Whether you are renting a vacation home or own a portfolio of properties, landlords should consider using an ownership structure that helps protect their interests and assets. The best structure to put in place for rental properties depends largely on what you are trying to protect against. For most people limiting liability is the primary goal. However, others are more concerned with maintaining privacy. Additional considerations may include, minimizing potential estate taxes, avoiding probate, and maintaining cohesive ownership at the next generation.
One of the most common ownership structures people use for rental properties is the limited liability company (LLC). As the name implies, the main feature of the LLC is that the owners (referred to legally as members) enjoy some amount of liability protection. This liability protection generally protects an LLC’s members’ personal assets from creditors of the LLC. For people who own multiple rental properties, further protection can be achieved by holding each property in a separate LLC. For example, if two rental properties were both owned by a single LLC any lawsuit with respect to one property would jeopardize both properties should the suit be successful.
Using an LLC structure to own rental real estate can have potential drawbacks. If property subject to a mortgage is contributed to an LLC, the lender may consider this a change of ownership that triggers a “due-on-sale” clause. In this case the property owner(s) may be required to repay the loan in full, or refinance. Additionally, it can be difficult to obtain financing when the collateral is held in an LLC. Other LLC considerations include the necessity to adhere to some level of corporate formalities in order for a court to respect the liability protection. Annual filing fees, tax reporting, and state specific regulations are other items an LLC owner needs to be aware of.
Trusts can also be used to hold both rental and personal real estate. There are various types of trusts, and the structure to choose should be based on a detailed analysis of the property owner(s) specific situation. At a high level, there are two main types of trust structures that are commonly used – these are known generally as revocable and irrevocable trusts.
A revocable trust is a type of trust that, as the name implies, can be changed or terminated at any point by the person(s) that create the trust – typically referred to as the grantor(s). Revocable trusts have certain estate planning benefits, such as probate avoidance. However, because the grantor retains absolute control over the assets in the trust, these types of trusts do not offer liability protection, remove the assets from the grantor’s estate, or shield assets for Medicaid planning.
Irrevocable trusts are just the opposite. The grantor irrevocably parts with the assets put into the trust, which are then managed by a trustee for the benefit of one or more beneficiaries. The trust property is protected from liability because the grantor gives up complete control and no longer has ownership. Unlike with revocable trusts, assets transferred to an irrevocable trust are generally removed from the grantor’s estate and protected from Medicaid after a certain amount of time has passed.
Sometimes rental real estate owners’ setup a structure that involves both a trust and an LLC – typically the trust would own the LLC. These structures can be quite complex and are generally more costly to put in place and administer.
Ultimately, the choice of business structure to use depends on the owners’ specific circumstances and goals. Engaging with an experienced attorney is critical before deciding on, and implementing anyone of these strategies.
Rialto Wealth Management is a fee-only, fiduciary, advisory firm based in Syracuse, NY. From financial planning to investment management, we help families across New York and beyond. We can be reached by phone at (315) 992-9129 or via email through our website’s secure and confidential contact page.
Asset Protection: Investment Properties
October 23, 2024 by Mike Antonacci
Whether you are renting a vacation home or own a portfolio of properties, landlords should consider using an ownership structure that helps protect their interests and assets. The best structure to put in place for rental properties depends largely on what you are trying to protect against. For most people limiting liability is the primary goal. However, others are more concerned with maintaining privacy. Additional considerations may include, minimizing potential estate taxes, avoiding probate, and maintaining cohesive ownership at the next generation.
One of the most common ownership structures people use for rental properties is the limited liability company (LLC). As the name implies, the main feature of the LLC is that the owners (referred to legally as members) enjoy some amount of liability protection. This liability protection generally protects an LLC’s members’ personal assets from creditors of the LLC. For people who own multiple rental properties, further protection can be achieved by holding each property in a separate LLC. For example, if two rental properties were both owned by a single LLC any lawsuit with respect to one property would jeopardize both properties should the suit be successful.
Using an LLC structure to own rental real estate can have potential drawbacks. If property subject to a mortgage is contributed to an LLC, the lender may consider this a change of ownership that triggers a “due-on-sale” clause. In this case the property owner(s) may be required to repay the loan in full, or refinance. Additionally, it can be difficult to obtain financing when the collateral is held in an LLC. Other LLC considerations include the necessity to adhere to some level of corporate formalities in order for a court to respect the liability protection. Annual filing fees, tax reporting, and state specific regulations are other items an LLC owner needs to be aware of.
Trusts can also be used to hold both rental and personal real estate. There are various types of trusts, and the structure to choose should be based on a detailed analysis of the property owner(s) specific situation. At a high level, there are two main types of trust structures that are commonly used – these are known generally as revocable and irrevocable trusts.
A revocable trust is a type of trust that, as the name implies, can be changed or terminated at any point by the person(s) that create the trust – typically referred to as the grantor(s). Revocable trusts have certain estate planning benefits, such as probate avoidance. However, because the grantor retains absolute control over the assets in the trust, these types of trusts do not offer liability protection, remove the assets from the grantor’s estate, or shield assets for Medicaid planning.
Irrevocable trusts are just the opposite. The grantor irrevocably parts with the assets put into the trust, which are then managed by a trustee for the benefit of one or more beneficiaries. The trust property is protected from liability because the grantor gives up complete control and no longer has ownership. Unlike with revocable trusts, assets transferred to an irrevocable trust are generally removed from the grantor’s estate and protected from Medicaid after a certain amount of time has passed.
Sometimes rental real estate owners’ setup a structure that involves both a trust and an LLC – typically the trust would own the LLC. These structures can be quite complex and are generally more costly to put in place and administer.
Ultimately, the choice of business structure to use depends on the owners’ specific circumstances and goals. Engaging with an experienced attorney is critical before deciding on, and implementing anyone of these strategies.
Rialto Wealth Management is a fee-only, fiduciary, advisory firm based in Syracuse, NY. From financial planning to investment management, we help families across New York and beyond. We can be reached by phone at (315) 992-9129 or via email through our website’s secure and confidential contact page.