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Lea Uradu, J.D. is graduate of the University of Maryland School of Law, a Maryland State Registered Tax Preparer, State Certified Notary Public, Certified VITA Tax Preparer, IRS Annual Filing Season Program Participant, Tax Writer, and Founder of L.A.W. Tax Resolution Services. Lea has worked with hundreds of federal individual and expat tax clients.
Do you own real estate that you rent out? Besides the potential for regular income and capital growth, real estate investments offer deductions that can reduce the income tax on your profits.
But first, consider what kind of real estate investor you are. Are you a passive investor or a real estate professional? Your classification as one or the other determines how your income and losses are treated.
Tax Flexibility Of An Llc
An important feature of an LLC is that the Internal Revenue Service allows business owners to choose the way their business will be taxed. They can choose to be taxed as a sole proprietor, a partnership, an S corporation or a C corporation. You choose how youll be taxed by filing IRS Form 8832.
There are some limitations on the aforementioned choices. An LLC with multiple owners cant choose to be taxed as a sole proprietor, for instance. The IRS will automatically tax an LLC as a partnership if it has more than one owner. You can learn more about rules for taxing LLCs from the IRS backgrounder on Form 3402, covering the taxation of LLCs.
The table below breaks down four common to pay taxes for an LLC:
Filling Out Forms And An Annual Report
When transferring your property to an LLC, youll be required to submit your Articles of Organization, Operating Agreement, and IRS form SS-4 for your Employer Identification Number. In addition to these upfront documents, youll be required to submit an annual report. The annual report, however, is a recurring submission youll need to file every year.
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* General Or Limited Partnerships
In addition to filling out the IRS Form 8825 Rental Real Estate Income and Expenses of a Partnership or an S Corporation, these business entities would need to file their taxes using Form 1065, U.S. Return of Partnership Income to report revenues, expenses, gains, and losses of their business operation. The partnership must also provide each partner with an IRS Schedule K-1 Partners Share of Income, Credits, Deductions, etc., that shows the net profits or loss attributable to each partner or shareholder as outlined by the partner or shareholders ownership interest. A copy of Schedule K-1 must accompany a copy of IRS Form 1065. The partners must also file Schedule E, Supplemental Income and Loss, along with their individual income tax returns IRS Form 1040. Partners would complete the second page of Schedule E and not the first page, which is used for individual owners of rental property. Therefore, in total 5 forms will need to be filed: Form 8825, Form 1065, Schedule K-1, Form 1040 and Schedule E .
Is An Llc A Better Choice Than An Umbrella Policy
An umbrella policy is a type of insurance that attempts to reproduce the protections of a Florida Rental Property LLC. They are, however, limited in scope. An umbrella policy covers you in situations where the damages incurred go beyond those covered by your standard insurance policy. For instance, if your insurance covers damages up to $500,00 and youre sued for twice that amount, your umbrella coverage will help with the balance.
While umbrella policies do offer increased personal asset protection, they are not nearly as comprehensive as an LLC. If you end up paying more than your standard insurance and your umbrella policy is willing to cover, then the remainder can still and likely will be taken from your personal assets.
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Tips For Maintaining A Strong Financial Life
- Finding a qualified financial advisor doesnt have to be hard. SmartAssets free toolmatches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If youre ready to find an advisor who can help you achieve your financial goals, get started now.
- Being able to create a defined budget is a skill that not many people have anymore. However, a budget is the best way to ensure that you never fall on hard financial times. Budgets can be useful if youre looking to save up for a vacation or another expensive venture as well. SmartAssets budget calculator makes it extremely easy to get a plan ready to go.
Passive Income Loss Rule
If you have losses from passive activities such as owning rental properties, typically you can only deduct those losses to offset other passive income sources, such as other rental properties. For example, if you earn $10,000 from one rental property and have an $8,000 loss on another, you can offset your $10,000 income with the $8,000 loss, for a net taxable rental income of $2,000.
But if you have a net loss, that cant be used as a deduction against your active income from your 9-5 job. You can carry it forward however, to offset future passive income earnings and rents.
Heres how the TCJA changes matters: theres a new $250,000 cap for single filers, $500,000 cap for married filers, for passive losses. Any passive losses that youre allowed, in excess of those caps, must be carried forward to the next tax year.
It wont affect most landlords, but its something to be aware of.
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Rental Property Llc: Disadvantages
While there are many benefits to operating a rental property LLC, there are some disadvantages too, including the following:
Higher costs to setup the LLC
Ongoing maintenance costs
Asset protection is not guaranteed
In addition to the setup costs of forming an LLC, there are ongoing fees and other costs associated with the maintenance of your LLC. While the actual state registration fee might be cheaper for LLCs, other maintenance fees could add up quickly. Be sure to visit your states Secretary of State website to find out what fees are associated with forming your LLC, along with annual and other ongoing fees.
Asset protection is not guaranteed, and in certain circumstances, plaintiffs might be able to pierce the corporate veil and hold a member liable for the debts and obligations of the LLC, particularly in the case of fraud.
If you need help forming a rental property LLC, or want to obtain additional information regarding establishing an LLC, you can post your legal need on UpCounsels marketplace. UpCounsel accepts only the top 5-percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law, and average 14 years of legal experience, including work with, or on behalf of companies like Google, Menlo Ventures, and Airbnb.
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How Do You Name Your Rental Property Llc
Your LLC can be named anything you like as long as the name isnt already taken and is appropriate for your rental business.
Most landlords name their LLC after their property. This name has two advantages. For one, your tenants will recognize it. Second, its probably a unique address in your city or county, which makes registration easy.
Search your Secretary of States website to see if your desired LLC name is available. Many other online services allow you to check the availability of business names, such as Federal Trademark Records.
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The Benefits Of Creating A Florida Rental Property Llc
Too few landlords in Florida know just how much they stand to benefit by forming a Florida Rental Property LLC. An LLC is a type of business entity favored by many small business owners and entrepreneurs for the flexibility and protections that it provides. You can start one on your own, or with any number of partners. Owners of an LLC are known as its Members. Now lets get into what you, as a landlord, stand to gain from creating an LLC for your rental properties.
So, how can an LLC make life easier for landlords and other property owners in Florida?
Tax Benefits Of An Llc
Forming an LLC can also provide you with impressive tax benefits. Once you’ve established your company, you’re taxed either as a corporation, partnership, or sole proprietorship. The reason for this is that the IRS does not have a specific tax classification for LLCs.
The biggest tax advantage of LLCs is having access to pass-through taxation. Pass-through taxation basically means that the money that your LLC earns will not be directly taxed. With corporations, business income gets taxed both at the corporate level and the individual level. With an LLC, business income is only taxed at the personal level.
Any capital gains or income that your LLC earns will pass to you, the owner. Then, you’ll report this income on your personal return. This means that when you form an LLC for your rental property, the income generated by your property will not be subject to double taxation. When forming a single-member LLC for the purpose of managing rental property, you will be able to deduct mortgage interest because the IRS treats single-member LLCs the same as sole proprietorships.
You should be aware that your taxes, including deductions for mortgage interest, will be significantly more complicated if you decide to form a multi-member LLC. If you want to form an LLC with multiple members, you should consult an experienced attorney about the potential tax implications.
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Llc V Liability Insurance
Understandably some San Diego real estate investors dont want to go to the trouble of forming and maintaining an LLC since liability insurance is an affordable and simpler option. However, it is not necessarily smart to rely on insurance as your sole source of liability protection. Liability policies have limits, exceptions, and carve-outs that can affect whether or not a circumstance is even covered. Although it is rare to have a loss that exceeds policy limits, it can happen and can have devastating consequences if it does.
Are There Ongoing Costs Once You Create An Llc
Below are two possible ongoing costs once you create an LLC:
- Annual franchise tax can be $250-800.
- Most states charge an annual fee for having an LLC. It can be as low as $9 and as high as $500.
In addition to the above costs, there is the possibility that your interest rate will change as a result of transferring title of your property .
Keep in mind that transferring ownership to your LLC may trigger tax consequences depending on the value of your property when you transfer title. This is because the value of your property may have increased from the time you bought the property. These additional tax consequences can be avoided by creating an LLC before you buy the property.
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Keep Your Rental Properties Separate From Each Other
In addition to separating the rental property from your personal assets, you should also separate your rental properties from each other. If you own multiple properties, you can insulate each property from liability claims by setting up separate LLCs for each property.
If you have all of your properties under separate LLCs, then if someone files a lawsuit pertaining to one of your properties, the rest of your properties will not be affected by the lawsuit. This effectively separates and protects each of your properties.
Llc Vs Alternative Structures
An LLC is a business structure that offers liability protection to its members, and also offers those members many ways to manage the company. Unlike some other business structures, the LLC actually owns and manages the business, while the members decide how to split any profits gained through the LLC amongst themselves. When comparing an LLC to a corporation you will find that both offer liability protection for the owners, but a corporation is much more complicated to form and operate, while often not having the same amount of tax benefits as an LLC.
Finally, when comparing an LLC to a sole proprietor or partnership structure, you will find that the LLC is a little more difficult to form and operate. However, an LLC will offer protection for its members while a sole proprietorship or partnership will hold its owners accountable for all debts and liabilities that the company incurs. You may purchase business insurance to help protect against these liabilities, but many real estate investors opt to use a business structure that will offer liability protection due to the risks associated with real estate investing.
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Insulate Your Different Properties
If you plan on renting multiple properties, then your personal assets arent the only things that you should keep separate. Your rental properties should be separated from each other, too. You can do this by creating a different LLC for each property. This way, a lawsuit against one property wont negatively impact another. The importance of this protection cannot be overstated.
Rental Property Owned By A Business Entity
Landlords who own their properties through business entities will have a lot more forms to fill out, and tax filing could become a daunting task. Business entities, such as general or limited partnerships or S corporations, will need to report their rental income or loss using the IRS Form 8825 Rental Real Estate Income and Expenses of a Partnership or an S Corporation. Form 8825 is very similar to the Schedule E that an individual owner with sole title would use to file their rental income taxes.
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Manage Your Rental Business With Avail
Buying a rental property through an LLC can help you limit your liability, have more privacy, and separate your assets. But there are also some disadvantages to doing this, so youll want to consider all of your options before deciding.
Regardless of whether or not you have an LLC, Avail can help you save both time and money spent on managing your rental properties. Advertise your rental, create custom rental applications, access lawyer-reviewed lease agreements, and more all in one place. Create an account to streamline the renting process with landlord software.
- Advertise your rental online
- Collect rent online and more
- Access lawyer-reviewed lease agreements
Limit Your Personal Liability
If you own your property as an individual and someone files a lawsuit against you, then your personal assets are at stake. However, if you create an LLC, then the only assets at stake are those owned by the LLC. In other words, your rental property is the only asset at stake and not your personal finances.
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Limiting Liability In The Event Of A Lawsuit
Limiting liability in the event of a legal dispute can be tricky. Courts can either enforce or invalidate such clauses, and its always a good idea to seek local legal advice. One important thing to consider when drafting a limitation of liability clause is the nature of the claim. Some actions may be barred by statute, while others may be barred only by contractual provisions.
Another way to limit liability is to agree on a damage cap. This limit would limit the amount of money one party would be liable to pay for damages if the other party won the suit. For instance, if party A causes damages to party B, he would only have to pay the damages up to a cap and then be responsible for anything above that amount.
Limiting liability in the event of a legal dispute should be drafted carefully. It should include clear standards for what constitutes misconduct. An example would be gross negligence. If the customer wants to exclude certain behaviors, they should explain the misconduct in the contract. Whether the customer can prove, negligence is an important consideration.
A court can impose a limit on liability that is both clear and reasonable. It can even impose a sole remedy clause that limits the plaintiffs rights to return the loan. However, using a sole remedy clause can make the litigation more expensive for both sides.
Benefits Of An Llc For Rental Property
Have you ever rented an apartment from a landlord or professional property management company? If so, you probably noticed that they asked you to send out checks that are payable to a company name rather than a landlords name. Usually, its also followed up by an LLC. Of course, this is by design.
Its becoming increasingly common to see landlords getting an LLC for a rental property. Believe it or not, doing this simple thing can make a huge difference in how landlords do business and how much taxes theyre on the hook for. If you have your own rental property, theres a good chance that youre thinking about doing the same. Heres what you need to know about using LLCs for rental properties.
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Llc Vs General Partnership For Rental Properties
A general partnership offers the same level of shared expense and control as an LLC, but without the liability protection. Workload is shared between members of the partnership, much like it would be in an LLC. A general partnership is a bit less formal.
There are some benefits to choose a general partnership instead of an LLC.
- Less formal structure. There are fewer guidelines to adhere to in the creation of a general partnership. While it is still a business structure, there are fewer restrictions and qualifications than with LLCs or corporations.
- Lower startup cost. LLCs can have expensive startup fees, as well as yearly fees to keep the LLC running. General partnerships can start without a substantial cost, and any cost is shared between partners.
Compared to LLCs, however, there are some drawbacks to a general partnership.
- . This is the biggest reason why someone might want to choose an LLC instead. General partnerships dont offer an umbrella liability that protects personal assets. Instead, the liability for any lawsuits or damages is split between the partners.
- Needs more than one member. LLCs and sole proprietorships can exist with just one member or owner. General partnerships need at least two individuals to be part of the company.