The housing market is on a rebound.
The volume of residential and commercial estate inventory is up, and banks are back to lending.
So many real estate investors are on the hunt for new deals.
If that’s something you’ve been doing for a while, you may be wondering: Is it smart to use a limited liability company (LLC) to buy a home?
There isn’t a short answer to this question.
To make a good decision, you need to understand the pros and cons of using an LLC to take the title and the legal implications of such a decision.
This post explains all of the above in plain language.
Table of contents
- Can an LLC buy a house?
- What types of mortgage loans are available for an LLC?
- How does an LLC file real estate taxes?
- FAQs about buying a property with an LLC
Can an LLC buy a house?
Yes, legally, an LLC can purchase a house or any other type of property.
As a legal business entity, a limited liability company has the right to buy and hold different assets.
The types of real estate deals an LLC can do include the following.
Rental property management: The LLC purchases a condo and rents the apartments to tenants. LLC formation for rentals is popular as you benefit from limited personal liability. If any issue happens at your property, no one can go after your personal assets to compensate for the damage.
House flipping: LLC members can purchase house(s), rehab them, and then resell for a profit. Flipping is easier to do with an LLC as you can easily contract with incorporated and private buyers.
Commercial property purchase and management: LLCs also often own commercial real estate, such as office buildings, retail centers, development land, etc. The LLC can take title to these properties and then either re-develop them or lease the properties out to tenants for profit.
Real estate wholesaling: Trading real estate between two incorporated business entities is contractually easier than doing multiple deals as a private investor.
The assemblage of properties: One LLC can own multiple properties. An LLC can be used to create a portfolio of assets. Additionally, LLCs can be purchased and sold. An LLC that owns numerous properties can purchase another LLC that owns properties rather than buying the properties directly.
Co-buying: LLC members can pull money together to co-invest in different properties. Such deals are governed by the LLC’s operating agreement — a document detailing the contributions and rights to different assets. Plus, an LLC allows you to take money from foreign investors.
Benefits of using an LLC to buy a house
As a business structure, LLC offers its members two primary legal protections:
- Limited liability protection
- Personal asset protection
Both are highly attractive for real estate investments. Limited personal liability means that as a member, you can’t be held accountable for any wrongdoings that happen at your property.
Personal asset protection means that no creditor can go after your personal assets if your company goes bankrupt or faces a high legal bill.
The two benefits help business owners isolate risks and preserve their assets.
Beyond them, there are several more advantages of using an LLC to buy property.
Have multiple investors: LLCs allow you to pool money together with friends, family, or business associates to purchase a property.
Run joint business ventures: You can team up with other LLCs to co-invest in bigger projects. Or join forces with players in adjacent industries such as property management or housekeeping to offer a wider range of services.
Attract foreign investors: Non-US nationals and residents can’t easily invest in a local property market unless they’re LLC members. Legally, all states allow having foreign LLC members listed on the LLC’s Articles of Organization and therefore own the property of the company.
Easier estate planning: You can easily add new LLC members such as your family members and assign interest percentages across your property portfolio. This strategy comes with several tax benefits and less admin red-tape than the standard inheritance procedure.
Easy ownership transfer: Instead of selling a property (and paying all associated fees), you can make a new investor an LLC member and assign an ownership percentage to them. Similarly, transferring profits between LLCs or from an LLC to a corporation is often easier than doing private deals.
Fast access to good credit history: You can buy an LLC with a good credit record to broker more attractive deals for real estate investments.
Disadvantages of using an LLC to buy a house
Using an LLC for investing in real estate has its perks. But there are several significant limitations you should keep in mind.
Here are the disadvantages of buying and owning a house via an LLC.
Business personal property taxes: States like Texas, West Virginia, Virginia, Arkansas, Kentucky, Louisiana, Maryland, Mississippi, and Oklahoma collect taxes on business inventory (including property). This can create an extra tax burden for you.
Fewer lending options: Businesses have fewer mortgage options and lending schemes. Similarly, you don’t get to profit from many tax exemptions and allowances as you would as a regular homeowner.
Annual LLC maintenance costs. Recurring LLC costs include state filing fees for annual reports, registered agent costs (if using a professional service provider), plus minimal annual franchise taxes and mandatory business licenses in some states.
Loss of homestead exemptions. If you transfer your primary residence to an LLC, you’ll automatically lose all homestead exemptions available to homebuyers in your state.
“Due on sale” clause: If you decide to sell or transfer a house with a mortgage to an LLC, watch out for this sale clause. It means the owner who took out the mortgage must pay back the remaining sum in full at the time of sale.
So who should consider buying a house with an LLC?
Many investors who make a large portion of their income from real estate use an LLC to purchase properties.
If you simply plan to buy one house, perhaps it’s not worth going through the trouble of creating and maintaining an LLC. An LLC might overly complicate the transaction if you’re a first-time solo buyer.
However, people who want to acquire numerous houses and commercial properties and build a real estate portfolio will profit from forming an LLC.
What types of mortgage loans are available for an LLC?
One of the challenges of using an LLC to purchase real estate is limited lending.
In the event of a default on loan to an LLC, the bank’s security is limited to the LLC’s assets. Therefore, banks charge higher interest rates.
Also, LLCs don’t have access to residential mortgage loans, providing lower down payment requirements and more flexible term options.
But there are several types of other real estate financing options an LLC can get:
- Asset-based mortgage loans
- Private capital from foreign investors
- Real estate crowd investing
- Portfolio loans
- Purchase-rehab loans
Asset-based mortgage loans
Asset-based mortgage loans are given against existing assets.
A lender amortizes your assets over the mortgage term to see if you qualify. A borrower can get a reasonable rate if your LLC has numerous assets to pledge as collateral for securing a new home loan.
This is a common strategy serial real estate investors use. They leverage other properties to secure new loans.
Private capital from foreign investors
As an LLC, you have the benefit of taking money from a foreign investor.
It can be a private person (for example, a family member based abroad) whom you add as an LLC member to co-invest.
Or you can broker a deal with an institutional offshore lender to secure funding.
Real estate crowd investing
Real estate crowdfunding is a new trend.
Micro-investing (crowd-investing) startups such as Republic, Fundrise, and others, let investors collect small sums of money from many people to fund their projects. Then pay dividends based on their contributions.
It’s an attractive way to get the capital you need. But it can be legally complex.
Consult with a real estate attorney to ensure that your participation in crowdfunding doesn’t violate SEC regulations for security offerings and exemptions.
A portfolio loan is a type of mortgage loan the bank issues and holds on to over its lifetime (instead of selling it on a secondary market).
Because it’s stored internally, portfolio loans are subject to fewer regulations and have looser eligibility criteria.
But the interest rates and underwriting fees can be higher.
Some US banks are open to issuing portfolio loans to companies with a good standing.
Similarly, it’s a good option for investors who don’t qualify for traditional rental property financing. Or look to fund commercial projects.
Purchase-rehab loans make sense when an investor needs additional funds above the purchase price for renovating an investment property. This loan more resembles a construction loan than a traditional long-term loan.
Upon completing the renovation, the investor can sell the property and pay off the purchase-rehab loan. Or refinance the property with a permanent loan based on the renovated appraised value.
Some banks issue a semblance of government-backed FHA 203k rehab loan to institutional investors.
How do you qualify for a rehab loan?
Each lender will use different criteria for approvals. But generally, your business credit score, investment, income, cash flow statements, and available collateral will be factored in. Some lenders also prefer investors with prior real estate experience. So you might want to show them your past fixer-upper projects too.
How does an LLC file real estate taxes?
By default, an LLC is a pass-through tax entity.
This means that the IRS has no special regime for it. Instead, all business profits follow through to the members’ personal income tax returns.
- Single-member LLCs report taxes as a sole proprietorship
- Multi-member LLC report taxes as a partnership
In this case, all the income you receive from your real estate investments has to be reported on your personal tax return. Then you pay respective tax rates based on your income bracket.
Alternatively, LLCs can elect to file federal taxes as:
In this case, your company reports business income separately. S-corp doesn’t have to pay corporate income tax, while a C-corp faces double taxation. LLC members, in turn, only pay personal income tax on the salary they receive from the LLC (rather than all profits made from investments).
In addition to federal and state income taxes, a real estate LLC is also subject to the following types of taxes.
Business property taxes: Only 12 states don’t charge any taxes on business property. Others collect taxes on all business inventory held or only certain types of it, like real estate. Also, some states such as Maryland require only one filling per legal entity (detailing all your properties). But in Texas, you’ll receive tax notices and bills from individual city counsels where your property is located. Business personal property taxes are complex, requiring a separate tax consultation.
Capital gain taxes: Upon selling a house or investment property, the investors will be subject to capital gain taxes. But if you’re filing taxes as a partnership, you can offset these by using various exemptions.
Minimum annual franchise taxes: States like Alabama, California, Delaware, Texas, and Tennessee, among others, charge a minimum tax for the privilege of doing business in the state. These taxes must be paid regardless of whether you made a profit this year or not.
- Before deciding whether to use an LLC to purchase a house, weigh in on the benefits and drawbacks.
- Using an LLC for real estate investing enables easy ownership transfer, access to foreign capital, flexible tax treatment, and management structure.
- The drawbacks include initial LLC setup and subsequent maintenance costs in the form of annual reporting, state business licenses, and minimal annual franchise taxes.
- Business personal property taxation is rather complex. The rules vary by state, by county, and sometimes by city. Schedule a tax consultation to understand all tax laws that may apply to you.
FAQs about buying a property with an LLC
Here are some frequently asked questions regarding purchasing a house with an LLC.