What is the best corporate structure for a real estate investor?
LLC. A limited liability company (LLC) is a common entity choice for real estate investors and offers many advantages. Choosing this structure for your real estate investment business allows you to limit your personal liability in the business to the money you contribute and the debts you co-sign for.
Limited Liability Companies (LLCs)
In fact, many experts will always recommend that real estate investors use LLCs for their real estate investments. However, whether an LLC is appropriate for your investment is still a personal decision.
Two other common business entities for real estate investors is the limited liability company (LLC) or limited partnership (LP). The LLC can be formed by either an individual (a single member LLC) or multiple people (a partnership type LLC or LP). The LP, by definition, requires more than one person.
Of the three corporate structures, C-corporations are the best corporate structure for attracting investors through traditional sources or Reg A+ Funding.
That generally means that a business entity that provides a liability shield is preferable. C corporations often catch the eye of investors due to their ability to issue different classes of stock and their established structure, including a board of directors.
For some real estate investments, it is highly recommended to use an LLC and an S corporation at the same time, with the LLC holding the property and the S corporation managing the business. This strategy shall offer real estate investors both the asset protection of an LLC and tax benefits from an S corporation.
LLCs can have an unlimited number of members; S corps can have no more than 100 shareholders (owners). Non-U.S. citizens/residents can be members of LLCs; S corps may not have non-U.S. citizens/residents as shareholders. S corporations cannot be owned by corporations, LLCs, partnerships or many trusts.
Using a real estate LLC can come with disadvantages such as tax complexity, setup challenges, transferred tax obligations, lack of guaranteed asset protection, financing difficulties, and increasing expenses.
- Avoid overly specific names that might pigeonhole your business endeavors.
- Look at your mission and values for potential inspiration.
- Research any ideas you have to ensure they are not already trademarked.
The most common way to make money in real estate is through appreciation. Appreciation is when a property grows in value. You might purchase a property for $400,000, and over the course of 10 years, it appreciates to a value of $500,000. Sell the property, and you'll have profited $100,000.
Do investors prefer LLC or C Corp?
Investors prefer C corporations over S corporations and LLCs because shares in a C corp are freely transferable. By design, C corps have a well-established, standard framework for the issuance and distribution of equity (stock and stock options).
Investors do not like the tax implications of an LLC because as a partner, they'll be taxed on the entity's income even in years when no cash is distributed to them personally. VCs often avoid this structure as they don't want business profits or losses passing through to them directly.
The management flexibility, tax benefits and protection of personal assets offered by LLCs make it a great vehicle for investment opportunities. Since there can be more than one member, it's often the business entity of choice when multiple people are looking to invest in something as a group.
One is because an LLC is taxed as a partnership (pass-through taxation) and will complicate an investor's personal tax situation. By becoming a member of the LLC to invest in it, the investor will be taxed on the LLC's profits even if receiving no cash distribution personally.
Sole proprietorships can be a good choice for low-risk businesses and owners who want to test their business idea before forming a more formal business.
TL;DR US-based angel investors may explore setting up an LLC to house their angel investments. The main benefits are organizing investments across multiple people, preserving privacy, building an investing brand, managing business-related expenses, and maintaining flexibility to transfer ownership.
First, although S corporations are often excellent for reducing self-employment taxes, income from passive real estate investments do not benefit from that because such income is not subject to self-employment taxes.
Advantages of LLCs over S corporations. One of the reasons many people prefer the LLC over the corporation is that there is more flexibility in how it is managed. Corporation laws (which, as noted apply equally to S corps and C corps) contain more provisions regarding managing the company than LLC laws.
Forming an S-Corp gives you more clout as a real estate agent. Clients are more likely to want to work with and trust a business. When you incorporate, you choose a name for your real estate business that reflects the niche you want to work in, such as luxury properties or working with first-time buyers.
Single layer of taxation: The main advantage of the S corp over the C corp is that an S corp does not pay a corporate-level income tax. So any distribution of income to the shareholders is only taxed at the individual level.
When to choose S corp over LLC?
Why Would You Choose an S Corporation? S corporations can help owners save money on corporate taxes by allowing them to pass taxable income to shareholders. This is useful for smaller businesses which have a limited amount of shareholders.
- Limited liability has limits. Your LLC structure may not be protecting your assets, according to a judge's ruling. ...
- Self-employment tax. ...
- Consequences of member turnover. ...
- Personal liability protection. ...
- Corporate taxes are usually bypassed. ...
- Difficult to transfer ownership. ...
- Self-Employment Taxes. ...
- Confusion About Roles.
Limited liability protection
Buying a house with an LLC means avoiding potential lawsuits as a business owner. For example, you have protection against liability for debts or being sued because of someone injuring themselves on the property.
- Limits Your Liability. ...
- Keeps Your Rental Properties Separate. ...
- Enables Pass-Through Taxation. ...
- Separates Business Expenses. ...
- Simplifies Estate Transfer. ...
- Saves on Loan Interest. ...
- Speeds Up Deductions for Depreciation.
Bottom Line. Overall, starting a real estate LLC is a good idea if you're looking to move into serious real estate investing. It will offer you far better liability protection than operating as an individual or sole proprietor. It also provides superior tax benefits than an S-corp or C-corp.
