Pros and Cons of Buying Property Through an LLC

By Michelle Clardie on 07/30/2023.
Reviewed by Dan Gatsby .
Buying property with an LLC (limited liability company) is a fairly common practice in real estate investing. Rather than holding the asset as a private property owner, investors can form business entities to hold the title to the property. 

Why buy property under an LLC? There are several benefits of buying real estate through an LLC, including limited personal liability, increased investor flexibility, and possible tax benefits (all of which we’ll cover in the next section on the pros of buying property through an LLC).

But before you rush out to form your own LLC for your real estate investments, there are also a few potential downsides to consider. 

In this article, we’re exploring the pros and cons of buying real estate through an LLC. By the end of this article, you’ll have a much better idea of whether or not the LLC route is the right fit for you. 

Benefits of Buying Property Through an LLC

Here are the primary advantages of buying real estate through a Limited Liability Company (LLC).

Limited Personal Liability

One of the most-cited reasons for owning a property under an LLC is the limit on personal liability. As the name “limited liability company” implies, LLCs were designed to limit the exposure to liability for private individuals. For example, if the LLC were to be sued, the LLC’s holdings could be at risk, but the private holdings of the LLC members would not be. This limit made business and investment ventures less risky for entrepreneurs and investors, allowing them to contribute new capital to the economy. 

If you are building a real estate portfolio, you may consider holding each property in its own LLC for exactly this reason. Suppose a tenant were to sue for an injury sustained on one of your properties. If you hold the title to all your properties as a private individual, the tenant could sue you personally, exposing all of your assets to potential risk from the suit. But, if you hold the title under individual LLCs, the tenant may be limited to suing only the ownership LLC, leaving your other assets safe from the suit. 

Increased Investor Flexibility

LLCs can make it easier for multiple investors to pool their resources to purchase and maintain a single shared property as co-owners. Furthermore, an LLC may allow one investor to sell their share to another investor without incurring transfer taxes (since the ownership entity will remain the same).  

Tax Benefits

There are several tax benefits of real estate investing. And LLC ownership entities enjoy these benefits as well.

The IRS typically considers income from rental properties to be "passive” income. This means that the LLC’s income is not subject to the same payroll tax withholding as an earned-income business would incur (such as Social Security, Medicare, and unemployment taxes). 

The income (or losses) would flow through the LLC as passive income to be reported on the individual members’ personal income tax returns. 

Clean Accounting

Holding each property in your portfolio under its own LLC entity can make it easier to keep accurate records of income and expenses for each asset. Clean financial records minimize accounting errors and can prevent time-consuming reconciliations of errors in the future. 

Additional Privacy

When you purchase a property through an LLC, the LLC is named in the deed; your name is not included. property deed. Tenants and vendors will be doing business with the LLC and may have more difficulty accessing your personal information regarding the property. 

Potential Drawbacks of Buying Property Through an LLC

Having discussed the benefits of buying real estate through an LLC, we should now consider the possible downsides.

LLC Expenses

Creating your ownership LLC(s) will come with set-up fees. Firstly, there is a fee to register your new company in your chosen state. Then there may also be legal fees for drafting required documents like the Articles of Incorporation and Operating Agreement. 

Furthermore, if your property is located in a state in which you do not reside, you will need to appoint a registered agent to act on behalf of the LLC in that state.

Compliance Responsibilities

LLCs are held to different standards than individual investors. This means filing additional tax forms, for example. You may also be required to hold annual shareholder meetings and submit to federal and/or state audits. 

Financing Complications

Financing investment properties is always a bit more difficult than obtaining a mortgage for your primary residence. For example, when buying a second home as an investment property, your finances and credit will be under greater scrutiny from lenders who know that property owners priorities the mortgage payments on their primary residence over investment properties. 

Lenders also recognize that personal liability is limited when a property is purchased through an LLC, so they may be less likely to extend financing to an LLC than to a private investor. Even if they are willing to issue a loan, the terms may be less favorable than for a private investor. 

Another possible financing complication is the “due-on-sale” clause. This clause states that the full remaining balance of your mortgage becomes due if the property is sold. In some states, transferring your existing property into an LLC can be seen as a “sale” of the property. So if you have a privately-owned investment property with a mortgage that you plan to transfer to an LLC, discuss this will your lender first to see if this transaction would trigger the due-on-sale clause.

Possible Transfer Taxes

Transferring a property you already hold as a private investor into an LLC can trigger transfer taxes in certain states. Your state may view the transaction of moving the property from your own name into the LLC’s name as a taxable ownership transfer. In some states, you can file paperwork to assure the state that the property isn’t effectively changing hands, but other states see this as a taxable event, regardless. 

Limits to Liability Protections

While LLCs were intended to offer protection to private investors and entrepreneurs, there is a limit to these protections. For example, a court may hold the individual members of an LLC responsible for any harm done by fraudulence or negligence. 

Additional Aspects to Consider

The lack of effective planning and research is one of the biggest mistakes to avoid when investing in real estate. So it’s important to consider the additional factors of buying property through an LLC which are neither positive nor negative. Here are the neutral factors to consider, including:

  • Legal requirements vary by state. The cost to set up an LLC varies from state to state, as do the reporting requirements and taxes. Be sure to research your state-specific laws before opening your LLC. 

  • Working with a professional to establish your LLC. A professional may increase your investment expenses, but the assurance that your LLC has been properly registered and remains compliant is a worthwhile benefit. 

  • Your exit strategy. Before buying property through an LLC, you’ll want to have a plan for releasing your interest in the property. Will you sell the asset and terminate the LLC? Or simply sell your shares in the LLC to another investor? You might even plan for multiple eventualities, depending on possible future circumstances. 

Invest in an LLC through Gatsby Investment’s Real Estate Syndication Platform

At this point, you might be thinking that buying real estate with an LLC is the way to go. Or you might be thinking that buying an investment property with an LLC is too complicated. Maybe you’d like a way to hold your real estate investments in an LLC without the hassle or expense of creating the LLC yourself. Gatsby Investment can help!

Gatsby Investment is a real estate syndication company. This means we pool money from multiple investors who wish to own shares of our curated investment deals. For as little as $10,000, you can own a share of an investment property through Gatsby Investment. 

Each of our properties is held in an LLC ownership entity, with each investor in that specific deal listed as a member of the LLC. This gives you all the benefits of buying real estate through an LLC, without requiring any research, paperwork, or expenses on your end.

Want to learn more? Check out the Pros and Cons of Real Estate Syndication to get an honest look at the advantages and potential downsides of syndication. And when you’re ready to invest, choose from our unique investment opportunities!

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