Real Estate LLC Guide: Pros, Cons & How To Set Up (2024)

A real estate LLC is a type of business entity that allows you to sell, buy and rent out real estate separate from yourself as an individual. This means that if something goes wrong, you won’t be held liable personally—your company will. Because more than one person can be a member of a real estate LLC, forming this type of company also gives you the chance to own properties with multiple other investors.

Difference Between a Real Estate LLC and Corporation

While an LLC and a business corporation—like an S corporation (S-corp) or C corporation (C-corp)—both provide liability protection, they function very differently when it comes to taxes.

LLCs provide pass-through taxation, meaning you only pay taxes on your personal income tax return for any earnings you get. Meanwhile, corporations are double-taxed, meaning you pay taxes on your earnings both on your personal taxes and on your corporate taxes.

Difference Between a Real Estate LLC and Sole Proprietorship

With a sole proprietorship, you don’t have to file any legal paperwork or create a formal business structure. You’re the only person involved in the business, so you’ll be in charge of purchasing and managing all of your properties.

While that may sound simple enough, the tradeoff is sole proprietorships don’t offer anywhere near the liability protection of an LLC. There is no separation of your personal and business assets like with an LLC, meaning you could run into big trouble if someone makes a claim against your property.

Limits Your Personal Liability

The main reason to open a real estate LLC is to reduce your personal liability. For example, imagine if someone got injured on your property and wanted to sue you for damages. Since your LLC owns the property, they would have to sue the LLC, meaning that your personal assets wouldn’t necessarily be on the line. Any damages you may have to pay out can come from your business instead.

Another example might be if you fail to make payments on a loan for the property. If the debt is in your LLC’s name, you won’t have to wipe out your personal assets to satisfy the remaining loan amount.

Reduces Your Taxes

While LLCs can’t eliminate your tax burden, they can lessen it. Real estate LLCs have pass-through taxation, meaning that any income you earn is just taxed on your personal income on a Schedule D form. This eliminates the need for a separate corporate tax that you might pay with another type of business structure.

You may also be able to take a 20% business income tax deduction on your personal income taxes if you use your LLC for managing rental property income.

Allows You to Invest With Partners

You can easily bring other partners into the mix with an LLC. Rather than going through cumbersome deed changes—which need to be run through your lender—you just need to alter your LLC’s operating agreement to bring someone on board.

In this agreement, you can specify what percentage of ownership they’ll have, including how they’ll split the profits and losses of the company.

Triggers the Due on Sale Clause

If you already own some properties and want to transfer them into your LLC, you’ll have to be careful. In some cases, changing the name of the property owner can trigger a due on sale clause. They may demand the remaining balance of the loan at that time. If you can’t pay it, they potentially could foreclose on the property.

You may be able to ask your lender if they’ll waive this clause, especially since you’ll still be the owner through the LLC.

Doesn’t Offer Complete Liability Protection

Even with an LLC as a safeguard, there are times when you may still face personal legal consequences. For example, if your LLC takes out a mortgage and you guarantee it personally, the lender can come after you if your business goes into default. If you somehow fail in your duties as a landlord, a court may hold you personally accountable for any injuries or losses your tenant has suffered.

Increases Your Costs

The protection of an LLC comes at a cost—typically several hundred dollars to get started, as well as an annual fee to keep your business running. In some states, such as California, these annual fees can be as high as $800, so you need to account for this in your budget.

The good news is that forming a real estate LLC is remarkably similar to creating any type of LLC. Check out our full guide on forming an LLC to see these steps in more detail.

1. Decide on Your Name

Consider including words like “real estate” or “properties” in your name. It will also need to include the designator “LLC” at the end.

There are certain words that you’re not allowed to use in an LLC name unless you get special permission from your state. As an example, you can’t use the words “mortgage” or “investment” in New York unless you run a financial services LLC. The term “urban development” is banned completely.

Finally, once you have the perfect name, you’ll need to make sure it’s not already in use. Your local secretary of state office should have a database of business names in your area you can check with.

2. Choose the Registered Agent

A registered agent manages the legal documentation for the LLC. Make sure you choose someone responsible for this position who lives in the state where you’re forming the LLC—it’s possible to choose yourself, an employee or a third-party company.

3. Create Your Articles of Organization

The articles of organization—sometimes called the certificate of formation—outline the finer details of your LLC. It includes things like your name, purpose and how you plan on managing your real estate business.

Fill out this state-specific form, have all the business owners sign it and file it with your state. In some states, such as New York and Nebraska, you’ll need to publish an ad in the local newspaper to let people know about your new LLC before you submit your paperwork.

4. Create an Operating Agreement

While the articles of organization lay down the basic information of your business, the operating agreement goes more in-depth. It fine-tunes how your business will be run, including:

• Profit distribution
• How investors can get out of the LLC
• How the business will be funded

It’s not always a legal requirement to create an operating agreement, but it’s still a good idea to outline all of this so you don’t have disagreements with your partners later.

5. Follow Other State/Federal Requirements

Filing your LLC documentation is just the first step in being ready legally to buy properties as a separate entity. You’ll likely also need to get a general business license, apply for an employer identification number (EIN) from the IRS and file annual reports on the state of your business. These requirements typically vary by state, so check your state’s website for more information.

Overall, starting a real estate LLC is a good idea if you’re looking to move into serious real estate investing. It will offer you far better liability protection than operating as an individual or sole proprietor. It also provides superior tax benefits than an S-corp or C-corp.

While the steps to form an LLC are relatively straightforward, things can get a bit complicated depending on your state’s regulations. For more help with the process, we recommend checking out our picks for the best professional LLC services.