Real estate investing as a business.
If you have more than one rental property you’ve probably heard the phrase “treat it like a business”.
If you have heard me speak you know my opinion about setting your investment property up like a business and running it as such. I hope you have also heard this phrase from your CPA. So, in the spirit of “rental real estate as a business” here is some information to help guide you.
Before we get into the particulars of setting up and using a limited liability company, let me paint a picture for you.
What happens when the contractor you hire to do the work on your property has a couple knuckle heads with him, goofing off, and one falls off the roof? What if he is not properly licensed and insured as a sub-contractor? Or worse, it’s someone you hire off Craig’s list that is out of work? That’s right, you’re personally getting sued!
How does one avoid this?
Well, if you own the property in a Limited Liability Company (LLC), and it is structured and maintained properly, the injured party would have to go through your LLC before you and your personal assets are exposed. Moreover, if you have a good property insurance policy you can choose to pay a deductible and have the insurance deal with it.
Don’t want the insurance claim as a knock against you?
Place the insurance policy in the name of the LLC. If you have a claim against the LLC, you can always choose to use a different LLC in the future with a clean insurance record so your premiums are not through the roof (pun intended). This is one reason to not group all your properties in the same LLC.
How about using an LLC to help with taxes?
I suggest always operating in ways to reduce your taxes. When you set up your rental properties like a business, and operate it like a business, then you will get the best of both tax worlds. You will get the favorable tax environment of the investor as well as the incentives available to business owners. This includes the extra expenses involved in running a business that you might have anyway. For more details about these tax strategies and the new tax reform that benefits investors and business owners see the previous issue of the Rental Review.
How about a situation where you use private money for a project, or a partner and the investor would like to see how all the funds were allocated?
I work with a lot of private investors and sellers who hold notes. By having separate LLC’s, with separate bank accounts, it is easy to see where the money is spent. This equals peace of mind for the people doing business with you.
All the above are real life scenarios and reasons to build an active real estate investment business. There are crucial steps that should be taken to make sure you limit your risk exposure and are doing things the right way. Moreover, the better you are set up, the more successful your business efforts will be. Common sense, right? Well, not always. Sometimes it’s a case of, you don’t know what you don’t know and it could hurt you.
Here is a basic run down of things you need to make sure you are aware of when building your real estate investment business.
Set up your LLC
I’m sure you have heard “first step is to set up your LLC”. Pretty basic, right? Well that depends. Do you have any partners? What type or how many projects are you going to do with that LLC? Are you going for asset protection, anonymity?
Insider tip # 13: Washington State LLC’s do not provide anonymity.
Owners of LLC’s can be reviewed right on the Washington Secretary of State website. Where in, say Wyoming, an LLC can be set up where the members names do not appear on any public records.
Talk to a good real estate attorney about what your intentions are, and they will help you set up the proper structure and operating agreement. The operating agreement is especially important if you are going to have any type of partner.
Once your LLC is filed with the secretary of state you will receive a UBI number and can file for an EIN number on the IRS website. You will need your articles of incorporation with your UBI number, LLC operating agreement, and EIN (you can file online at irs.gov) to open bank accounts. Now you’re ready to buy and sell real estate as a business.
You will want to open a bank account in the name of the LLC. I personally have a different bank account and Quick Books set up for all of my LLCs.
Get funded and start purchasing
Now that you are properly set up, you can get funded, buy real estate, and be a landlord all in the name of the LLC. So, if your LLC is holding title and the same knucklehead falls off the ladder, the LLC is the owner of the property, not you personally.
Build your team
Now it’s time to compile your power team and “business vendors”. If you have a lot of extra time on your hands and you’re good at dealing with tenants, bookkeeping, and handy work; you don’t need a property manager. But, a great property manager is the most crucial part of your team.
- provides a buffer between you and your tenants
- keeps you safe from regulation and violations like fair housing
- keeps all the books
- coordinates maintenance
- implements rent raises
- watches the market
- handles tenants in default
The list goes on and on. I have watched many landlords struggle over the years because managing your own rentals properties takes a lot of time, effort, attitude, and you can’t turn your back on it. This is the reason my management company, Extant Management, started property managing for other landlords and not just our own properties acquired through easyapartmentsell. It’s good to see a landlord smile!
If you’re going to keep buying aggressively, get a great lender on board. This can be institutional like the commercial lending companies who can explain the cost of money as well as private lending individuals that you will work with. Get a great Real Estate Investment Broker on your team. This person will help you find, negotiate and analyze the real estate and returns.
Not all brokers are created equal when it comes to investment property. The generic broker that does it all is not going to be running “ROI” numbers for you or know market rents, rehab costs, etc. If you want to list your primary home, many brokers with an MLS membership can help you out. If you want to build a successful investment portfolio, you want an expert. For example, at my brokerage Extant Realty we specialize in investment rental property, it’s all we do!
If you manage yourself, keep a rolodex of landscapers, contractors, cleaners, snow removal, etc., to help you keep things running.
With your real estate investment company, bookkeeping is essential. Understand co-mingling personal funds with your real estate investment company funds is a bad idea. And if you are collecting rental deposits, that requires a trust account, it is illegal to co-mingle funds. You will want to use Quick Books, Quicken or a property management software to track all of your income and expense for your company. Now that you have a real estate investment business, expense against income could include vehicle, travel, meals, tools, office supplies, etc. Always seek the council of a licensed CPA regarding tax matters or advice, this could mean heaven or hell come tax filing time.
So. let’s recap:
- Set up your LLC with the secretary of state
- Get an operating agreement and file online for your EIN number so you can get a bank account
- Team Members should include: a Real Estate CPA, Attorney, Property Manager, Real Estate Investment Broker, Lenders and Industry Vendors.
- Do business under the LLC name and write all your contracts, lease agreements and promissory notes in the name of the LLC whenever possible
Now you are set up correctly and have limited your exposure.
If you would like more details or have questions about any of the information in this article, please give me a call! I have been doing investment real estate in the pacific northwest for 17 years and have excellent resources that I am happy to share. Happy investing!
*The information in this article is the opinion of the writer. This should not be taken as legal advice. Always seek the advice of an attorney regrading legal matters.