management company is on the lease, then they would be the first sued and you could potentially stop the lawsuit there. The management company does not own anything so there is nothing for the lawsuit to take. If you sign the lease with the company that also owns the property then the lawsuit will be going after the owning company and the property then becomes subject to that lawsuit.
In answer to the second part of your question, if the management LLC takes a % fee of the rent, this will not be taxed differently than the real estate. If the rental is considered a passive activity (which it usually is unless you are a real estate professional) then the management fee will also be considered passive income not subject to Self-Employment tax.
When a living trust is a single member of an LLC owning real estate or any business, is it important that the LLC pay out owner-draws to the trust directly? Or can the owner-draws be transferred directly to the personal checking account of the Trustee(s)? In other words, do I need to pay my trust before I can pay myself in order to keep the corporate veil intact?
If the trust is the owner of the LLC then the money has to go to the trust. If it is going to the trustee then you are not operating correctly and will lose your corporate veil.
I am concerned about the line of connection regarding possible lawsuits related to our rental property. For that reason, is it better not to have our LLC rentals in our living trust?
Also, should our LLC rentals be under the same umbrella policy as our primary residence?
The trust is used for protection from probate and the LLC is for asset protection. If you remove the LLC from the Trust you will end up probating the LLC. A revocable trust is basically you for asset protection purposes so moving something out of the trust to yourself in a not really changing anything. For insurance you should work with your insurance agent and see what is available. If your primary residence umbrella policy can cover your LLC rentals that is fine. Just make sure the policy in writing is what you have in mind.
Do I need to remove a property from my trust in order to create and LLC for that property and then place it back into the trust or can I create the LLC for the property while it remains in the trust. I am in California. I am not sure if it is a state to state requirement. Thank you for your help.
If you want the property owned by an LLC for asset protection or any other reason, you will have to take the property out of the trust and title it in the name of the LLC. Remember, insurance and taxes will be affected by the move, so make sure you understand those issues before you make the move. California is very expensive to create an LLC in. And you will need two members (not just husband and wife) to get the charging order protection. You should have your trust own your interest in the LLC (the trust will be one of the members.) You are your trust, so you and the trust will not count as two members.
Hello Lee, I’m planning to sell my rentals and my private residence and move cash into stock market soon. Should I create LLC for stocks and place it into trust or will LLC work alone just fine to protect my investments from judgments lawsuits?
Or is there better way than renters insurance + umbrella + LLC for investments and irrevocable trust?
Be very careful. I know tons of people who did well in real estate. I don’t think I know anyone who has done well in the market. You could create an LLC to keep the market investments in. You don’t need the corporate shield to protect you from the market investments. You won’t get sued for investing in the marked. You could lose your money though. A corporation won’t do you any good, but an LLC should give you charging order protection, which would protect the market money from your personal activities. If it is a lot of money (at least a lot in your life) then the LLC would be a good idea. I don’t know which state you are in. The fees for the LLC may be high. Some states require two members of an LLC to get the charging order protection.
Hello Lee, Thank you for your great advice over the past couple of years. I am a real estate broker and a property manager. We have a business LLC and related bank account. Should my real estate management fees and commissions be made out in the name of the LLC? Or, is it sufficient to deposit these funds into the LLC account though they be made out to me?
You will want the checks to be made in the name of the LLC if you conducting the business in the name of the LLC.
This is all very interesting and it sounds like you are offering tons of great advice. I’ve read a lot about a trust being the trustee of a rental property that is in the name of an llc. My question is, is there any benefit to an llc being the trustee of rental property that is in a revocable or land trust? I live in nys and am primarily concerned with liability protection of my personal assets.
An LLC being trustee of a property held a trust wouldn’t make any difference in the asset protection. The property should be held by the LLC and the trust should be the member of the LLC. The LLC would give the trust (you) corporate shield/limited liability protection, and it would give the rental property asset protection (charging order protection) The trust would avoid probate of the LLC when you die.
Dear Lee. Thank you for your information.
In California, is it better to make a trust the single member of the LLC, or to make the trust, say a 95% member and a spouse a 5% member, so the LLC can be treated as a partnership? If the trust is the sole member, should the LLC get its own EIN and file its own return? If so, what’s the best type of entity status (S-corp, C-corp, Corporation, etc)? The family trust is very modest, with only one house which will soon be rented when the LLC is formed.
Thanks for telling me what state you are in. California is a community property state, so a husband and wife are basically considered one economic and legal unit. I don’t know whether the trust and a spouse would be considered two members or not, because of the community property situation. If you are both grantors and beneficiaries of the trust, I would be pretty sure the state would not consider it a multiple member LLC. You need a multi member LLC in the ninth circuit courts for a bankruptcy if you want the charging order protection. I suspect your SS number would be ok if you are running a sole proprietorships (disregarded entity), even if the trust is the member and not you directly. I assume your SS is the tax id for the trust. There wouldn’t be any tax difference if the LLC is taxed as a disregarded entity with one member or a partnership with the trust and spouse. If the income is rents or flips, I would tax it as a disregarded entity with a schedule E or a partnership, but not an S Corporation or definitely!!! Not a C Corporation. How you make income in the LLC should determine the tax choice. Of course, talk to your CPA and/or attorney (cover my ass statement) J
I have properties under our trust. I’m going to apply LLC for our rental properties. Can I put the trust as a member/ manager/ organizer?. How about the SSN that need to be fill out, and what about registered agent? Is the LLC will protect all our asset in the trust?
I’m from HAWAII
The trust will be the member of the LLC. The manager and organizer will be you. The registered agent will be you or you can hire a professional registered agent. The LLC will protect your other assets from lawsuits that arise from the rental property.
The LLC would have to own the rental properties. The trust can transfer them into the LLC. The trust should be the member and you would be the manager. If you have the trust taxed as a sole proprietorship or “disregarded entity” they you would use your SSN, and the IRS wouldn’t know you have move the rental unit into the LLC. If you have more than one member of the LLC, it will have to taxed as a partnership or under subchapter S or chapter C. Then you would have to get and EIN for the LLC. You will be the registered agent for the LLC. It may substantially change your insurance and property taxes to have the rental owned by an LLC instead of a trust. The LLC will not protect the trust or assets in the trust, except that it will benefit from the LLC’s “corporate shield” limited liability. Only assets owned by the LLC will be protected by the LLC.
What would be the different tax rates for it being owned by an LLC? or by a trust? or by an individual?
The rate for you and a living revocable trust should be the same, or even for a land trust. The income will flow through to your return. The LLC can choose its tax structure, so I can’t tell you what the tax consequences for the LLC will be. You will probably choose a passthrough (sole proprietorship or disregarded entity, or partnership), in which case the income will end up on your own return. You can certainly make it so all three: you, trust and LLC have the same tax consequences and there is no difference in the taxes paid.
Will a 2-member MMLLC owned by husband/wife still be a MMLLC if membership is transferred to their living trust?
If, not because the trust would convert it to Single Member, how do you recommend a husband/wife could hold their membership in a living trust while still maintaining the extra protection of a Florida MMLLC?
…and keep it as simple as possible
Florida is a common law state, so husband and wife are separate legal entities. He can have a trust and she can have a trust that are not common to each spouse. It is a good idea for asset protection purposes. The trusts can be two separate trusts or they can be two separate trusts set up as separate divisions in one single trust document.