LLC Structure for Rental Properties

[Aequanimitas11]

I have some specific questions regarding LLC logistics for rental properties. My plan is to have one management/administrative LLC to start off. This will have its own EIN, bank account, and business credit card, etc. All initial scouting, research, expenses, etc will come out of this account. Eventually, it will be used to purchase landscaping equipment, business computers, trade subscriptions, etc. I'm in a state that doesn't recognize serial LLCs.

When a property is purchased, it will be put into its own LLC with its own EIN and bank account. Certain expenses and income will be unique to that property and will be transacted in its own bank account.

My specific questions relate to how to properly split up expenses through the "main" LLC?

1) For instance, if I bought lumber for repairs through the main LLC, I could cut a check from a specific property LLC for this amount. This seems more straight forward to me.

2) How do I divvy out other expenses, such as computer, lawn equipment, home office expenses, etc?

3) How does the income get split up? Do I leave it all in the individual property LLCs?

4) Should the main LLC charge a management fee to the other properties, besides dollar for dollar reimbursements? Will this convert passive income to active income?

5) Does the IRS rule about only claiming a loss 2/5 years apply to each individual LLC or my tax returns as a whole? We may be coming up on that rule as we have filed other non-real estate self-employed businesses in the past that showed a loss. Will it reset with a new business?

6) How do I take profit out of a pass through LLC set up like this? Do I just write a check to my personal checking account when necessary?

Thanks in advance!

[The White Coat Investor]

I'll do the best I can, but I'm no individual property guru.

1) Not sure why you need a main LLC. Why not just have that first one do the first property?

2) It all ends up on your tax return, so might as well put it all in the first LLC. I don't think the IRS will care, but someone correct me if I'm wrong.

3) Why not pay it all out to yourself? You'll have to pay tax on it anyway, no? Why would you leave it in the LLCs? What's the point?

4) That's interesting. What would the advantage be? It all goes on your tax return, no?

5) I thin it resets with each new business, but I suppose you may need to convince an auditor that they're really separate businesses, not just the old one renamed.

6) I just do an electronic transfer to my personal checking account from the business checking account periodically. As noted above, you pay taxes on all of it anyway no matter what checking account it is sitting in.

Looking forward to the answers from someone who owns multiple properties, each in its own LLC.

[StarTrekDoc]

Anyone correct me please:

Unless you have multiple properties that you want to insulate from each other from liability, or have multiple different investors for each property, there's no real reason for multiple LLCs.   We had 4 non-second homes in the LLC without issue.  It simplifies all your tasks you mentioned.  Expenses streamlined.

All income is a pass through; by doing LLC to LLC to you, you're just creating more business for your accountant.

Ultimately, you'll still be subject to passive/active income rules of the LLC manager/owner along with self employment double tax if you for unknown reasons pay yourself from the LLC---please don't.

Not sure why charge a fee to yourself.  Again, why create more paperwork and complexity for your accountant?  Are you trying to hind the income stream or the intention of this?

[Aequanimitas11]

Thanks for the quick answers.

WCI - We will open the LLCs sequentially as we go. The thought behind a separate LLC for management/administrative is mostly a bookkeeping reason if anything. If there are $5-10k of startup costs (computer, trailer, mower, tiller, ATV for inspecting large chunks of land, website hosting fees, office furniture, etc), then having all of these in one property's LLC would not accurately represent the profit/loss of that property. By putting these into a designated LLC, my thought is that I can more accurately keep up with bookkeeping.

The reason for the LLCs is multifactorial. I want to do it for liability, organizational, and privacy reasons. I don't want all of these properties in my name, I want to try to keep them separate enough that the corporate veil would be maintained, I want to know exactly what type of financial situation each property is in, and I don't want every patient that sees me to be able to easily do an internet search and see what I own (may have a trust own the LLCs, haven't figured that part out yet).

StarTrekDoc, We are definitely not trying to hide income! I would, in fact, consider having more than on property in each LLC, especially if they were lower cost properties. I do want to avoid lumping all of them together though, in general. The main issue I'm having is figuring out how to split up the above expenses/equipment costs among properties if there is not a separate LLC. If I spend 10k up front, it shouldn't all be attributed to the first property. Also, subsequent big ticket items won't probably apply to just one property. With an administrative LLC/bank account, I can envision  going to office depot and buying printer paper and just reimbursing the main account proportionally out of the properties' accounts. Am I thinking of this incorrectly?

 

[jfoxcpacfp]

First of all, this is not what I would consider a DIY project. Surely you're working with an experienced CPA who is advising you about the process. I agree with the separate LLCs, although it is an administrative nightmare. Too bad your state doesn't allow serial LLCs and maybe the structure will catch up with your legislature soon.

I would use the main LLC as the joint expense account. 'Invoice" the other LLCs for the shared expenses. You'll probably want to have some sort of monthly management fee to invoice the other LLCs for, too, so that LLC will have operating income. I do not believe you will convert passive income to active income unless you can prove that you are a real estate professional due to the common business ownership and the IRS step transaction doctrine.

Yes, direct expenses can be paid by the individual LLC that incurs the expenses.

I'll have to plead ignorance regarding the 2/5 year rule for losses. Perhaps you could direct me to the regulation?

Profits and losses will pass directly through to be taxed or deducted (suspended) on your personal income tax return. You can withdraw money whenever you want, but you are not taking "profits". For example, if you borrow money in one of your LLCs and withdraw some of those funds to your personal account, you are not taking "profit" just cash flow. Kind of semantical (I made that word up), I realize, but also meaningful to understand when you are this involved in your own accounting.

Those are my opinions, but I'm not your CPA - you should get an opinion that you are paying for from the professional who will be signing your tax return. This is a complicated situation and you shouldn't necessarily rely on free advice on an internet forum.

[Aequanimitas11]

Johanna, thanks for the response. I was hoping you would have some insight. And yes, I will definitely be working with a CPA and financial planner, but I'm relatively OCD and need to understand the details and the "why" before hand.

Regarding the 2/5 rule, I had read that you can only claim a business loss a maximum of 2/5 years. From reading online it seems like that is not a hard and fast rule? https://ttlc.intuit.com/questions/2338853-how-many-years-can-i-claim-an-operating-loss-on-my-business

What about having one LLC own the other LLC's. This was recommended on the bigger pockets forum and it seems to make sense.

 

[jfoxcpacfp]

Aequanimitas11 wrote:

Regarding the 2/5 rule, I had read that you can only claim a business loss a maximum of 2/5 years. From reading online it seems like that is not a hard and fast rule? https://ttlc.intuit.com/questions/2338853-how-many-years-can-i-claim-an-operating-loss-on-my-business

What about having one LLC own the other LLC’s. This was recommended on the bigger pockets forum and it seems to make sense.

Click to expand...

You are referring to the IRS "hobby loss" rule. It's really a rule of thumb, not found in the code afaik. It is stated in an article published by IRS as follows:

"The IRS presumes that an activity is carried on for profit if it makes a profit during at least three of the last five tax years, including the current year — at least two of the last seven years for activities that consist primarily of breeding, showing, training or racing horses."

So, thisROTrule works to the benefit of the taxpayer - if the business has had a profit in 2/5 years, the IRS will not continue in its assertion that a business is a hobby. If not, other factors are considered when determining if a business is a hobby. This ROT would not apply to rental property. Thanks to depreciation, many if not most properties report losses for years before the mortgage is paid off.

As for one LLC owning the rest, yes, it can make sense. You just have to have a reason for doing so and that is specific to what you are trying to accomplish. Working with a CPA will help you with your education as you talk over the logistics and your goals.

[StarTrekDoc]

If it's only a matter of your own tracking of which property is earning/expenses, you can do that on your own ledger.  There's no specific need for separate LLCs.   At the end of the day you're paying/expensing yourself and K1 yourself.

Shielding one property liability from another or multiple different investors are the only two reasons I see to adequately justify the bookeeping complexity.  If you setup the first LLC correctly -- was you mentioned, trust  owning LLC and manager is NOT you (ie your name is no where to be found on the LLC structure or any memo), no one will be able to penetrate the ultimate ownership.

I wouldn't bother with multiple LLCs unless on of them is particularly large or multiunit complex.

[adventure]

StarTrekDoc wrote:

If it’s only a matter of your own tracking of which property is earning/expenses, you can do that on your own ledger.  There’s no specific need for separate LLCs.   At the end of the day you’re paying/expensing yourself and K1 yourself.

Shielding one property liability from another or multiple different investors are the only two reasons I see to adequately justify the bookeeping complexity.  If you setup the first LLC correctly — was you mentioned, trust  owning LLC and manager is NOT you (ie your name is no where to be found on the LLC structure or any memo), no one will be able to penetrate the ultimate ownership.

I wouldn’t bother with multiple LLCs unless on of them is particularly large or multiunit complex.

Click to expand...

I fully agree. I cater to my OCD by using Excel. In my opinion, everything you mentioned can be accomplished in Excel, really little to no need for more paper to be filed. With regards to hiding my name, I've never believed someone couldn't dig enough to determine who actually owned the property, although you could may prevent finding through a simple Google Search. As far as liability, I've always though that if something is sufficiently egregious, then an LLC isn't going to stop folks - expensive lawyers are. This is America after all.

I would suggest consulting with a CPA if you'd like such a structure, and probably a lawyer too, to ensure or validate the needs and benefits in your state for such a structure.

If I need to run my rental properties, I'm going to use Excel, and I have sufficient documentation for any new business transactions (e.g. mortgages), and also enough to show details for an Audit. Just my 2 cents.

Another thought is the cost of setting up an LLC. Some states are very reasonable, others are stupid expensive.

Just my 2 cents.

[Bleu]

Having so many separate LLCs sounds like a nightmare to me.  You are not going to want 30 or 50 checking accounts or whatever.  Horrible idea.

The liability risk with having one LLC is a concern.  We use REIguard for rental insurance - which costs us about $40-80/month for replacement cost of our properties along with 1 million liability coverage for each property.  Eventually, if we buy a multifamily, we'll put that in its own LLC.

[jfoxcpacfp]

Bleu brings up a good point. An LLC is not the only method of asset protection. Adequate insurance may do the job just fine with less complication.

[Craigy]

This is really a question for a qualified attorney in your area.  While there is some good advice in here, there is a lot of bad advice in here as well.  You should consult an attorney on this to get this setup the right way from the start.

[Bleu]

You could check out: http://www.nononsenselandlord.com/2016/08/hold-rental-property/

He has some good information on his website and has an LLC structure similar to what you are suggesting, Aequanimitas11.

[Aequanimitas11]

Craigy wrote:

This is really a question for a qualified attorney in your area.  While there is some good advice in here, there is a lot of bad advice in here as well.  You should consult an attorney on this to get this setup the right way from the start.

Click to expand...

Would you be able to elaborate? I obviously will be enlisting a CPA and attorney but it is obviously not cut and dry and this is a great forum to have these discussions.

[StarTrekDoc]

Craigy is absolutely correct. The Forum is a nice place to get opinions and options as variety is wide, especially on financial issues.

The take home message is get a real estate lawyer for proper setup and a CPA familiar with multiple properties. The rest is a matter of your personal flavor on complexity and management.