Own Rental Property as an LLC

by | Apr 5, 2017 | Firm News

You should own their commercial rental property in a limited liability company to protect your other assets and savings from claims and liability for the actions or omissions of tenants, contractors and others. All sophisticated and well-advised owners of real estate do.

We practice what we preach. All of my family’s apartment buildings are owned by limited partnerships and limited liability companies. My law practice is a limited liability partnership. Before I had partners, the lawyers I employed all worked for my professional corporation.

Putting your rental property in a limited liability company is easy, fast, inexpensive, and provides a lot of protection.

There are no federal filing fees or taxes. The owners just show the income and expenses on their federal income tax return the same way they do now, as if the company does not exist. The IRS and the Internal Revenue Code treat a limited liability company owned by only one person or a married couple as a “disregarded entity.” The company does not file any federal tax return. Even if there are more owners, the LLC is treated the same as a partnership. The partnership files an IRS Form 1065, issues K-1’s to the owners, and they show their shares of income and expenses on their own 1040’s.

The filing fee with the California Secretary of State is $70.00. The form and instructions are available at www.sos.ca.gov. In the left column, click on Business Entities and click on Forms-and-Fees. The annual California franchise tax is $800.00. There is an additional fee that starts at $900.00 for LLC’s with gross revenues of $250,000.00 or more, and rises in steps to a maximum of $10,789.00 for any year in which the LLC’s gross revenues are $5,000,000.00 or more. This will only happen when the property is sold.

The deed to convey the property from the current individual owners to the LLC will not change the property taxes or incur an expensive transfer tax. It will take me about half-an-hour, $150.00, to prepare the deed, and the county recorder’s fee will be about $20.00.

If you have more investors than just you or you and your spouse, then you will need an Operating Agreement to govern how the property will be operated and managed, who will make decisions, and how income, expenses and cash available for distribution will be shared. If you have more than just a couple of close friends or family as investors, then you should have them all sign a Subscription Agreement, too. We prepare these for fixed price of $1500.00.

When any employee is injured on the property, the employee can only collect workers compensation from the employer. Workers compensation is not enough to cover all of the employee’s expenses and losses. So the employee will look for someone else to sue. The owners of the property are usually potential targets. Customers, clients, independent contractors and employees of contractors, anyone injured while on the property, is a potential claimant and plaintiff against the owners of the property.

Your first line of defense is to always act reasonably. Your second line of defense is to have comprehensive and adequate general liability insurance (not for breach of contract claims). Umbrella coverage is relatively affordable. An $800.00 per year LLC provides a whole additional layer of protection, potentially limiting the defendant to just the insurance and the property, and protecting all the owners’ other assets and savings.

Insurance companies are always looking for an excuse to deny coverage. Mold, asbestos and other hazardous materials are almost always excluded. Late payments of premiums. Mistakes on the insurance application. I’ve seen all of these used to deny coverage and make the defendants pay for their own legal fees and expenses.

As important as the indemnity against claims is, the insurance company’s agreement to provide your legal defense is just as important, or more. Legal fees for a personal injury, with complex medical issues and expert medical and economic issues, can easily exceed $100,000.00 in legal fees, expert fees, and expenses.

Claims by the tenants or contractors for breach of contract are not covered by insurance. Assigning existing leases to the LLC will not protect the owners against claims for breach of contract, but all future renewals, tenant assignments and new leases should name the LLC as the landlord, in order to afford this same protection.

An LLC that limits the plaintiff to just the equity in the property can provide a strong incentive to force the plaintiff to settle for what he can get from the property and leave the owners and their other property alone.

Putting your rental property in a limited liability company is easy, fast, inexpensive, and provides a lot of protection.