Entity Choice for Real Estate Investors Presented by Alfonso Zambrano 2017 Brown Fortunato, P.C. Disclaimer The following presentation includes generalized information. Choosing an entity for your real estate investment or business will
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Disclaimer The following presentation includes generalized information. Choosing an entity for your real estate investment or business will require you to make a choice depending on the specific facts of your situation.
Contact your attorney and CPA to set up the best structure for your business.
I am not a Tax Attorney, CPA or Financial Advisor.
I am only licensed to practice law in Texas.<br>
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Choice of Entity The greatest advantage to choosing a legal entity to set up your business is that you will not be personally liable for the debts and claims of the business. Choosing a legal entity will protect your personal assets.
Real Estate is a “HOT” asset.
Insurance is not always enough. LeBron James example.<br>
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Types of Ownership Structures Sole Proprietorship
General Partnership
Limited Liability Partnership
Limited Liability Company
Corporation – “C” or “S”<br>
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Sole Proprietorship Advantages
Simple to create. No state filing required.
Simple to manage. No mandatory meetings, you are the only person who can legally obligate the business.
Disadvantages
UNLIMITED personal liability.
Ownership Restrictions: There can only be one sole proprietor.
Automatic dissolution upon death or departure of the sole proprietor.
Difficult to sell to a potential buyer because he or she may not want personal liability.
Subject to self-employment taxes.
Increased IRS examination risk.<br>
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General Partnership Advantages
Simple To Create. No state filing required. A partnership agreement is recommended, but not required. Meetings are not required.
Flexibility in Management Structure. Any general partner can make management decisions.
Disadvantages
UNLIMITED liability of general partners.
Subject to self-employment taxes.<br>
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Limited Partnership (LP) Advantages
Limited liability for limited partners.
Centralized management. Any general partner can make management decisions.
Disadvantages
Unlimited liability for general partner(s). However, the general partner(s) of an LP can be a legal entity.
Must file with state. Filing fees are $750.
Must keep up with formalities in order to avoid piercing the corporate veil.
Subject to self-employment taxes.
Could be difficult to receive financing.<br>
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Limited Liability Company (LLC) Advantages
Limited liability of members.
Flexibility in organizational and management structure. Can structure as member-managed or manager-managed.
Texas allows single-member LLCs.
Choice of taxation.
Disadvantages
Articles must be filed with the Secretary of State. Filing fees are $300. Certain records are required to be maintained.
Must keep up with formalities in order to avoid piercing the corporate veil.
Could be difficult to receive financing and subject to self-employment taxes if LLC is taxed as a disregarded entity.<br>
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“C” Corporation Advantages
No personal liability of shareholders.
Corporation continues upon death or departure of a shareholder.
Easier to get financing for your business because your lender will look at the corporate tax return, not your personal tax return.
Disadvantages
Inflexible management structure.
Must file with the Secretary of State. Filings fees are $300.
Must keep up with strict formalities, such as required bylaws and annual meetings, in order to avoid piercing the corporate veil.
Double taxation (taxed at the corporate and individual level).<br>
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“S” Corporation* Advantages
No personal liability of shareholders/members/partners.
Single level taxation, no double taxation as with a “C” Corporation.
Disadvantages
Most likely will have to file with the Secretary of State. Filings fees are $300.
Must keep up with formalities in order to avoid piercing the corporate veil.
Ownership restrictions: No more than 100 shareholders/members/partners; no domestic or foreign entities or nonresident aliens allowed.
* An “S” Corporation is NOT an entity at all, but the name by which a method of federal income taxation is described. This method of federal taxation may be used by four forms of Texas entities: corporations, professional associations, limited liability companies, and general partnerships.<br>
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Choosing the Best Entity for Your Real Estate Business Buy and Hold: Typically an LLC will be the best entity because rentals in LLCs get many tax benefits and are cheaper and easier to run than a LLP.
Flippers: Typically an LLC will be the best entity. A flipper will want to consider his or her tax implications and whether it is best to be taxed as a disregarded entity or as an S Corporation.
Wholesalers: Typically either an LLC taxed as an S Corporation or an S Corporation will be the best entity choices.
Property Management Companies: Typically either an LLC taxed as an S Corporation or an S corporation will be the best entity choices.
Contractors: Typically either an LLC taxed as an S Corporation or an S Corporation will be the best entity choices.<br>
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Multiple Real Estate Activities If your company is participating in multiple real estate activities, you will want to separate entities in order to minimize your liability and tax implications, depending on the activity.
For example, create one entity for active investing (wholesale and rehab flips) and another entity for passive investing (rentals, owner financing, and lease options).
This allows your passive investment activities to enjoy the many tax benefits offered by the IRS.<br>
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Why LLCs Are Often Used by Real Estate Investors LLCs have many benefits, including:
Low formation costs.
Limited liability.
Flexibility in management and ownership structure.
Choice of tax implications.<br>
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General Tax Information Active v. Passive Real Estate Investing
Single v. Double Taxation (i.e., Corporations)
Employment and Self-Employment Taxes
Employee taxes such as federal income tax, FICA, and FUTA
Going into business with your spouse
Self-employment tax<br>
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General Tax Information Tax Elections:
For Subchapter C taxation, the available entities include: corporation, general partnership, limited liability partnership, and LLC.
For Subchapter S taxation, the available entities include: corporation, general partnership, and LLC.
For Subchapter K taxation, the available entities include: general partnership, limited liability partnership, and LLC.
For disregarded status, the only entity is an LLC with a single member and the non-entity of sole-proprietorship.<br>
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General Estate Planning Information Using an LLC or LLP can allow you to set up certain structures to transfer your assets to your heirs to avoid taxes and maintain control until you are ready for your heirs to receive the assets.<br>
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Summary Every business is different. The way you choose to structure your business should be developed with your specific business activities, purposes, and organization in mind.
Contact your attorney and CPA to help structure your business in a way that will give you the most benefits.
Implications to consider when structuring your business:
Do you have employees?
How many owners do you have?
How many properties do you own?
What is your risk tolerance?
What sorts of investment activities will your business participate in?
What management style do you prefer?
What are your goals for the future of your business?
Estate planning needs/goals?
Exit strategies?<br>
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Alfonso Zambrano
Brown & Fortunato, P.C.
Tel: (806) 345-6354
Email: azambrano@bf-law.com
LinkedIn: https://www.linkedin.com/in/azambrano1<br>
