When it comes to managing and protecting your rental property business assets, an LLC is a must. Find out the necessary steps to create an LLC and move your property under its protection.
What Is an LLC?
An LLC (Limited Liability Company) is a business structure that protects owners from being held personally liable for the repayment of debts or liabilities. Once formed, the LLC will act as the owner rather than one individual person.
Someone falls off the back porch of your property and breaks their hip. They can sue you to pay for medical expenses and more. If the amount exceeds what your insurance policy covers, the LLC will protect your personal property.
Benefits and Drawbacks of an LLC
Here is a list of the benefits and drawbacks of starting an LLC for your rental property:
|Separation of personal and business accounts
|Protect your personal liability
|Property financing issues
8 Steps to Creating an LLC for a Rental Property
Here are the steps you need to create an LLC for your rental property.
- Talk with Your Lender
- Choose a Name and Register It
- Find a Registered Agent
- Fill Out and File The Articles of Organization
- Craft an Operating Agreement
- Divide Personal and Business Assets
- Transfer Your Title
- Update Existing Rental Leases
1. Talk with Your Lender
If you already own the property, you need to speak with your lender ASAP. Some lenders will not allow you to transfer your mortgage under an LLC. You will need to discuss your options and see if you can refinance, modify your loan type, or work with another lender.
If you purchased the home as your primary residence, be aware of the occupancy requirements of your loan type.
USDA loans don’t allow for rentals at all. Not all situations allow for buying a home and renting it immediately. Even if you have met the occupancy requirements for your loan type, you still may be unable to rent it out.
2. Choose a Name and Register It
Your LLC Name has to be available and legal. You can use a name search tool online to make sure the name you want to use is available. Each state has laws that restrict certain words from being a part of your name. For example, many states fully restrict the use of “bank”, “trust”, or “inc” in the LLC name.
The Secretary of State’s office in your state will have a list of rules and restrictions so you know what to avoid.
Depending on how many houses you plan to scale to, it’s not a bad idea to check out social media sites and the internet to see if the name you plan to use is already taken. The ability to post available rentals under your LLC name on Instagram or Facebook may be beneficial in the future.
3. Find a Registered Agent
Each LLC is legally required to list a registered agent. A registered agent is a person (or business) designated to receive legal paperwork on your behalf. The requirements for a registered agent vary by state. Typical requirements for a registered agent include:
- If the registered agent is a person, they must have a physical address in your state and be over 18.
- If you use a company, the company must be authorized to do business in your state.
You can also be your own registered agent. But, keep in mind the LLC documents will become public records and your name will be attached. You must also be responsible for all legal documents or notices for your LLC.
Registered Agent Services
Many landlords opt to hire a Registered Agent Service. This can be beneficial if you live out of state or don’t have a person to list as your registered agent.
Registered agent services can be found online and typically cost in the range of $99 to $300 per year based on which company you select.
Be sure your registered agent knows how to keep your LLC active. There is ongoing annual or biannual paperwork that must be filed to keep the LLC current.
4. Fill Out and File The Articles of Organization
To officially establish an LLC, the articles of organization (sometimes called a certificate of formation) must be filed. The document typically contains your business information and the contact information for the person who can receive lawsuits on the LLC’s behalf.
Each state’s articles of organization vary but some include information regarding the purpose of the LLC and the names of the owners.
Once you have completed the paperwork, you will need to file with the Secretary of State’s office, a Business Bureau, or a Business Agency and pay a fee.
How Much Does It Cost to File for an LLC?
State laws require all business owners to pay a filing fee to form an LLC. The cost varies by state. Check out the list below for the filing fee in your state.
|LLC Filing Fee
Are There Additional LLC Fees?
Yes, most states have annual fees or biennial fees that must be paid to keep your LLC active.
5. Craft an Operating Agreement
Operating agreements are only required in some states (California, Delaware, Maine, Missouri, and New York). However, it is a good idea to create one even if it is not required.
The operating agreement will outline the structure of your company. It provides a framework for how decisions are made, including finances. It should provide an overview of each member’s duties and responsibilities.
There are several operating agreement templates available online. If you want to create your own, here is a list of things to include:
- Company information
- Information for each member
- Distribution of assets
- Rules regarding how members can be added, leave the LLC, or compete against the company
- Management plan
- Tax structure
- Duties and responsibilities of each member (administrative tasks, legal paperwork, income and taxes)
It is a good idea to look over your plan with a lawyer and tax professional. They can help you organize the information and be sure you are setting up the structure in a way that is most beneficial to you.
6. Divide Personal and Business Assets
To maintain the liability protection of an LLC, you are legally required to divide your business and personal expenses.
Start by opening a business checking account specifically for your LLC. You can then obtain a business credit card to use specifically (and ONLY) for your business expenses. It is essential to maintain receipts for everything and be very cautious not to commingle funds.
You should also get an employer identification number (EIN) from the IRS. This makes much of your business accounting easier, especially if you have at least one employee. To get an EIN, fill out Form SS-4 from the IRS and send it in. It’s free!
Consider using business accounting software to help you keep track of income and expenses. This can especially pay off during tax season. Most accounting software sites offer a free trial and start as low as $9 a month.
7. Transfer Your Title
You need to transfer your property deed into the name of your LLC so you are no longer held personally liable. To complete the transfer, get a copy of your property deed and fill out a Quitclaim Deed at your local County Clerk’s office.
It’s a good idea to talk with a lawyer if you are nervous about this process.
Ensure you have discussed your plans with your lender. Many mortgage companies have an acceleration clause that calls the entire mortgage amount due if the property is transferred or sold.
8. Update Existing Rental Leases
If you have any existing rental leases, they need to be updated to show the property ownership change to the LLC. This is critical should an issue arise during the remainder of the lease.
Be sure that all future rent or utility payments are deposited into your new business account.
Creating an LLC for an Out-of-State Rental Property
There are only a few extra steps for setting up an LLC for an out-of-state rental property:
- Check state-specific guidelines – rules for LLCs vary by state. Be sure your LLC meets all of the out-of-state requirements
- In-State Registered Agent – your registered agent will need to live in the state of the property. You will still have to pay the registered agent fee which may be more expensive for an out-of-state option.
- Tax Changes – You will likely be taxed differently based on the laws in the state the property is in. You may also be double taxed if you are required to pay additional taxes in your home state. It’s a good idea to chat with a tax professional to know what to expect.
What States Are Business-Friendly for LLCs?
Check out the table below for the top states to have an LLC and the benefits of having an LLC in their state:
Keep in mind, that filing your LLC only pays off if you also conduct business in these states. For example, setting up your LLC in Wyoming but owning property in California won’t save you any money.
Insurance Protection for Rental Properties
Landlords can add additional insurance protection to help cover their personal assets in case of a lawsuit. These insurance policies can be added protection for your LLC or stand-alone.
Landlord insurance helps to cover your physical property as well as your personal liability. It typically covers legal expenses and medical bills if someone is injured on your property. Many insurance companies offer additional coverages including:
- Weather repair
- Vandalism repair
- Burglary repair
- Building code updates
On average, the cost of landlord insurance is $1,516 per year.
It’s also important to consider requiring your tenants to have renters insurance. At an average of $12 a month, you and the tenant will have peace of mind over their belongings in case of a disaster.
An umbrella policy provides extra liability coverage beyond whatever your current policy covers. This may include:
- Injury coverage
- Property damage
- Lawsuits or other personal liability issues
If you exhaust the limits of your other insurance policies, the umbrella policy will kick in to cover the rest up to the amount you choose.
For example, if your tenant’s dog bites a jogger, you could be held liable. They sue you and the judge awards them $300,000 plus lawyer fees for a total of $350,000. Your property insurance only covers $200,000. The remaining $150,000 would be covered by your umbrella insurance, assuming your coverage is over that amount.
Umbrella insurance typically starts at $200 per year for $1 million of coverage.
Should I Have More Than One LLC for Multiple Rental Properties?
There is no legal requirement to separate properties into their own LLCs. However, many landlords prefer to create an LLC for each property.
If someone sues the LLC, all assets within that company have the potential to be seized. If there is only one property in your LLC, your risks are much smaller.