I’m Forming A Real Estate LLC With Concerns About Taxation

My goal is to acquire 3 new properties a year and then rent each property to tenants. There are 7 other members of this LLC. What is the best way to arrange taxation on this LLC?

As a standard LLC? Or, arrange taxation as a Corporation? No dividends will be given to the members at least for 5 years.

– Anthony, Pennsylvania

Answer

You generally want taxation as a partnership, not a corporation, for the type of real estate venture described in your question.

A corporation is generally a bad idea for this type of real estate venture. The only time a c corporation would possibly be recommended is if you planned on forming a REIT (Real Estate Investment Trust) to be traded on public stock exchanges. Even then, not all REITs are c corporations–many are arranged as limited partnerships.

As a limited liability company taxed as a partnership, you and your partners would be able to tax the depreciation-caused losses as personal deductions on your personal tax returns. As a corporation, you would not, and would have to carry forward the losses against future gains.

Our firm does a lot of real estate work, and I don’t think we’ve formed a corporation for this purpose (owning real estate for lease) in years. Before LLCs, people used general or limited partnerships, in order to deduct depreciation losses on their personal returns during the early years of ownership.

In fact, this is a huge advantage of real estate investment–the ability to deduct non-cashflow losses (e.g. depreciation) — during the early years of the venture. Combined with borrowed money, the tax advantages to owning depreciable real estate in a pass through entity like and LLC or partnership are substantial.

A major consideration as well is whether to use a separate limited liability company for each piece of property. By doing so, you can put a legal “firewall” of liability protection between each property.

Most investors will form a separate entity for each property. Occasionally they will put several similar properties (such as multiple buildings that are part of a single apartment complex) in a single entity.

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