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  • Rental property mortgages and LLCs

    I don't yet have real estate investing experience, but after stumbling on PIMDCON through the WCI monthly newsletter, I've been consuming books and podcasts as quickly as I can. I'm interested in using long term rentals that I'd manage through a property manager to build long term wealth alongside my physician income.

    As I've projected how this might go over the next several years, I've had a hard time conceptualizing the lending portion. I think I understand the pros/cons of mitigating liability by placing properties in LLCs vs. taking on additional umbrella insurance; my gut feeling is that the former is better - even if I don't have significant assets now, the physician job description feels like a target. It seems, though, that the former approach essentially takes my need for conventional mortgage(s) and turns them into commercial ones. Reading through the various physician FB groups where this is discussed, I get the sense that people have generally taken on personal mortgages, transferred properties to LLCs, and then just hoped their lender wouldn't exercise its Due on Sale clause. I've also read articles from the last few years arguing that Fannie Mae guidance now suggests that lenders allow individuals to transfer properties to LLCs that they own individually. That hasn't seemed to keep this problem from coming up.

    What's the right way to think about this? Do most people just end up getting conventional mortgages for their first 4 properties and keeping them out of LLCs, to benefit from the lower rates? Aside from buying properties in cash, is there any other way around this problem?

  • #2
    As a real estate investor you're better off owning your property in an LLC for asset protection and as a physician you'll have no trouble getting a bank loan. I've been a real estate investor for 16 yrs and having property in an LLC has never been a problem.

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    • #3
      Originally posted by Urojet View Post
      I don't yet have real estate investing experience, but after stumbling on PIMDCON through the WCI monthly newsletter, I've been consuming books and podcasts as quickly as I can. I'm interested in using long term rentals that I'd manage through a property manager to build long term wealth alongside my physician income.

      As I've projected how this might go over the next several years, I've had a hard time conceptualizing the lending portion. I think I understand the pros/cons of mitigating liability by placing properties in LLCs vs. taking on additional umbrella insurance; my gut feeling is that the former is better - even if I don't have significant assets now, the physician job description feels like a target. It seems, though, that the former approach essentially takes my need for conventional mortgage(s) and turns them into commercial ones. Reading through the various physician FB groups where this is discussed, I get the sense that people have generally taken on personal mortgages, transferred properties to LLCs, and then just hoped their lender wouldn't exercise its Due on Sale clause. I've also read articles from the last few years arguing that Fannie Mae guidance now suggests that lenders allow individuals to transfer properties to LLCs that they own individually. That hasn't seemed to keep this problem from coming up.

      What's the right way to think about this? Do most people just end up getting conventional mortgages for their first 4 properties and keeping them out of LLCs, to benefit from the lower rates? Aside from buying properties in cash, is there any other way around this problem?
      The LLC issue isn't a problem. You'll have to sign personally anyway.

      The 4 mortgage issue is a bigger deal to work around. You either have to get creative (sellers hold mortgage) or pay off some loans and take out bigger loans on the other properties. For example, you have 8 properties and instead of having each with a 40% mortgage you have 8 properties, only 4 have mortgages, but the mortgages are 80%.

      If your umbrella doesn't cover the property because it is LLC owned, then make sure you increase your liability insurance appropriately. $50K isn't enough.
      Helping those who wear the white coat get a fair shake on Wall Street since 2011

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      • #4
        Your LLC can have an umbrella. $500 will give you $2-5M of coverage.

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        • #5
          This is not an either or situation. We have both umbrella liability, both personal and commercial for our real estate investment properties, and we strategically use LLCs when appropriate.

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          • #6
            Originally posted by The White Coat Investor View Post

            The LLC issue isn't a problem. You'll have to sign personally anyway.
            Do you mean a personal guarantee for a commercial loan within the LLC? If that doesn't pierce the veil from the standpoint of co-mingling personal and LLC finances and thus weaken the asset protection benefit, that seems to be the way to go.

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            • #7
              Originally posted by White.Beard.Doc View Post
              This is not an either or situation. We have both umbrella liability, both personal and commercial for our real estate investment properties, and we strategically use LLCs when appropriate.
              I thought it could be either/or if there were a way to simultaneously 1) benefit from the lower rates of conventional mortgages, and 2) maintain strong asset protection with respect to overall liability. It doesn't seem that there's a way to obtain conventional mortgages for properties held within an LLC, thus motivating the various articles I've come across that argue alternatives like beefing up insurance instead of using an LLC, or (more risky, IMO) just transferring the property from your name into an LLC after purchase and hoping the lender doesn't exercise the Due on Sale clause.

              To summarize, the safest option seems to be buying property with a commercial mortgage through an LLC - likely requiring a personal guarantee - and then obtaining whatever additional insurance is reasonable. Does that all sound right?

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              • #8
                Originally posted by Urojet View Post

                It doesn't seem that there's a way to obtain conventional mortgages for properties held within an LLC, thus motivating the various articles I've come across that argue alternatives like beefing up insurance instead of using an LLC, or (more risky, IMO) just transferring the property from your name into an LLC after purchase and hoping the lender doesn't exercise the Due on Sale clause.
                You are overthinking this.

                Most active small real estate lenders purchase in their own name with a conventional mortgage. Many then transfer the property into an LLC, but that step could be considered optional.

                I know many RE investors. Lenders do not call performing loans, so this "calling the loan" is a theoretical concern that is not even an issue.

                I have owned multiple rental properties for decades. While there is a small risk of liability, that risk is quite low for well managed properties. We are not at all concerned about liability risk, but we do carry 10MM in umbrella liability on all properties. That will take care of 99.9% of all issues that come up. If you want to get your protection to 99.99% of all situations, then sure, go crazy and add the LLC layer.

                A lot of new RE investors get stuck at the reading books stage, and then even more get more get stuck at the forming an LLC before buying stage. This is the tail wagging the dog. If you want to be a successful RE investor, get out there, look at properties, and run the numbers on the projected investment returns. Don't overthink the rest of it or you will never even get started.

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                • #9
                  Thanks for the input WBD. I've read lots of your posts over the years and have been very impressed by your RE experience. I was hoping you'd chime in on this topic.

                  Originally posted by White.Beard.Doc View Post

                  Most active small real estate lenders purchase in their own name with a conventional mortgage. Many then transfer the property into an LLC, but that step could be considered optional.

                  I know many RE investors. Lenders do not call performing loans, so this "calling the loan" is a theoretical concern that is not even an issue.
                  After PIMDCON I joined a few of the REI and Physician REI FB groups where people seem to discuss these sorts of questions. They're private groups and so I can't link to it, but within the Semi-Retired Physicians group this exact situation came up this Spring. A physician bought a property under her name with a conventional mortgage, transferred to LLC, and the lender called the loan. This set off a discussion with 65 responses, with most being along the lines of "jeez, I knew that was possible, but didn't think it actually happened - sorry!" Kenji from Semi-Retired MD linked to a blog post he had written with 2017 guidance from Fannnie Mae suggesting that this sort of transfer should be allowed (https://semiretiredmd.com/due-on-sale-clause/). I very much respect your opinion and experience, but if you were just starting out and took out a conventional loan for more money than you have in order to buy a rental property, wouldn't signing for the mortgage make you nervous - even if the possibility of them calling is remote?

                  Originally posted by White.Beard.Doc View Post

                  I have owned multiple rental properties for decades. While there is a small risk of liability, that risk is quite low for well managed properties. We are not at all concerned about liability risk, but we do carry 10MM in umbrella liability on all properties. That will take care of 99.9% of all issues that come up. If you want to get your protection to 99.99% of all situations, then sure, go crazy and add the LLC layer.
                  To be fair, I'm not coming up with these ideas myself or out of the blue - they were various topics of talks during PIMDCON. There was one talk on asset protection, for example, where the speaker suggested holding properties within individual LLCs, and then those within a Wyoming LLC because of that state's particularly strong laws with respect to protecting anonymity. As I've researched this question on the Bigger Pockets forum, it has seemed that people are willing to take out commercial loans if it means getting to hold their properties within LLCs. I thus didn't get the sense that this was such a reach of an idea, but thanks for the perspective.

                  When you were starting out, did you do any of your investing with business partners? If so, didn't that reintroduce the same problems of lending within an LLC?

                  Originally posted by White.Beard.Doc View Post
                  A lot of new RE investors get stuck at the reading books stage, and then even more get more get stuck at the forming an LLC before buying stage. This is the tail wagging the dog. If you want to be a successful RE investor, get out there, look at properties, and run the numbers on the projected investment returns. Don't overthink the rest of it or you will never even get started.
                  I definitely get this. Though it’s actually the way that I backed into this lending question in the first place. I want to start running numbers on specific properties, but to do that figured I first needed to clarify what the terms of the mortgage I’d use would be.


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                  • #10
                    We use a mix of both. You cannot get a conforming loan (Fannie/Freddie) to an LLC. You can re-title a home into an LLC after the mortgage.

                    You can get "portfolio" loans that are maintained within a financial institution. This is more common in a small bank, credit union, or a bank you have a solid relationship with.

                    In our investments, if a house is generally livable or needs a small rehab that won't be worth cashing out, then I simply buy in my name, get it rented, then transfer to the LLC.

                    If the house needs a significant rehab, then this is when I am most concerned for liability, so I will buy in the LLC, rehab it, transfer to my name once it is rented, do the cash out refi into a conforming loan, then back to a different LLC after the loan closes.

                    I have a $300k per house and a $5mm umbrella policy to cover any time the house is in my name, and it also covers anything that should happen inside the LLC.

                    You'll hear many experts tell you that you risk the loan being called if you put it in an LLC, but it has been put into the code that it is legal.

                    https://guide.freddiemac.com/app/guide/section/8406.4

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                    • #11
                      Originally posted by Urojet View Post
                      To be fair, I'm not coming up with these ideas myself or out of the blue - they were various topics of talks during PIMDCON. There was one talk on asset protection, for example, where the speaker suggested holding properties within individual LLCs, and then those within a Wyoming LLC because of that state's particularly strong laws with respect to protecting anonymity.
                      It is helpful to understand the perspective of the speakers in each of these real estate conferences. The guys setting up the conference get a lawyer who specializes in asset protection to explain the complex LLC structure with the parent LLC in Wyoming and the state specific LLCs for each of the properties. The person setting up the conference may get fees for allowing the lawyer to speak, or they may barter for free services for their own investments. Do you know how that speaker makes his living? He makes his living by getting the attendees at the conference to set up complex LLC structures. Yes, there are legitimate reasons you may want a multi-layer asset protection plan, but is the juice worth the squeeze? The "advisers" at these conferences are biased in favor of more asset protection, more expensive, more complex. I would recommend that you stick with direct ownership to start, with a robust umbrella liability policy, and when your net worth gets to multi-millions and you own multiple properties, at that point you can go ahead with the expensive LLC setup.

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                      • #12
                        Originally posted by Molar Mechanic View Post
                        In our investments, if a house is generally livable or needs a small rehab that won't be worth cashing out, then I simply buy in my name, get it rented, then transfer to the LLC.
                        https://guide.freddiemac.com/app/guide/section/8406.4
                        In this scenario, are you referring to a conventional loan in your name? After the transfer, does it still count as a conventional loan in your name, or does this simultaneously solve the problem of escalating restrictions beyond 4 and 10 mortgages?

                        Originally posted by White.Beard.Doc View Post

                        It is helpful to understand the perspective of the speakers in each of these real estate conferences. The guys setting up the conference get a lawyer who specializes in asset protection to explain the complex LLC structure with the parent LLC in Wyoming and the state specific LLCs for each of the properties. The person setting up the conference may get fees for allowing the lawyer to speak, or they may barter for free services for their own investments. Do you know how that speaker makes his living? He makes his living by getting the attendees at the conference to set up complex LLC structures. Yes, there are legitimate reasons you may want a multi-layer asset protection plan, but is the juice worth the squeeze? The "advisers" at these conferences are biased in favor of more asset protection, more expensive, more complex. I would recommend that you stick with direct ownership to start, with a robust umbrella liability policy, and when your net worth gets to multi-millions and you own multiple properties, at that point you can go ahead with the expensive LLC setup.
                        Totally get it. The speed with which I received an e-mail and phone call from that firm after I downloaded their "ebook" made clear what the motivation was. At the same time, I attended a free conference with great free talks. No hard feelings here.

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                        • #13
                          Was actually wondering what to do with rental properties when max out debt to income levels for conventional loans. I think with rates as they currently are, a 400K physician income will allow for up to 3-4mil in property loans. If you are at those limits and want to add another property, and don't want to pay cash, I don't see or know of banks eager to lend more, or those that won't count those mortgages as part of their DTI calculations.

                          I hear what WCI mentioned on paying off loans and taking bigger loans. Any other options? I suppose could always free up cash by leveraging investments and having same market exposure then in 2x or 3x form. Seems risky. Although, maybe 2 nickels vs 1 dime.

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                          • #14
                            Originally posted by auggie1983 View Post
                            Was actually wondering what to do with rental properties when max out debt to income levels for conventional loans. I think with rates as they currently are, a 400K physician income will allow for up to 3-4mil in property loans. If you are at those limits and want to add another property, and don't want to pay cash, I don't see or know of banks eager to lend more, or those that won't count those mortgages as part of their DTI calculations.

                            I hear what WCI mentioned on paying off loans and taking bigger loans. Any other options? I suppose could always free up cash by leveraging investments and having same market exposure then in 2x or 3x form. Seems risky. Although, maybe 2 nickels vs 1 dime.
                            Once you have cash coming in from the properties, they shouldn't hurt your DTI ratio. If the properties are self supporting (this is why you need the lease in place) then the mortgage should count as zero cost to you. I haven't gotten to the point of testing my DTI, so take that with a grain of salt. I'll likely never get there.

                            So far as the 10 loan fannie/freddie loan rule, the loan is still in your name. The deed has simply shifted to an entity that you control. You are still 100% liable. We have done all of our conforming loans in only one spouses name, which should allow for up to 20 loans. We're doing the first 10 in my name as I have the income, then hopefully can do 10 more in my spouses name and she can count rental property income. That may or may not work out, but it's a long way off.

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                            • #15
                              Yea, I would like to think that's the case, I got close-ish at one point, lender wasn't taking off other loans in calculating DTI even though the properties were very cash flow positive, don't know if lender just didn't think it was going to be close enough where it mattered, or if underwriter was unwilling.

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