LLC . . . LLP . . . S Corp . . . C Corp?!?! For the last week or so, we have been teaching our “How to Profitably Manage Rental Property” workshops around California. It’s odd how each of our teaching trips takes on a theme. Last time, it seemed that nearly every workshop we taught people were in the process of inheriting properties. The trip before that the theme was short sales and buying foreclosures. This trip . . . true to form . . . has revealed it’s theme to us . . . Forms of Ownership. People at every workshop are asking us “What is the best way to take ownership of my rental property to protect myself . . . Living Trust . . . LLC . . . LLP . . . S Corporation?!?!”
This is certainly not our area of expertise, but we can give you some guidance here. I can tell you that owning your property just as a sole proprietor or as a couple is the most vulnerable form of ownership you can have. You can mitigate any financial exposure with general liability insurance but will still have exposure above and beyond the limits of your insurance coverage.
Let me paint an example for you: Someone trips and falls on a loose floor board which had been reported to you as a problem by your Tenant previously. The person who fell is permanently paralyzed and their potential to earn income for their family has been severely impaired due to your negligence. The case goes to court and the judge finds in favor of the injured person;$3.5 million. You have $1,000,000 in general liability coverage. Your insurance company will pay up to the million dollars of coverage you have. But, you are going to have to figure out a way to pay the other $2.5 mil . . . in other words . . . for most of us we would be wiped out financially!
As I understand it (and you will certainly want to consult a knowledgeable real estate attorney on this), if in the example above, you had owned the property as an LLC, LLP or a corporation, you would at least have had a layer between you and the judgement of the lawsuit. That entity would take the hit and not you personally. Of course this all assumes that you are operating that entity as a bonafide business, keeping annual meetings and minutes up to date, etc. Now, that entity’s assets would be vulnerable but you would manage the structure of the entity’s asset holdings.
A living trust, as I understand it, is merely a way to structure your assets so that in the event of your death, your estate will not be subject to the full impact of estate taxes. I don’t believe it will afford you any protection in the event of a lawsuit or unfavorable judgement against the trust. But then I could be mistaken.
This is a great subject to explore at more depth. I would invite any comments or insight any of you may have. I would love to pass more information along to our readers. In the mean time, we will continue to research the subject and bring you new info.
Thank you for reading. We look forward your comments!
Pat and Kris
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