Rental property is a great investment in these tumultuous times, but as with any investment, it comes with downsides – including potential liability.
Fortunately, if you venture into this particular enterprise, there are ways to protect your assets and reduce the likelihood you will be the target of a lawsuit that leaves your bank accounts bereft of funds.
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Two essential components come into play with asset protection as it relates to rental property: privacy and risk mitigation. Privacy involves shielding your ownership of assets from the probing eyes of the world. Risk mitigation is about making sure that if you are sued, your losses are limited.
Sometimes people become confused, uneasy or even suspicious about that privacy component. Why would anyone be secretive about their ownership of property, they ask, unless they are up to no good? These skeptical souls no doubt imagine slumlords getting away with sleazy actions, leaving tenants at their mercy with no way to fight back.
That’s not what this is about, though. Tenants already have legal recourse to make claims against the property they reside in and its equity. They don’t need to know who the owners are or what other assets the owners own to accomplish that.
But there are legitimate reasons to make it difficult for people to discover that you own a piece of property, especially since sometimes lawsuits are about who has the deepest pockets rather than who has done someone wrong.
So it’s best not to advertise your assets or make it easy for would-be litigants to see what you own with a simple online search. Shield your ownership and you can limit your liability, all at the same time. In the best situation for you, attorneys will find nothing and go on their way, because they have no interest in suing indigent defendants.
But how do you create anonymity – specifically in a real estate context? A few methods exist, but I am going to focus on one approach: putting your properties into limited liability companies, and shielding the fact you are the owner of these LLCs.
The Benefits Of Wyoming - Or Delaware
In most cases when you form an LLC, the state collects information on the LLC’s managers or members. Let’s say you created one in Washington state. When you filled out the Articles of Organization, the state would require your name and address. Instantly, your involvement would be available to anyone with access to a computer.
Here’s our first workaround. Regardless of where you live and where your property is, establish an LLC in either Wyoming or Delaware. Those are asset-protection-friendly states that don’t collect information on the LLC’s members or managers.
Once that is out of the way, the next step is to register a second LLC in the state where your property is located. The property itself will be deeded into this state-based LLC.
LLCs can be set up to be managed in two ways – either by a manager or by members. If a manager is the one calling the shots, then that manager’s identity must be disclosed. Here’s the crucial part of all these steps to anonymity: Set up the second LLC as member managed and list one member.
That member will be the holding company you set up in Wyoming or Delaware. This creates a situation where the state-specific LLC points back to the first LLC, and that LLC does not disclose your identity.
Don’t View This As A DIY Affair
A bit of caution here. The strategy I just shared is for new setups; that is when you are building your plan from the ground up or working with new LLCs you are setting up for your investments. Things are trickier if you already have existing LLCs and now want to protect them with an LLC holding company. Make the wrong move and it’s easy to blow your anonymity.
Here’s why: Even if you amend your LLC to be member-managed and link that member to the LLC holding company, some states still keep the old records available. It’s simple enough for someone to examine old records and connect everything back to you.
In such circumstances, I recommend one of two options. The first would be to shut down the old LLCs and create a new one, although this comes with its share of headaches. Opening and closing LLCs that hold real estate can prove a heavy load because it entails shutting down bank accounts, changing property tax statements, and handling other burdensome tasks, then starting anew.
The other, less troublesome option is to set up a personal property trust to hold the existing LLCs and make the Wyoming or Delaware holding LLC the beneficiary of the trust. If that sounds overwhelming, don’t fret. The personal property trust is simple to set up, does not require filing with any state, and comes without annual entity fees.
Remember, though, all of this is just a brief overview, and the strategy I’ve outlined should not be implemented casually or sloppily. Though it sounds simple enough, that doesn’t mean you should try it yourself without legal help. The fact is, there are needed pieces you can’t easily obtain on your own, and there are missteps you can make that could cancel out all your efforts.
You don’t want to set out to protect your privacy and limit your liability, then end up failing miserably on both counts.
About Clint Coons
Clint Coons, the Forbes Books author of Next Level Real Estate Asset Protection: Comprehensive Strategies for Investors, is an avid real estate investor and lawyer who takes investing to the next level through asset protection, tax reduction, and estate planning.