LLC or S Corp for Rental Property: Everything to Know
Choosing between an LLC or S corp for rental property can be difficult. Generally, an LLC is typically better for rental properties than an S corp.3 min read
Choosing between an LLC or S corp for rental property can be difficult. Generally, an LLC is typically better for rental properties than an S corp. However, both offer:
- Liability protection for the owners.
- The chance to avoid double taxation by being taxed as a partnership.
- The ability to easily add new partners.
Understanding S Corps
An S corp is just a standard corporation or other legal entity that has a special tax classification. When forming your corporation, you can choose it to be taxed as either as S corp or a C corp depending on state law.
While this tax classification provides benefits to individual taxpayers on their pass-through income, an S corp is still subjected to the same tax rules as a C corp when property is involved. This particularly applies if a company is trying to transfer ownership of a property.
In both an LLC and an S corp, taxes for transferring property start out in a similar way. For example, if you own a property that has not depreciated, but you want to transfer it to another entity for liability reasons, the process would be the same in both an S corp or LLC. When you transfer the property and the other entity owns it, you won't have to pay taxes between the fair market value and the basis.
If your property has a mortgage and you transferred it to an LLC, the sections 722, 731, and 752 of the Internal Revenue Code say you should not have to face any tax consequences. If your LLC is the one receiving the property, you'd hold the title, so you wouldn't have any gain on the transfer.
However, if you transferred the property to an S corporation, you might have to pay corporate taxes as noted in Internal Revenue Code Section 357(c). If you're using the S corp to transfer the property back to yourself, you'll see additional tax consequences.
Overall, if you ever want to transfer the property into your personal name or the name of a family member, it's best to prevent the property from ever being owned by the S corp in the first place. This method is only best if you want to sell the property to a third party.
LLC and S Corps in Property Rentals
If you're taking out a loan in your name to pay for a property rental, transferring the property title to an LLC offers you some liability protection. However, the lender could ignore the transfer if they choose.
To know whether an LLC or S corporation is better for your property rentals, the best idea is to talk directly with your lender. They might have special requirements depending on the type of entity, such as a requirement for a personal guarantee for each member. If you add new members after acquiring the property, then you could have a problem when it comes time to sell the property.
If this sounds confusing, the best course might be to use an LLC to hold your real estate properties and an S corporation to manage the business side of things. This shouldn't be too hard, as there aren't many differences in operating an LLC or an S corp besides filing and taxes. Keep in mind that S corp shareholders do actively participate in the business, so they won't be able to offset their S corporation income with potential rental property losses.
One thing you should not do is elect for the S corp designation on your LLC if it owns a property. This is because rental property is passive income for everyone who is not a real estate professional, meaning it won't be subjected to self-employment tax. If your rental is an S corp, you'll need to have payroll, meaning you'll pay Medicare and Social Security taxes.
If you need help with an LLC or S Corp for rental property, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.