As a rental property owner you are quite accustomed to solving many different kinds of problems! Ensuring you are protected in case something goes wrong is one of the problems.
This is where many owners will say, “I have insurance, so I am protected if something bad happens” It is true that insurance covers accidents, but what happens in you shoot off a text to a renter that can be misinterpreted? That is where the benefits of using a LLC (Limited Liability Company) for rental property ownership becomes most apparent!
This happened to one of my clients after the sale of a property. After the sale took place the buyer emailed asking if my client had replaced the plumbing under the house. My client simply replied the replaced, “all of it.” In context that would be understood as all the plumbing under the house. However, the buyer misinterpreted that email as referring to all the plumbing in the house.
These types of miscommunications happen all the time. Especially now that texting is more and more common between renters and their landlords! This is only one example of an issue that insurance may not cover. This is where the LLC comes in to save you.
How A LLC Benefits Rental Property Owners
The LLC is a powerful entity that separates the liability of your asset from your personal name. When there is a lawsuit against your rental property, it cannot impact your personal assets. It also means that if you are personally sued, your LLC assets will be protected. And when a lawsuit occurs against the LLC it does not impact your personal credit score.
Operating a LLC is quite simple, but must be done properly in order to experience its benefits. Forming a LLC is quite straightforward, but needs to be done correctly the first time. To create a LLC you need to select a name for the LLC which the state approves. After that you choose a registered agent. You will need to file the Certificate of Formation and create an Operating Agreement. Finally, the state will assign you a Employer Identification Number (EIN.)
One LLC is Great! How About More?
A LLC is a great entity, but you rental property still holds a lot of liability. No investor likes having the possibility of losing an entire property to a lawsuit. Because of this many will create additional layers of defence. The first of these layers is a secondary LLC. This LLC carries out the operations of the company. People refer to this LLC as a “shell company.”
The operations LLC doesn’t own any property. It simply functions similarly to a property management company for your “asset holding LLC.” That means it collects rent, pays contractors and carries out the operations of that property. This tag-team duo is called a two-company structure. The operating LLC holds most of the liability and is most likely to be sued. However, you only risk the money in thatLLC. The asset holding LLC is not involved, and thus the rental property is still legally separated.
Have more than one rental property? You can scale your asset holding LLC up to a Series LLC. This entity scales infinitely with your portfolio. In this case you can still be using the operating LLC to carry out the activities for all these different rentals without risking any of your properties directly.