The Best Entity for Holding Real Estate

By Garrett Sutton of RichDad.com

This question – hands down – is the one I’m asked over and over: What’s the best entity for holding my real estate investments?

My recommendation to most people is that a limited liability company (an LLC) is the best entity for this type of business. Here’s why…

Excellent liability protection
Flow-through tax treatment
Ability to transfer real estate
Charging order procedure (for Nevada LLCs)

Liability Protection

An LLC is similar to a C-corporation (C-corp) or a Sub-Chapter S corporation (S-corp) in that it exists as a separate corporation entity. It provides full liability protection to its officers and directors (called Managers) and its shareholders (called Members).

Even with excellent insurance coverage in place, there are still many risks associated with owning property, especially if you are intending to hold rental properties. Tenant injuries are a prime concern, but even with vacant property, a trespasser can incur an injury on the property and sue for hazardous conditions. Owning property in your own name means that in the event you are sued and found guilty, anything your insurance policy does not cover will come out of your pocket.

Putting an LLC entity between you and this personal liability means that your assets will stay protected.

Flow-Through Tax Treatment

Unlike a C-corp, an LLC does not pay income taxes. It is a “flow-through” entity, meaning that, like an S-corp, the tax on the profits (as well as the write-offs on any losses) are passed through to the members.

The flow-through tax treatment becomes important when you decide to sell a property or convert it to personal use.

You, as a member, would pay capital gains taxes on your share, but at a lower rate than a corporate entity would be charged.

Ease of Sale

LLCs have an extra advantage over an S-corp (or a C-corp) when you want to convert a property to personal use, or trade it (called a “like-kind exchange”) for another home of similar value. If held in an S-corp, the conversation or trade of property would be considered a sale, with the accompanying tax consequences. Held in an LLC, there are no tax consequences to converting or trading the property.

Charging Orders

In Nevada, a charging order is the sole legal means by which a creditor may attach a judgment to an LLC. If a tenant were to injure themselves on your property, win a lawsuit, and your property insurance left you partially uncovered, the balance of the judgment owed could be attached to the LLC through a charging order.

Effectively, the judgment holder would become a non-voting member of your LLC, with the right to receive a share of the profits, if the LLC decides to distribute profits to its members. That’s it. They cannot force a sale, or even a profit distribution, as they are a non-voting member with no control whatsoever over how the LLC is operated. And, in a fairly ironic twist, any monies received by a judgment holder through a charging order would be treated as income and subject to capital gains tax.

Unkind and unfair to creditors? Perhaps. But in Nevada, that’s the law. Remember, not every state uses the charging procedure as the sole creditor remedy. It may be worthwhile to create a Nevada LLC to hold your properties and then qualify the Nevada LLC to do business in whatever state or states your properties are held.