There is a developing national trend. Today, more LLCs are being formed in the US than corporations.
Necessity, it is said, is the mother of invention. Given the simplicity, protection, and flexibility of the Limited Liability Company (‘LLC’), some states have begun to adopt the newer LLC form of ‘Series’. Starting 10 years ago with the concept of ‘cell’ captive insurance companies used abroad, the states of Delaware, Nevada, Oklahoma, Iowa and now Illinois have adopted the new ‘Series’ LLC. May be well suited for certain types of businesses and investment holdings, such as multiple income generating real estate, aircraft leasing, container vessels such as tankers and cargo ships, franchise business ventures (i.e. multiple fast food outlets), trucks and transportation fleets, and companies that have operating divisions that need to improve the liability shield to better protect one part of another’s business.
THE CONCEPT MAKES SENSE.
Using multiple LLCs for owners is a conservative and safe way to go. However, rather than registering a traditional LLC, forming a new ‘series LLC’ may be a smarter way for real estate investors to go. The concept is simple. It is based on the Cell Captive Insurance Company model used in other countries.
Even if an LLC ‘mothership’ entity is formed, each separate cell within it (called a series) may be accounted for separately, and each may own assets and operate as a separate business enterprise. The idea behind the legislation is that the responsibility of one cell does not infect the others as long as the guidelines are followed.
So now, instead of using land trusts or numerous traditional LLCs, a less expensive option may be to hold multiple rental properties or fix and switch into a series LLC, giving each cell within it a separate business designation, it’s say, ‘Valley Properties LLC’. Series I or Series II or Series III’ or ‘Valley Properties LLC Series A or Series B or Series C’ for example. This simplifies formation and reduces legal and tax costs, since only one registration with the state is made and a single consolidated tax return is prepared. To keep paperwork clean, each series should be separately identified as distinct from the others in all business and tenant transactions, including lease and rental agreements, deposits, bank accounts, etc. in the name of that particular series as opposed to the ‘mothership’ LLC or any of the other series. You will, of course, need to register as a ‘foreign’ company in any other state in which you have property, but only once.
WORKING THE NUMBERS.
Real estate investors ‘work the numbers’ every day. Purchasing an investment property, fixing up, advertising and insuring the property, attracting stable tenants, maximizing tax breaks, and working on cash flow management are all part of how you build a portfolio of income-producing real estate. To save costs, instead of paying for multiple ‘traditional’ LLCs, consolidation through a single ‘Series’ LLC can offer significant cost savings.
Let us consider a case example. If an investor has 20 properties and uses the new Series LLC, even if franchise tax applies, the savings in the costs of forming multiple entities and preparing taxes can be significant. The difference could be better spent on acquiring more income generating rental properties and marketing to new paying customers, don’t you think?
WHAT ELSE TO CONSIDER?
o The Illinois-type Land Trust (sometimes called a ‘Real Estate Privacy Trust’) is effective in protecting privacy and preventing probate, but it is not a liability shield. It’s just a ‘privacy mask’. Some real estate investors in the past have used multiple real estate privacy trusts built around LLCs to save franchise tax fees, but now that Series LLC has arrived, that practice will fade just like 8-track tape and the Beta video system. With Series LLC you can have privacy and protection in a single entity.
o Using Series LLC will not make sense if there are a large number of unrelated parties, as flow considerations can put a heavy burden on your accountant. After all, simplicity is what’s behind the new LLC Series. Real estate investors will want to take advantage of the Series LLC as a preferred form of ownership, particularly when the LLC members are single owners, married couples, perhaps a family trust or family limited partnership.
o After your Series LLC is registered and Members have signed the Operating Agreement, be sure to sign separate ‘Series Agreements’ for each cell they choose to use. All future transactions must reflect the name of that particular series so that you enforce the ‘separate’ quality of each of the series units or ‘cells’. As long as income and expenses are accounted for separately (perhaps using Quicken® or QuickBooks®) and a single consolidated tax return is prepared, the fact that multiple properties are under the umbrella of a ‘mother ship’ (subdesignated as Series One, Series Two, etc.) makes it easy to track income, costs, tenants, fees, property taxes, and profit for each Series.
WHERE SHOULD I FORM MY LLC SERIES? About seven (7) states have so far adopted the Series LLC. However, four (4) other states have adopted laws that strictly limit LLC creditors to a “sole legal remedy” known as a “collection order” (a passive lien on distributions). However, of the 50 states, only Nevada has done both. Once your new LLC has been formed, if you are going to use it in another state, simply register it as a ‘foreign’ (out of state) company with that secretary of state’s office. Once you’re registered to do business, we can show you the smart way to protect your liability risks and legally manage your tax costs so you have more to put into your retirement accounts for the future.
Later, in your business transactions, make sure that each individual Series is clearly distinguished from the others. Treat it as a separate business. Consider that each series uses independent brokers, independent lenders, and perhaps different banks just to make it clear that they are independent. Leasing agreements and all other documents should reflect the series designator so that it is clear that the lessee is not doing business with the “mother ship” of the LLC, but with a particular Series as a separate business enterprise.
LOOKING AT THE ‘BIG PICTURE’.
Forming an LLC to hold investment property is a positive step in the right direction. However, it is a step. Keep the ‘big picture’ in mind: what are you trying to achieve by investing in real estate in the first place? You are trying to build, and preserve, a secure estate that provides you with cash flow and a future for your loved ones. Keep in mind that each property you acquire is part of a construction process that is dynamic. You are using a system to find, acquire and finance each property. Use the tools that give you power and don’t get overwhelmed by the small details that can distract you if you let them. Use professionals for tax preparation, property acquisition, and finance, and continue to add to your portfolio with focus and discipline. Use professional advisors as a support system, but remember that they work for you so you can enjoy what you do best: acquire more income-producing real estate.
