Why Your Rental Property Should Be Owned by an LLC

Today we’re diving into a topic every real estate investor—big or small—needs to understand: Should your rental property be owned by an LLC?

Episode Transcript

Speaker 1 (00:31):
Good afternoon, Michiganders, and welcome back to Tuesday with Tom
Michigan's Only podcast, where we talk about estate planning, the
state settlement, and everything in between. As always, I'm your host,
Tom Doyle, a state planning attorney, lifelong Michigander, and your
guide to planning for the future. Will a brief recap

(00:54):
of our last episode, The I r S announces increased
gift and a state tax exemption amounts for twenty twenty six.

Speaker 2 (01:04):
So if you're concerned.

Speaker 1 (01:05):
About gift taxes or federal estate taxes, you're wondering how
much you can give away this year next year without
having to worry about gift taxes, I invite you to
listen to my last episode, well today's show. Today's show,
we're going to be talking about why your rental property

(01:29):
should be owned by an LLC. It's a topic that
is important if you own rental property or you're considering
owning rental property. And the short answer isn't really why
it should be owned because the short answer to that

(01:49):
is generally in most cases yes, But the better answer
is why, and that's what I will be exploring today.
But please remember what I'm about to discuss is as
always meant to be for educational purposes, is not intended
to be legal advice. You need to work with your attorney,

(02:12):
your financial advisor, and your tax advisor to determine what
is appropriate for you and your planning. Why your rental

(02:34):
property should be owned by an LLC, Well, start with
what an LLC is and why it matters. An LLC
if you're not familiar with it, that stands for limited
liability company. It's a business entity that you create that

(02:56):
can own things. So you can create an LLC that
owns a business, you can create an LLC that owns
real estate. And in this case, what we are talking
about is an LLC that is created to own your
rental properties. And why would you do that? Well, think

(03:19):
of the LLC this way. It's really like building a
legal firewall. What you're doing is you're taking a rental
property that is in your name and you're changing it
so that it will then be owned by your LLC.
So if someone sues your rental business, or if a

(03:42):
tenant gets hurt on the property, and that's the most
likely scenario that we are already always talking about, ask yourself,
if somebody gets hurt on the rental property.

Speaker 2 (03:52):
Who gets sued? Well, right now, if.

Speaker 1 (03:55):
You own the rental property, you are the one who's
going to get sued.

Speaker 2 (04:03):
However, if your.

Speaker 1 (04:05):
LLC owned the rental property, then your LLC is the
entity that is going to get sued. And why is
that important? Well, if you get sued, everything that you
own is potentially at risk, your home, your personal savings,
your personal investments, other assets that you might have. But

(04:30):
if the LLC gets sued, only what the LLC owns
is at risk, which in this case is the apartment
or the home that is owned by your LLC. So essentially,
without the LLC barrier, you're personally on the hook for

(04:55):
anything that goes wrong. So the basic concept of having
the LLC is to create a firewall, if you will,
between yourself and your LLC and thereby protect your assets.

Speaker 2 (05:12):
And so, I mean, let's be.

Speaker 1 (05:15):
Honest, Rental real estate can certainly be profitable. A lot
of clients have rental properties that we deal with a
lot of times clients might inherit properties from parents and
they concern consider changing those into rental properties. But you
also have to be aware that having a rental property

(05:37):
has risks.

Speaker 2 (05:38):
That go along with it.

Speaker 1 (05:40):
Maybe it's now it's wintertime, it's December, it's icy out there,
it's cold. A tenant slips and falls on the icy
steps on your rental property, you will get sued unless
that rental property is owned by the LLC. Or maybe
you're going to have some work done on your rental

(06:01):
property and a contractor gets injured by maybe repairing your roof,
or you have a fire, maybe someone gets hurt in
your property because of the fire, or maybe you have
fire that damages a neighbor's property. Another example commonly is
a tenant's guests. So you've got tenants, it's a holidays,

(06:25):
they have guests over, and somehow they get hurt on
your properties. Well, without an LLC, your personal bank accounts
and assets could now be targets in recovering any judgment
that would be entered against you in a loss. So essentially,

(06:48):
the concept behind having the LLC is to limit assets
that are owned by the LLC to simply the rental
property itself, so that in that case, if there was
a judgment entered against your LLC, the only thing that
is at risk in that LLC is the rental property itself.

(07:16):
Now for some people and not for everybody, though, having
your property owned by an LLC does give you a
little bit of personal privacy protection because in that case,
it's going to be the LLC's name that shows up
on the deed. So anybody doing a public record search

(07:39):
is not going to find you're the owner of the property,
but it's in fact going to find that your LLC is.

Speaker 2 (07:48):
The owner of the property.

Speaker 1 (07:49):
So in that case, you are generating or creating a
little bit of privacy protections for yourself. For some people,
that's an important consideration of any estate plan that they
put together is maintaining their privacies. So there's some of

(08:09):
the additional I guess advantages that can come about by
having the LLC. It is a pass through, at least
in Michigan, pass through as far as taxes are concerned.
So contrast that with a corporation. You could have a
corporation that would own your rental property, but now you
might be subject to double taxation where the corporation is

(08:33):
being tax on income and then you're being taxed as
a shoulder shareholder.

Speaker 2 (08:38):
On distributions to you.

Speaker 1 (08:40):
Well, an LLC is what's considered a pass through taxation entity,
so that any net income or loss at the end
of the year is going to appear on your personal
tax return, which is a way that you end up
avoiding taxation which would occur if you had a corporation.

(09:05):
Another consideration for you there was part of your overall
estate plan is when it comes time now to transfer
if you will, interests.

Speaker 2 (09:15):
In the LLC.

Speaker 1 (09:17):
Maybe you've got an LLC created and what you want
to do is now gift part of the LLC to
children as part of an estate planning structure, or maybe
at the time of your death the LLC is going
to be distributed out to multiple children. Well, you can
make that cleaner by having the ownership of the property

(09:40):
in an LLC by appropriate documentation. There's another advantage that
we can do with LLCs in Michigan, and that is
we can transfer LLCs upon our death without them having
to go through probate and without even having to have
a trust. So you can have a tod of your

(10:00):
LLC similar to if you think of investments, or maybe
you've got transfer on death provisions on your investments, or
transfer on death provisions on a bank account, whatever happens
to be. And I have had previous episode of Tuesday
with Tom where I do talk in more detail on
how the tod or transfer on death works with an

(10:24):
LLC in the state of Michigan. Now, something though, if
you already have property and you are now thinking about, hey,
what if I take my existing property and I change
my existing property so that it is going to be
owned by NLLC. Well, if you have a mortgage on

(10:47):
the property, you've got to be very careful because you
can still transfer ownership of property that has a mortgage
to your LLC, but in doing that, you might run
a foul of any do on sale clause that is
in your mortgage, and so you'd have to make sure

(11:09):
you're checking with your bank to be sure that that's
not going to be a problem with you if you
want to look at transferring your existing property into LLC.

Speaker 2 (11:22):
Another concern.

Speaker 1 (11:23):
Another concern though, is this in Michigan, in many cases
we're dealing with what we would have capped property taxes,
where property taxes are not being increased if you will
until there's a transfer of the property. Well, generally speaking,
in Michigan, transferring your property from you to an LLC

(11:48):
is likely going to be considered an uncapping event, and
so there's a whole analysis that one has to go
through relative to property taxes. Now, let's say you have
more than one property, and this is a question that's
always asked of as Tom, I've got five homes, and

(12:09):
I understand the concept of creating the LLC and the
advantage of creating the LLC. Do I need one LLC
or should I have multiple LLCs? So let's think about that.
If you've got five properties in one LLC and there
is a judgment entered against that LLC and somebody is

(12:33):
going to try collecting on that judgment, now they're going
to be looking at collecting that judgment against what five properties.
Those are the properties that are all owned by the LLC.
On the other hand, if you were to create five
separate LLCs with each LLC only owning one property, you

(12:57):
are limiting the exposure of the properties to just want
and so that's part of the analysis that you have
to go through when you're looking at having more than
one LLC when you've got multiple properties. Now, sometimes it's
not as big of an issue. Let's say you have

(13:17):
fully financed and you really don't have equity.

Speaker 2 (13:21):
In your other properties.

Speaker 1 (13:22):
You might consider not going with multiple LLCs, depending upon
long term what your overall plans are with the apartments
or the buildings that you are going to be maintaining
and keeping for a period of time, and certainly you
have to it's a cost benefit analysis.

Speaker 2 (13:45):
In the end.

Speaker 1 (13:46):
There are certainly going to be costs in setting up
your LLC. Somebody is going to be paying an attorney
normally to have the LLC created, and whatever operating agreement
is going.

Speaker 2 (13:57):
To be needed.

Speaker 1 (13:58):
You will have in Michigan in annual reporting fees to
the State of Michigan, it's.

Speaker 2 (14:03):
Not very much.

Speaker 1 (14:04):
Twenty thirty dollars in that ballpark is what you're going
to be paying to the State of Michigan. But again
be careful, as I mentioned before, you might have an
uncapping of property taxes and that itself might cause a problem.

Speaker 2 (14:19):
I've got a client that I'm working with right now,
and it seemed very simple.

Speaker 1 (14:23):
They said, well, we're just going to create an LLC
and we're going to transfer the property in the LLC
and then we're going to distribute out interest in the
LLC to our children, which sounded so easy to do.
Create the LLC, have a deed prepared for the property
transfer it until until they reviewed it with their tax

(14:44):
advisor and discovered that doing that would be uncapping property taxes.
And this happened to be property that they have owned
for a very long time that has a very low
for property tax purposes a tax value in uncapping the
property taxes in that case would be a tenfold potential

(15:08):
increase in the property taxes. So you do there are
some certain things that you have to be analyzing. And
another thought is you always we always start when we're
talking with clients. Even if you're going to look at
having an LLC, you always want to start with insurance though,
because you want to make sure that in the front

(15:31):
you are adequally ensured if there was a claim to
be made against you or a claim to be made
against your LLC. So there's a whole insurance issue that
needs to be analyzed as well. But the LLC is
an additional benefit of trying to protect your assets in

(15:53):
the event that there is not adequate insurance to cover
the loss.

Speaker 2 (16:01):
So owning your mental property through an.

Speaker 1 (16:04):
LLC can be a simple, most effective state that you
can do to protect your wealth, to reduce your liability
and operate it like a true business. Now you have
to be mindful though, when I say operate it like
a true business. You have to treat it as a
separate legal entity. So you can't just be paying your

(16:29):
own expenses out of the LLC using your own checkbook.

Speaker 2 (16:32):
For the LLC.

Speaker 1 (16:33):
You have to set it up so it has its
own checkbook. You have to set it up so accounting
is appropriate for that LLC, because if you don't, if
you choose not to treat the LLC as a separate entity,
in the case the LLC does get sued, you might
find a situation where the judgment creditor is able to

(16:58):
what we call pierce the corporate veil, which is essentially
going to court and saying, hey, judge, they didn't treat
it as a separate legal entity, so we shouldn't have
to treat it as a separate legal entity, and we
should be able to go through the LLC and get
the assets of the individual. So you need to make

(17:18):
sure you're treating it as a separate LLC.

Speaker 2 (17:23):
The other thing you need to do.

Speaker 1 (17:25):
Though, and here's where people have problems with the LLC,
is let's say that the furnace goes out in the
middle of the night and you get a phone call
that the furnace has gone out in the middle of
the night, and you say, hey, I will go over
and I'll fix the furnace. Well, if the properties owned

(17:46):
by an LLC, but you're the one that goes and
fix the furnace and because of what you did, the
furnace blows up.

Speaker 2 (17:57):
And injures a tenant.

Speaker 1 (18:00):
You you're not going to get sued as the owner
of the LLC because you don't own it, but you
will get sued as the person who did the work,
who negligently repaired the furnace and cause the furnace to
blow up. So one of the things you have to
be very careful about when you set up these LLCs

(18:21):
and you put properties into them, you have to be
very careful about and mindful about you personally can't be
doing any work on that property that might be able
to expose you personally for the liability that you did.
So there's going to be another cost associated because in

(18:43):
that case, what you really need to do is call
a furnace company and have them come and repair it
so that you're not the one who's making the repairs.
So some things to think about. But overall all, look
at and consider if you've got a rental property, should

(19:05):
you have an LLC, And if you'd like some help
in that regard, if you think you might want to
set up an LLC, look at transferring your property over
into it. It's certainly something that amand and I can
help you out with. Now, once you do create the LLC,
let's say that your overall estate plan includes a trust.

(19:27):
And now you've got this LLC and you've got this trust, Well,
what you can do is you can transfer ownership of
the LLC, the membership interest in the LLC to your trust,
so that the trust owns it. But the trust is
not going to be exposed to liability, just as you

(19:48):
would not be exposed to liability because the LLC is
still providing a barrier between yourself and the LLC, creating
that firewall that is still going to be in place
even if you transfer ownership of the LLC into your trust.

(20:15):
So again, if you'd like some help on that, talk
to your tax advisor. Make sure you figured out whether
or not you've got tax issues that are involved. Sometimes
you might have property that you've already depreciated and now
you're going to transfer into LLC, Sometimes you might have
to have some recapture of the depreciation. So there's a

(20:37):
number of things that are going to have to be
analyzed in determining whether or not you're going to take
existing property and transfer that property into your LLC. Of course,

(21:12):
amand and I, aside from whether or not you have
rental properties, A man and I would be honored to
help you protect the people you love, whether that means
creating a new estate plan for you, or updating and
existing one, or guiding you through perhaps the estate settlement
process in the event that someone that you are caring

(21:34):
for has died and your now tasked with settling that estate,
and we try to make it easy as possible.

Speaker 2 (21:41):
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Speaker 1 (21:42):
Options relative to appointments. One, we offer in person appointments.
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our lancing location. Two, we offer virtual consultations and those
can be by zoom or phone, so wherever you happen
to be in this great state of Michigan, we can

(22:05):
likely help you with your estate planning as well as
assists you in settling a loved one's estate. Finally, two,
if all you're looking for is one initial individual document.
Let's say, for example, all you need is a new
durable power of attorney, or maybe you're looking to get

(22:27):
a certificate of trust because you're looking at transferring real estate.

Speaker 2 (22:31):
Well, check out the legal store that we have available.
And in the.

Speaker 1 (22:35):
Legal Store you have the ability to order individual legal
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person appointments, virtual consultations. Our legal store all information on
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(22:56):
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There you're going to find information on how to schedule
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Speaker 1 (23:08):
Store where you can order things, and one of the
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if you haven't already, download a copy of our free
estate Planning guidebook where we talk about different estate planning
documents and how they are used and the decisions that
need to be made about using those particular documents. Well,

(23:41):
I think that is going to be a wrap for
today's show, though, as always, if you have a comment
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or perhaps a topic that you'd like to have me
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(24:03):
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(26:02):
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