If I Own Properties in my Name, Should I Transfer Them to an LLC?

14 Apr If I Own Properties in my Name, Should I Transfer Them to an LLC?

Many investors start off by purchasing properties in their own name. It makes sense for a lot of reasons. Financing may have been easier. Perhaps they never envisioned they could own as many properties as they now do. Insurance may have been cheaper. Setting up utility service may have not required a security deposit. At tax time, there would only be one return to file.

Check out our blog on whether to buy in an LLC or in your own name.

Whatever the reason, sometimes investors want to transfer their properties to one or more LLCs that they create. A common reason is asset protection. After all, the more assets you have in your own name, the more you put at risk should the unexpected happen. Another reason could be branding, as you might want your entity to have a brand of its own. Look at all the properties with “Trump” on the facade. (Of course, you can still brand your business without having all the assets in a company of the same name.) Yet another reason could be advantageous financing through a bank. Fannie Mae and Freddie Mac have a limit of 10 properties financed in an individual’s name. A bank could provide a commercial loan to an LLC or other entity that has many properties. Having one loan can be simpler than having 10 loans.

An LLC could have multiple partners. If you put a number of properties under one roof, so to speak, then you could add partners. They could pay the company for a partial ownership stake. That is a simple way to raise capital. Because the company has assets and income, it is worth more.

Let’s say you’ve acquired a number of rental properties in your own name. You’re thinking hard about transferring all of them to an entity. What issues could arise?

• Due on sale clause. If you have one or more mortgage loans, you likely have a due on sale clause in the fine print. That means if even a portion of the ownership is transferred, then the whole loan is immediately due and payable. So if you have a mortgage loan in your own name and then you transfer your property to an LLC, that act alone could trigger the due on sale clause.
• Realty transfer taxes. Many states charge a tax when a property changes hands. Even though you might be taking your own property and putting it in your own LLC, that may incur taxes.
• Insurance. Since there will be a new owner, the old insurance policies may not apply. You don’t want to wait for a problem to find out that the insurer won’t pay the claim because the new owner doesn’t have a commercial policy. Remember how I said that there’s a due on sale clause with most mortgage loans? Your mortgage lender likely has an escrow set up to pay your insurer. If you transfer ownership to an LLC and don’t tell your lender, your lender will find out when you have to establish a new insurance policy for your LLC. Your lender will see the new owner’s name and policy details on the declarations page.
• Banking. With a company, you have to follow the corporate formalities. Therefore, your LLC will need its own bank accounts. With commercial bank accounts, typically the fees are higher and the balance requirements are greater.
• Tax returns. Each company must file a tax return. Depending on the type of entity, the tax return might be due on a different date than April 15th. The fees from your accountant and bookkeeper can add up. The penalties for being late on a corporate tax filing are far more severe than for a personal return.
• Additional taxes. Some states charge tax on corporate earnings. In some states, there is no tax on personal income but there is a tax on corporate income. You might increase your tax liability by putting your properties in an entity.
• Financing costs. When you need to refinance or obtain a new loan, commercial financing costs and interest rates are higher. The down payment requirements for a commercial loan are usually higher than for a loan in your own name. If you conduct a cash-out refinance, the loan-to-value for commercial loans is lower. That means you may pull out less money from your property while leaving more equity in it. That can limit the amount of cash you have for future deals.
• Too many properties in one entity. I knew an investor who wisely created an LLC but then foolishly put 20 properties in that company. During an economic downturn, the investor went into default on some of the loans. A rotten apple can spoil the whole bunch. The bad deals were poisoning the entity and jeopardizing the good deals. If you’re going to use an LLC for asset protection, then perhaps you shouldn’t stick all of your assets in the same LLC. A good rule of thumb is to put no more than three properties into one LLC. However, there can be major deviations from this rule of thumb. For instance, if you own three shopping centers, I would have a separate entity for each one.
• Utilities. Utility providers typically want a security deposit from a corporate customer. Whereas you could easily start billing in your own name for a property, once you have an LLC you should have the company be responsible for the account. You could end up with a lot of cash being held in security deposits by utility providers.

Consult your attorney, accountant, insurance agent, real estate broker, and mortgage lender prior to transferring ownership of your properties. I suggest that they all be part of the same meeting, phone call, video call, or email chain. Each one brings different, and sometimes competing, perspectives to the table. Working together, they can save you money and protect you. Listen to your advisors and then do what you think is best. Check out our prior blog on this type of collaboration.

Tai DeSa is a graduate of The Wharton School of the University of Pennsylvania.  He became a full-time real estate investor in 2004 after serving in the U.S. Navy.  Tai made colossal mistakes in investing (and learned some things along the way).  Tai has coached hundreds of entrepreneurs, real estate investors, and real estate agents on how to increase their income and net worth. He has helped hundreds of homeowners avoid foreclosure through successful short sales. Check out Tai’s books on Amazon.com. Tai may be available for coaching and speaking engagements on a variety of real estate topics.  Send an email to tai@investandtransform.com.