What’s an LLC and what it can do for you in real estate? Not everybody understands the purpose of an LLC and how it ties back to the overall picture of real estate investing. An LLC brings benefits and it can help you be financially protected as a member or as an owner.
Let’s define what an LLC is. An LLC stands for limited liability company. An LLC is, in essence, a business, a company. It has owners and members. You can have as many members as you want, or as many owners as you want. That’s why sometimes you see LLCs that are 100% owned by one person. Sometimes you see a 50/50 share. That’s something that’s typically defined by the members or amongst the members.
Why would you want an LLC? Number one: for asset protection. But, what is asset protection? It means getting protection for your assets or simply protecting yourself against litigation.
Asset Protection and an LLC
Some would say, “Don’t I have insurance for that?” Yes, you can use insurance, but LLCs, in terms of asset protection, they offer a bit more than what an insurance can offer.
Imagine you have an asset: a house. If something were to happen in your property, or let’s say, a tenant wants to sue you for whatever reason, they can either sue you or they can sue your property, or they can sue everything all together. Then imagine if you have a bunch of other assets: A, B, C, D. Maybe having insurance can give you a certain level of protection, depending on how much you bought the insurance for, but it might not protect you and everything else you have without an LLC.
When an LLC comes into the picture, it creates a shield. Think of it as a bubble shield. For every asset you have, you can actually put it into an LLC. You have property A on an LLC, then you have property B on an LLC as a shield, and then you have another shield on C, and you have another shield on D.
If you have all of your assets owned by the LLC, you still own those assets, but those assets are not under your name. If those tenants decide to sue you as a person, you don’t own anything!
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Everything you have is owned by the LLC. Let’s say someone decides to go after one of your LLCs. They can only go after one LLC at a time, unless they have a lot of money and they really want to win the case, then they can go after everything. This represents a lot of money in the litigation process. They’re going to have to pay to go after LLC A, then LLC B, LLC C, D, and so on. That’s going to take a lot of time also.
It’s not worthy of their time. They want something easy where they can just go in and out. In essence, this is one of the things that an LLC can do for you. Another thing that an LLC can do for you is that it’s beneficial in terms of taxes. An LLC is a passthrough entity.
A Passthrough Entity
Basically, a passthrough means is that it’ll pass through your personal taxes. It pays taxes at a personal level. Some might say: “That doesn’t make any sense. I can still have the property under my name and declare taxes the way I normally do, right?” Not necessarily.
For example, let’s say you have two properties and for each of the properties, you charge $1,000 worth of rent, which means you’re getting $12,000/year for one property (refer to this blog’s video for visual examples). Then multiply that by two, that’s the equivalent of $24,000. Let’s assume that you, on a yearly basis, spend about $100 for property management and then another $100 a month for utilities.
Now you are actually covering $2,400 for anual property management fees and then another $2,400 anually for utilities. That will leave you at $19,200. Do you prefer to pay taxes out of the full $24,000 and not be able to deduct any of this business expense, or do you rather pay taxes based on $19,200? You’ll definitely have some savings if you go for the latter. Not having an LLC could take away those savings.
LLC and the benefit of building Business Credit
Another benefit you get out of having an LLC is the ability to build business credit. Every time you open an LLC, you receive an EIN number, which is like a social security for your business. This EIN number can be used to build business credit through a company called the D&B or the Dun & Bradstreet.
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It’s not just about the business credit. It’s more about access to funding. If, for example, you have $50,000 worth of credit card funds, and mortgages that are worth $200,000. That gives you a total credit access of $250,000.
Mortgages typically get approved based on how much money you make. You can get approved for up to three to four times the amount you make.
Imagine you have $250,000 (see this blog’s video for reference). How do you really scale up to that level of funding without impacting your personal credit in a negative way?
Business Credit and Real Estate Business
That’s when business credit comes into play. Your business credit is separate from your FICO score. You’re going to use your LLCs to get you that additional funding. Let’s say for example, you have $50,000 in business credit from one LLC. The amount of business credit is approved based on the income potential of your property and not on your income.
This is how you see an average person making $30,000 a year, and all of a sudden this person bought a building because they knew how to leverage business credit. You’re getting access to more funds. That’s just with one LLC. Imagine if you have two, three, four, or five different LLCs.
And over time, you could gain access to over a million dollars in funding just to invest in your real estate business!
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