What Are The Different LLC Types Used By Real Estate Investors?
LLCs are one of the most popular ways to hold title to a property, providing real estate investors with a number of benefits, including limitation of liability, confidentiality, and asset protection.
Like ice cream, LLCs come in many flavors, and each has its advantages. Here is a short overview of the different LLC types and how they can benefit you.
Single-Member, Husband-And-Wife, And Multi-Member LLCs
Single-member LLC. As suggested by its name, this structure has a single member/owner. These LLCs can be formed quickly and cheaply. A single-member LLC is taxed as a pass-through entity: the owner reports business income or loss on his or her personal tax form while the company doesn't file any taxes.
Husband-and-wife LLC. A married couple LLC includes .... You guessed it ... both spouses as members. Tax treatment can be either pass-through or partnership-type when the LLC is formed in a community state. For more information on the tax treatment of a married couple LLC in community states, check out our article The Different Kinds of LLCs and the Way They Pay Taxes.
Multiple-member LLC. When an LLC has two or more members who are not spouses, each member claims profits and losses on their personal tax returns unless the company elects to be treated as S Corp or C Corp (more on these later).
Member-Managed Vs Manager-Managed LLCs
Many real estate investors take a hands-on approach to LLC management. Others prefer to hire an independent professional to operate the company and represent it in the filings.
Member-managed LLCs. This is a typical structure for a single-member LLC or a company with very few members where the owners are also responsible for the day-to-day operations. It allows each member to have a direct impact on the company's business without limitations.
Manager-managed LLCs. In this scenario, the LLC is managed by a third-party professional manager who leverages his or her expertise in operating the company. This arrangement caters to large LLCs whose operation may become unwieldy if managed directly by members. Manager-managed LLCs offer the members the benefit of passive ownership without the need to take an active role in the business, along with increased privacy.
LLC Tax Classification
LLCs give you flexibility in how you will be taxed. While an LLC is a pass-through entity by default, you may opt for different types of LLC taxation. Here's where things get fun. You stand to save a lot of money, so choose wisely.
Key terms to know:
- Disregarded entity. As mentioned, by default, an LLC is a pass-through entity taxed in the same way as a sole proprietorship. In this case, the owner reports income or loss in his or her personal tax forms.
- General partnership. LLCs with two or more members will be taxed as a partnership. This applies to husband-and-wife LLCs in community states as well. In this scenario, owners would show their proportional share of partnership income in the personal tax return.
- Tax treatment as С Corporation. The owners can also ask the IRS to treat an LLC as either a C Corporation or S Corporation and pay taxes under the corporate tax rate. In this situation, the LLC is responsible for paying taxes on profits while the owners pay taxes on dividends. As this leads to double taxation, a C-Corporation would work for those members who prefer to keep profit in the company.
- Tax treatment as S-Corporation. When an LLC is taxed as an S Corporation, the LLC is not subject to corporate income tax. Instead, the members pay the taxes on the allocated share of the income. Forming an S Corp is more work and can attract more scrutiny; some states also have additional requirements to qualify for S Corp status.
Traditional LLCs Vs Series LLCs
The concept of a Series LLC was introduced in Delaware in 1996 and quickly gained popularity. Today, Series LLCs can be established in Illinois, Iowa, Nevada, Oklahoma, Tennessee, Texas, Utah, and Puerto Rico. While Series LLCs are still not available in other jurisdictions, all states have to recognize LLCs formed in other states.
The Series LLC is different from an LLC in its traditional sense by offering a "parent-child" structure. This lets you create multiple LLCs treated as separate entities for liability purposes while having the same EIN (Tax ID) Number and operating under the "parent" LLC.
Unlike traditional LLCs, which own all assets, Series LLC lets you allocate properties to individual "child series," insulating them from potential claims to other "child series." Meanwhile, the Series LLC is a more cost and tax-efficient structure, allowing to file each one of the "child series" in the same tax return.
LLCs By State
Many real estate investors register LLCs in their home state. Meanwhile, several states have legislation that is particularly friendly towards LLCs, offering numerous benefits in terms of taxation and asset protection. Here is the list of LLC-friendly states where entrepreneurs and investors seeking additional benefits can incorporate (even if they live elsewhere).
Delaware LLC. Traditionally, Delaware provided the most flexible and liberal treatment for entrepreneurs and is a very popular jurisdiction for LLC formation. It was Delaware which has introduced the concept of Series LLC in the United States. Besides tax benefits, ease of LLC maintenance, low annual fees, and chancery court system, Delaware allows LLCs to file privately without mentioning the owners' names in public records.
New Mexico LLC. New Mexico is the only state which provides maximum privacy when forming an LLC. Unlike other states, New Mexico allows those who form an LLC to avoid disclosing their identity to the government, making it fully anonymous.
Nevada LLC. Nevada is another state with a business-friendly environment often chosen by real estate investors for LLC formation. Nevada offers strong privacy protection, doesn't' tax income on the state level, and provides for easy registration.
Wyoming LLC. Being the first US state to allow limited liability companies, Wyoming remains one of the main popular destinations for forming an LLC. With the absence of capital, state, or corporate income tax, Wyoming offers a simple setup procedure with the lowest filing fee of only $50 per year. Wyoming allows creating an LLC without making the owner's name a public record, same as Delaware, New Mexico, and Nevada.
Texas LLC. Texas is famous for its company protection laws. Unlike other states, where bureaucracy is king, the only requirement to ensure an LLC is in good standing in Texas is the "No-Tax Due" filing, which can be done online within minutes. With no annual registration fee, Texas is one the most cost-effective states for LLC formation.
Be sure to check out our article on the tax benefits of an LLC.
Where Do You Begin?
Real estate investors have options for structuring their investments and asset protection. While a traditional single-member pass-through LLC registered in the state of residence continues to be the most popular choice, there are different LLC types that may be better suited for certain situations.
The new structures, such as the Series LLC, provide additional protection by segregating assets among individual child LLCs and further limiting liability. Meanwhile, registering an LLC in one of the most business-friendly states provides for an extra layer of privacy protection, more simple filing, and cost reduction.