Over at the real estate blog, BiggerPockets.com, Ali Boone wrote an excellent article entitled “Should You Put Your Rental Properties in an LLC?” As of today, the article has generated over 90 comments. Below, I have republished my comment from back in August here for my readers:
Ali:
I am a Texas attorney and I have formed a number of series limited liability companies for my real estate investor clients (both residential and commercial). In addition, I have converted several limited liability companies to series limited liability companies. I have written and spoken on the series limited liability structure.
For the unfamiliar, a series limited liability company is an LLC that, in essence, has a “master” LLC and one or more individual “series”. (More on this in the last section – below the dashed line.)
The following states have a series limited liability statute: Delaware (since 1996), Texas (since 2009), Illinois, Iowa, Nevada, Oklahoma, Tennessee, Utah, Kansas, District of Columbia, and Puerto Rico. Each state is a bit different and your readers in these states should consult an attorney familiar with their state’s statute (and any relevant case law interpreting that statute).
In Texas (under the Texas series limited liability statute), a series LLC is a great choice for real estate investors. It offers all the advantages you mentioned in your article (i.e., asset protection, tax advantages, and it sounds really cool). More importantly, however, it ameliorates many of the disadvantages you identified. Briefly, here’s why:
(1) Cost:
In Texas, the filing fee for a series LLC is $300 ($325 if expedited). Every time a new series is added to the series LLC the owner does not have an additional filing fee.
(2) Financing:
Many larger lenders in the states I identified above are becoming more comfortable with this choice of entity. Depending on the borrower, some lenders may want to cross-collateralize the assets (cross-collateralization is often required by lenders making a loan on multiple properties in the series LLC) and most still require a personal guarantee (which most of the time can be negotiated to include the so-called “bad-boy carve-outs”).
(3) Non-foolproof asset protection:
In a business friendly state like Texas (and Delaware), states are respecting the individual structure of each series. As long as the owner keeps a proper accounting among the assets there should not be any issues. Series “A” will only be liable for the debts and obligations of Series “A” and Series “B” will only be liable for the debts and obligations of Series “B”. In other words, a lawsuit against Series “A” won’t affect “Series “B”.
(4) Triggering due-on-sale clauses.
This is only a disadvantage if the respective loan is not personally guaranteed. If the loan is personally guaranteed then this shouldn’t be a problem (just be sure to get consent from each lender).
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A typical series LLC structure for many of my real estate investor clients looks like this (I’ll use my last name in the example):
Master LLC = Clark Holdings, LLC, a Texas series limited liability company.
First series = Clark Property Management, LLC, an individual series of Clark Holdings, LLC, a Texas series limited liability company.
Second series = 123 Main Street, LLC, an individual series of Clark Holdings, LLC, a Texas series limited liability company.
Third series = 456 Main Street, LLC, an individual series of Clark Holdings, LLC, a Texas series limited liability company.
I run my property management through the first series. The second and third series each hold their respective property and the respective debt.
If, subsequently to setting up my series LLC, I buy another property, I simply add a fourth series (i.e., 789 Main Street, LLC, an individual series of Clark Holdings, LLC, a Texas limited liability company). If I subsequently sell the asset in the first series, I then can dissolve that individual series.
I hope this gives you and your readers some valuable insight in to the structure of a series LLC.
Trying to understand the structure, and I’m setup as you described, however If I purchase Series C “and we will call it 123 anystreet” with cash, in other words the Deed of trust says John Doe Holdings Series LLC Series C 123 anystreet and someone dies in a house fire at 123 anystreet and it gets sued then all the money spent for 123 anystreet is up for grabs. How do I protect that investment AND should the warranty deed read as above or simply Series C 123 anystreet LLC
Thanks,
David
David: insurance is the first line of defense. Any damages in excess of the insurance coverage will be paid by the assets of the individual series (assuming proper accounting of the assets of each series). If the name of the series is “Series C 123 Anystreet” and the name of the LLC is “John Doe Holdings Series LLC” then ownership would be titled as “Series C 123 Anystreet, an individual series of John Doe Holdings Series LLC, a Texas series limited liability company.” And this illustrates why I don’t recommend using the word “series” in the name of the LLC or “Series x” in the name of the individual series–it’s too cumbersome.
I have a Texas Series LLC with four series each holding a separate rental property. The Series LLC is a disregarded entity with my wife and I as the sole members. If/when in the future we decide to use a 1031 Exchange, will we be able to form a new Series for the replacement property? Will this satisfy the “same taxpayer” requirement for IRS purposes? If the replacement property has to be purchased by the same series as the relinquished property, might this be a reason to use generic Series names such as “A” rather than “123 Main Street”?
Brian: I am not aware of any IRS guidance on the issue you raise. Technically, the LLC (and all of its series) is a single entity and therefore should satisfy the same taxpayer requirement based on that fact alone. However, I have not run into this issue and don’t know the answer (but I’m going to try to find out).
Excellent question from Brian on August 26. Can you let us know what you think? I am also curious about separation of moneys/accounts within the series. For example, I would love to have one checking account in the master LLC to receive income and pay for expenses or purchases within each of the series holding an individual piece of real estate. How would this arrangement affect the potential for liability from one property to pierce the protective veil of another in the series?
Greg: in Texas, so long as you can account for the assets of each series (whether the income is in one bank account or separate bank accounts) the liability shield remains in place. As a best practice, however, I recommend separate bank accounts for each series.
Is the Texas series LLC useful for liability protection if it is set up in Texas but the rental property (first series) is in Oklahoma? I saw in another post that Oklahoma does not have a series LLC statute.
Tara:
I am not certain whether Oklahoma will recognize a Texas series LLC.
Bradley
Can a Texas Series LLC be created for, and operated by an individual residing in another state (Mississippi)? Can this LLC operate and purchase properties outside of Texas? Also if a Master LLC is setup with several series LLC’s each owning property, can any of the series be sold as a business rather than just the asset that it owns?
Thank you for your assistance.
Chris
Chris:
A resident of another state can own and operate a Texas series LLC. A registered agent is needed inside Texas. Some states may recognize a Texas series LLC but I’m not certain which do. If a state will recognize a Texas series LLC then I’m sure there is a foreign-entity registration requirement in that state (for example, a Delaware corporation conducting business in Texas must register as a foreign corporation in Texas). Yes: an individual series can be sold.
Bradley
Bradley,
Excellent write-up. Question on insurance – we currently have setup similar to your example. The properties are each owned by their series, however, the investment properties have mortgages in our personal names. For insurance, the best solution we could find is to add the property’s LLC as an additional insured on our personal property insurance for each of the houses. What are your thoughts on this? Is there a better way?
Thanks!
I am a real estate investor and am beginning the process of restructuring my company. Currently I have 2 LLC’s which own 124 properties and 80 properties respectively. They are mostly SFR with some duplexes and a 5-plex. It seems as thought a series LLC would be ideal. But all the examples and info reference 4 or 5 separate series. Is it even reasonable to keep up with the requirements if I am planning on having over 200 series?
Can you spin off one of the Texas series into its own separate non-series LLC entity? For example, if you have a series that has morphed into a larger company and would like to provide services in a non series-friendly state.
Some great content on Texas Series LLCs. Thanks for providing these articles! What are your thoughts on forming a Texas Series LLC as a management company and having mixed business types as a series? For instance, Series A holding a Texas rental property and Series B holding ownership of and operating a retail website? Thanks!
Bradley,
I’ve read the IRS Proposed Reg’s regarding Series LLC’s and wanted to get your opinion on the federal tax filing on the situation you presented above. Would that structure file one tax return, a 1065, assuming that the Series Organization is owned by two members and it doesn’t check the box to be taxed as an association? If so, all activities of the series LLC’s (ie: the various rental properties) would be represented on the series organization’s tax return assuming that each series is owned 100% by the series organization.
Thanks for your help,
Brian