It’s common for someone to start a limited liability company (LLC) when it comes to investing in real estate. An LLC protects you, as the business owner, from your own actions as well as the actions of others. It may not seem like a natural next step as a real estate investor, but it can be a very smart one. Starting an LLC can be intimidating, but it’s worth the time it takes. It is an integral part of your own real estate investment company.
Real estate investors are drawn to the protection that an LLC can offer. While LLCs aren’t your only option, real estate investors usually find them to be the most attractive option.
A limited liability company is a corporate structure that’s its own distinct legal entity. This means that an LLC can open a bank account and obtain a tax ID number under its own name. This translates into the owners, often called members, having “limited liability”, where they aren’t personally liable for the debts or liabilities of the LLC. LLCs are essentially hybrid entities that combine the characteristics of a corporation and a partnership or sole proprietorship.
It’s important to note that each state may have different regulations for an LLC. Check with an attorney in your state to see what rules and regulations would apply to you, which could conflict with the most common practices.
Most states do not restrict ownership, so members can include individuals, foreign entities, and other LLCs, and there is no maximum number of members. Most states also allow single-member LLCs, whereby they only include one owner.
Advantages of an LLC:
- Pass-through taxation. You won’t need to file a corporate tax return. Owners individually report their profits and losses on their individual tax returns so there isn’t double taxation.
- Legal protection. You have limited liability for the LLC’s debts and liabilities.
- No residency requirement. You don’t need to be a U.S. citizen or permanent resident.
- Credibility. Partners, suppliers, and lenders will all take you more seriously if you’ve formed an LLC.
To form your own LLC, you need to first decide on a company name that complies with your state’s LLC rules. Next you will file paperwork, usually called “articles of organization” (some states call it a “certificate of formation” or “certificate of organization”), and pay the filing fee, which varies by state, but is rarely more than a few hundred dollars. These documents are usually short and simple. In most cases, you will also be required to name a “registered agent” (usually one of the LLC members), who is the person that will receive all legal papers in any possible future lawsuit.
Next you need to create an LLC operating agreement, which defines the rights and responsibilities of each of the members. Operating agreements don’t need to be filed with the LLC office and aren’t usually required by state law, but it is important for you to create one. In this agreement, you will set out the rules for the ownership and operations of the business. This is a lot like a partnership agreement or corporate bylaws. Typically, an operating agreement states the members’ percentage interests in the business, the members’ rights and responsibilities, the members’ voting power, how the business will be managed, rules for meetings and notes, how profits and losses will be dealt with, and a “buy-sell” provision, which states what will happen if a member wants to sell their interest, becomes disabled, or dies.
Lastly you will obtain your licenses and permits. Once you’ve completed the above steps, you officially have an LLC. You then may need a business license, a federal employer identification number, a sellers’ permit, or a zoning permit. None should be difficult to acquire with the LLC in place. Now you’re ready to start investing under the name of your new LLC!
Going through these steps is advantageous as a real estate investor because you’ll likely be putting a lot of money into deals and you want to be able to protect yourself and your finances. An LLC will limit personal liability when it comes to lawsuits related to your investment, and this is often the biggest reason why one might start an LLC. If there is a lawsuit against the property, then the owner’s risk exposure will be protected by the company. Only assets owned by the LLC, and not the owner’s personal assets, would be at stake.
Whether you’re a seasoned real estate investor, or just starting out, an LLC is something you should consider in real estate investing.