70% of landlords earn over $90,000 a year, which means that there’s good money to be made. Renting out your property is an excellent way to build your nest egg, but it’s not an easy job.
Not only do you have to worry about maintaining your property, but you also need to keep your tenants happy. On top of that, you have to handle paperwork too. Because of this, many landlords choose limited liability companies (LLCs) for their investments.
Curious about doing the same? Then keep reading for the advantages and disadvantages of an LLC for a rental property.
Advantages of an LLC for a Rental Property
The main benefit of choosing an LLC for any type of business is the reduction of personal liability. As you may have guessed from the name, this means your personal assets are completely separate from the LLC’s. So for example, if your company faces a lawsuit or debt, your personal assets are safe from creditors.
This already sounds great, but what other benefits of an LLC for real estate are there?
Pass-Through Taxation
LLCs are considered pass-through entities (or flow-through ones). The LLC itself doesn’t pay taxes on its profits. Instead, these (and the losses) are passed onto the LLC members. They then report them on their personal tax returns.
This means that there are possible tax benefits of an LLC for a rental property. It helps you avoid double taxation at both the corporate and individual levels. Overall, you may have lower taxes, especially if you (and other LLC embers) are in a lower tax bracket or eligible for certain deductions.
Flexibility in Management
LLC management is very flexible when compared to other business structure types. Your choices are member-managed or manager-managed. Each has its own pros and cons as well, so reading over our guide can be beneficial before you choose the optimal management structure.
This flexibility allows you to structure the management of your rental property in a way that best suits your skills, resources, and preferences.
A Professional Image
You should take every opportunity to improve your credibility and professionalism, and one way to do so is by forming an LLC. Not only will this attract tenants, but also vendors and other stakeholders.
You’ll bring in high-quality tenants and reduce turnover and property damage. In addition, you’ll be able to negotiate favorable contracts with suppliers and establish a positive reputation in the real estate market.
Disadvantages of an LLC for a Rental Property
There’s no doubt that using an LLC for a rental property can be an advantageous move. However, you’ll want to be aware of the drawbacks before doing so. Otherwise, you may hit some snags in the future, which can be worrisome and stressful.
These are the disadvantages you should be aware of.
Cost and Complexity
Setting up and maintaining an LLC involves several costs, such as filing fees, registered agent fees, and ongoing compliance requirements.
Not to mention, there are state-specific regulations as well, which can vary significantly from one jurisdiction to another. You’ll have to thoroughly understand and comply with local laws and regulations, which can require additional time, effort, and resources.
Plus, there are numerous administrative tasks associated with running an LLC. You’ll have to keep meticulous records and file annual reports alongside tax filings. All of these things will require additional time commitments from you.
Fortunately, you can offload the hard work to Business Anywhere. Our business registration service includes tasks like:
- Registered agent service
- EIN application
- Operating agreement
- Shareholder agreement
- Shareholder organizational minutes
- Bank account opening
- Banking resolution
Do note that you must pay extra for some of these services. However, when everything’s added up, it’s still a very reasonable and affordable amount.
Limited Liability Exceptions
While LLCs should provide limited liability protection to their owners, this doesn’t always happen. There are circumstances where it may be disregarded or pierced.
For instance, if you or an LLC member commits fraudulent activities, mix personal and business funds, or personally guarantee LLC loans, then creditors can hold you personally liable. Also, some states have exceptions for certain types of debts or obligations.
Separate Tax Filings
Yes, pass-through taxation simplifies taxation. But it also means that you have to file separate tax returns for your LLC in addition to your personal one.
In turn, this can increase the complexity of tax preparation and potentially incur extra costs. This is especially true if you need to consult with a tax professional to ensure your company’s compliant with laws and regulations.
Additional Taxes
Previously, we said that having an LLC for a rental property can result in tax benefits. But that’s not always the case.
The truth is, there may be tax consequences when transferring property to an LLC. These include title transfer fees and franchise taxes.
Difficulty in Financing
Some lenders may be hesitant to approve loans to rental property LLCs, especially if they’re newly formed or don’t have a significant financial track record.
If you desperately need financing, then this can put unnecessary stress on your shoulders. Plus, it’ll limit the options available, meaning you might have to agree to higher interest rates and down payments.
You may even need to find alternative financing arrangements. If you end up personally guaranteeing an LLC loan, then you may forfeit your limited liability protection as explained in an earlier section.
Handle Your Rental Property Wisely
Rentals are a wise investment; if you handle them correctly, then you’ll have a steady stream of income with little effort.
Now that you know about the advantages and disadvantages of an LLC for a rental property, you can make an informed decision moving forward. Do note that an LLC isn’t right for everyone, nor does it fit every circumstance, so it’s important that you speak with experienced professionals before starting a brand new company.
Sign up with Business Anywhere if you’d like to create an LLC. You can have your real estate business up and running fast with our services.
