When to create an LLC?

[jfpen]

I'm an owner of a four family home which is my primary residence. I plan to buy another rental property in the future. At what point does it make sense to create an LLC?

Thanks

[alex79]

jfpen,

Good to meet you. I am new to REI, so take my advice lightly, here is what i did in my case.

I own 1 rental property which I hold in LLC. I established my LLC many months before i bought investment property because I wanted to have LLC ready when i need it. There is no harm to form it before you buy your rental, its a good excersise if you've never done it before. Do it just to learn the process, in MI it only costs 50 bucks to form an LLC.

Alex79

[BLL]

Unless the state fees and registred agent costs are less than a few hundred per year, it isn't really worth it, especially if your net worth is less than a few million since you can buy insurance for that amount. Depending on the state, you may need to hire an attorney to represent the LLC for any court proceeding and that will drive up your costs. Managing yourself pretty much voids any limited liability since it will be one of your acts that creates the liability. Most of the time, plaintiffs settle for the insurance limits anyway, making the LLC a moot point. If your LLC gets sued, do you have the $50K it could take to defend it?

The biggest obstacle you will find is that the inexpensive LLC operating agreements usually lack the necessary clauses to offer any protection when you need it, especially with the new type of charging order creditors are getting. Consider how long you can hold out under the following situation:
Nobody can take money out the LLC.
The LLC can't make any major purchases.
The LLC can't sell major assets.
A receiver will run the LLC at a cost of $600/hr.
Meanwhile, you are responsible for paying taxes on LLC profit even though you don't have access to the funds.

If you plan to work with a partner, then an LLC can protect you from his actions, but you still have the issues I have already mentioned. Sit with a qualified planner to determine if an LLC makes sense for your situation. There are considerations such as tax and estate planning that must be evaluated.

[mcwagner]

BLL:

last I read (haven't looked lately) the IRS considers LLC income under a charging order taxable to the holder of the charging order, not the members.

[BLL]

Do you mean Revenue Ruling 77-137(3) and Evans v. Commissioner?

Taxation is determined by the difference between holding a charging order and having dominion and control over the interest. Here is a good analysis of the difference wrt taxation. Since the article is old, I checked with the author and his partner, Jay Adkisson. There has been no change in the IRS view of charging order taxation to their knowledge. The debtor owes the tax if a creditor merely holds a charging order. Having dominion and control over the interest creates a tax liability for the creditor.

http://www.riserlaw.com/publications/ap/credtax.htm