Do I Need a Trust or an LLC For My Alabama Real Estate Investment Property?
If you’re thinking about purchasing an investment property, your primary goal is to earn a return on it, either through tenants and rental income or the future resale of that property. But, of course, if you’re business savvy, you can manage to do both.
Of course, with investment properties come tax implications. So, depending on how you choose to use your investment property, you may be liable to pay income taxes on it in addition to capital gain should you sell the property for more than its original purchase price.
Depending on your goals, an experienced attorney for real estate investors would advise you to either protect your investment as an asset in a living trust or form an LLC to save it as a business entity.
Keep reading to learn more about trusts and LLCs for your Alabama Real Estate investment property.
How Does a Real Estate Trust Work?
A real estate trust or a revocable living trust is essentially a living trust, a formal document used to allocate assets to specific beneficiaries. For example, in the case of an investment property, a living trust would set up the arrangement for your name (as the owner of the property) to remain hidden while assisting with your estate planning or to allow for investment opportunities without getting hit with heavy taxes.
When using a living trust, you can allocate your investment property to a beneficiary.
For example, perhaps your investment property is a home meant to appreciate over time. When the time comes, you might want to hand it down to an heir who can move into the house with their own family or choose to sell it.
There are also a few advantages of using a real estate trust. These advantages would include the following:
Documentation for multiple owners
You may be in a situation where you’ll have several owners of one investment property. For example, they could be investors or an official partner. In this case, a living trust becomes a helpful but, of. In that case, suppose document for recording the relationship and interests among all property owners.
Estate planning for taxes
If you plan to pass down your investment property to an heir, creating a real estate trust can help those heirs avoid death taxes.
By law, there are no inheritance taxes in Alabama up to a certain amount. However, the investment property can come with taxable income, mainly if the property is being run as a business.
Anonymity for investors
As mentioned earlier, living trusts allow for a certain anonymity level to protect liens and bill collectors.
While tax records and other documentation for properties, such as the deed to a house, is technically a matter of public record, if you have multiple people with interest in the investment property, their information can be kept anonymous so long as their name isn’t on the deed or any other public document.
The disadvantage of a real estate trust is that the rules and laws regarding included are constantly shifting. They also tend to come with several legal fees since you and your partners will need to consult with your Alabama business lawyer each time a modification has to be made.
How Does a Property LLC Work?
A Limited Liability Corporation (LLC) is a legal entity that you can own singularly or partially. The upside to forming an LLC is that you don’t have to hire employees, have any investors, or even set up a board of directors. All of these things tend to be required to form regular corporations.
Having said that, you would form an LLC for your investment property to run it as a commercial business. So, for example, you would rent it out as a storefront, or take on tenants, and so on.
As an LLC, you would be running a tax-through corporation. That means any profits or losses would pass through to you—the owner—and you would have to report those profits or losses on your personal tax return.
In terms of the tax implications, these are the advantages of forming an LLC business entity for your investment property:
You get limited liability
When you establish an LLC, you’re separating your personal assets from your business assets. This undoubtedly protects you during legal disputes. So, if you form an LLC for your investment property and someone decides to sue you, they cannot go after your personal assets.
However, it should be noted that in Alabama—and most other states—if your LLC property is used for illegal purposes, then your personal assets will become legal targets. Because of this, when you form an LLC for your investment property, you’ll need to prove that the property is, in fact, a legal business and is not being used to hold your personal assets.
Anonymity
While anyone can look up a corporation online and find out information about the owners and so on, LLCs offer more anonymity. This is because you get to name your LLC virtually anything you want, and every Huntsville corporate attorney will advise you to leave your name or anything associated with your name out of that title.
An LLC will offer more anonymity than real estate trusts in this instance. Unless, of course, you decide to openly advertise your LLC.
You can run a commercial property.
Suppose your investment property is meant to be a multi-tenant apartment complex or a complex for commercial retail tenants. In that case, an LLC will minimize your risk in doing so.
Apartment complexes and commercial retail locations see more foot traffic than single-family homes. Unfortunately, that means accidents are bound to happen, which are typically followed by lawsuits—and your insurance company may not want to settle your claim.
An LLC will protect your personal assets if your insurance refuses to cover you when an accident happens.
Having an LLC also allows you to run your investment property as an income-driven business. But, again, this is something that a real estate or living trust can’t do.
The only real disadvantage to forming an LLC for your investment property is that most states charge an annual filing fee. For example, in the state of Alabama, you can pay up to $500 annually just to renew your LLC.
Are There Any Alternatives?
If you don’t want to create a trust or form an LLC for your investment property, you do have the option to purchase it the traditional way: In your own name.
In other words, you would simply be buying a secondary property.
Of course, the only time an attorney for real estate investors would actually suggest this option is if you have plans for personal use of the property—i.e., a vacation home.
Although, purchasing an investment property in your own name does have a few upsides, including cheaper closing costs as well as liability insurance and the ability to obtain a mortgage. However, it’s also riskier because insurance companies and banks will have the option to go after your personal assets if necessary.
Suppose you choose to purchase an investment property in your name to rent it out, such as a single-family home. In that case, you’ll want to make sure to get the proper insurance with a policy that can limit your level of risk in case there’s an injury sustained on the property. Otherwise, you run the risk of losing the property and your investment altogether.
Figuring out the proper steps to take when purchasing an investment property can be tricky. Not to mention, expensive if you do it wrong. That’s why it’s a good idea to seek the help of an experienced attorney for real estate investors.
Get in touch with us today to consult with Sarah S. Shepard or another experienced Huntsville corporate attorney about your investment property.