BENEFITS & DRAWBACKS OF LLCS & TRUSTS FOR ASSET PROTECTION

Real-Estate & Business Asset Protection Options

Hole-E- Cow! When it comes to Structuring your Business or Real Estate for asset protection, there are a LOT of things to consider. It's enough to overwhelm anyone! I've searched and searched.... and searched... and could not find an article or post that had all of the benefits and drawbacks of LLCs vs. Trusts for asset protection. So I spent hours, days, and weeks sifting through all of the haystacks to find you the needles so that you don't have to. I've also spoken to several attorneys and CPAs... While I learned a lot, I've actually taught them a thing or two- I was shocked that I knew that much. Not to mention, there must be a lot to this if I'm teaching them something.

When considering the various options, you need to ask yourself the following:

What happens from a tax, legal, insurance, and administrative standpoint for each option?

I would recommend that you get a notebook out and take notes on what applies to you under each option, then list each of the 4 things from above underneath each option so that you can come up with the best solution for your assets and/or business. 

By the way, this is not a comprehensive list. I found a lot of the needles in those haystacks, but there may be a couple still out there somewhere. 

BENEFITS OF LLC: 

• Protects Personal Assets: Should the property be subject to a lawsuit, the LLC can only be sued within the constraints of what the LLC owns, and not beyond that. That means your personal assets will not be affected.

• Corporate Shield Protection: Another way your assets will be protected from personal liability is if your LLC is registered in a state with charging order protection. In other words, if a creditor comes after you personally, they are only able to get a charging order against your interest in the company, but cannot touch the assets of the LLC. Best Charging Order Protection is typically offered through the states of Wyoming, Delaware, Nevada, New Mexico, and Ohio- YES OHIO (people are still catching up to this one).  Here's a list of Charging Order Statutes in all 50 States.

• Medicaid Planning Tool: An LLC can be used for Medicaid Planning. When a property is an income producing property, medicaid will not count it as as a personal asset for medicaid purposes, as long as it makes 6% of the total value of the property annually. According to federal law, any real or personal property that is essential to an applicant’s self-support, regardless of value or rate of return, is excluded. That could include farms, rental properties, and other real estate investments that generate income. The catch is that the property must generate at least six percent of its value annually to qualify for the exclusion. 

• No Personal Risk: Owners have no personal risk above and beyond their interest in the company (as long as you have your LLC or parent LLC registered in a state with charging order protection).

• Tax Benefits- write offs.

• Flexible Taxation: You can choose to be taxed as a Partnership, S-Corp, or C-corp. 

• Overall Flexibility: You can change the terms or organization at any time.

• Ability to Pass Ownership Tax Free: A parent can allocate some of the “asset value” and some of the “income” to the adult child as a co-member owner. LLC owners can also easily transfer their ownership in real estate holdings by proactively gifting the company's membership interests to their heirs each year. Over time, it is entirely possible to effectively pass ownership of real estate owned by an LLC to loved ones without ever having to formally execute and record a new deed. This enables property owners to avoid transfer and recording taxes and fees, which can be substantial in many states.

• Foreign Ownership: Unlike an S corporation, foreign ownership and investment in U.S. real estate is possible through an LLC.

• Anonymity: Although you can look up corporations online in many states, and find out who the owners are, it’s a step most people still don’t take. At a community level, LLCs tend to offer more anonymity than realty trusts, unless you advertise the LLC. You can also register your LLC anonymously, and your personal information will be kept private. (However, your LLC has to be registered in a state that allows anonymous LLCs.) There is an exception to this rule, which is if a court orders you to reveal your assets. However, this seldomly happens because of the upfront cost for attorneys and court fees.

• Double Layer of Protection: Having an LLC as a double layer of protection is a smart way to make sure no one can come after your home or other assets, should your insurance fail to cover you.

• Inexpensive: It normally cost anywhere from $50-$200 to register your LLC. Only a few states charge $500-$800.

• For details on LLCs, including how members are taxed, state rules on LLC protection for members' personal debt and asset protection, and more, see Nolo's LLCs section. Nolo also offers a comprehensive online LLC package to form an LLC.

DRAWBACKS OF LLC: 

• Certain Legal Fees: As a company, you must have an attorney represent you. You cannot represent yourself in court.

• Property Taxes: Property taxes may go up if you don't already have a property registered as a rental.

• Borrowing Challenges: Harder to finance a business with no established credit, as opposed to a personal loan, because there's usually more history on a person's personal credit. Interest rates are usually higher for businesses as well.

• Extra Paperwork: If you have an LLC, you have to get a Tax ID, file Tax Return, create an Operating Agreement, follow LLC compliance regulations, and other paperwork. You may also have to pay money in state fees every year (depending on your state-some don't have annual state fees).

• Multiple LLCs Can Get Expensive: If you have a lot of properties, with all of them in separate LLCS, you could end up paying thousands in annual filing fees- if your state makes you pay them annually. Fees are typically in the $100 range, but some states can charge upwards of $500 or more. If you want to use multiple LLCs, but the fees are exorbitant, you can section them off into categories of properties, such as section 8 properties, single families, or section by area, etc. Or you could do 3-6 properties per LLC. This way you don’t have to pay so much in LLC annual fees. Here’s a list of LLC Annual fees by State. 

• Leaves Your Interest Open to Creditors: LLC can leave a portion of your company open to potential creditors-- basically, your interest in the LLC is up for grabs if you have a judgement against you personally, but not the asset or any other member’s interest within the LLC (As long as you are registered in a state with charging order protection).

• May Cost More to Insure: If you transfer a property into an LLC, some insurance companies will charge more because of it being considered a business. However, in my experience, insurance did not go any higher, and the only way the rates would have went up is if it had been years after purchasing the original policy, which means, they'd have to write a new one, and because of the cost to rebuild goes up each year, the policy rate would increase.

BENEFITS OF REVOCABLE TRUST: 

• Self-Representation in Court: It’s not required to have an attorney represent you in court. You can represent yourself.

• Anonymity: Trust would be listed instead of your personal name, however, that doesn't make it safeguarded against creditors. It merely just makes it harder for people to find out who owns the asset.

• Flexibility: You can change it later. Also, if you need to refinance, you can take the house out of the trust to refi, then put it back in.

• Helps Keep Everyone Honest: If there will be several owners of an investment property then a trust is very useful to document the relationships and ownership interests of all the owners, in a consolidated way.

• Estate planning: For those looking to ensure that their investment property can avoid death taxes, many will transfer the investment property to their heirs by way of a real estate trust.

• Avoid Probate

• Privacy: A revocable trust can protect the privacy of your property and beneficiaries when you die as well. Because it's not subject to probate, your trust agreement remains a private document. It doesn't become a public record for all the world to see. Your assets and who you've decided to leave your estate to will remain a private family matter, as opposed to a last will and testament that has been admitted for probate. It becomes a public record that anyone can see and read as soon as it's submitted to the court.

DRAWBACKS OF REVOCABLE TRUST

• Asset not protected - Property is still considered yours as far as estate taxes and creditors are concerned.

• Anonymity is not absolute: It's anonymous until the court makes you reveal your assets.

• Possible Future Fees: Revocable trusts will also have modifications they need to make in the future. These possibilities will require additional legal fees to manage down the road, on top of the original fees.

• Expensive: Costs anywhere from $1000 to $2,500.

BENEFITS OF (IR)REVOCABLE TRUST:

• Anonymity: Property goes into the name of the trust\

• Protection: Impenetrable- nobody can get to the asset(s). The only caveat is the Medicaid 5 yr lookback.

• Avoid Probate

• Privacy: Can protect the privacy of your property and beneficiaries when you die like the revocable trust.

• Estate tax advantages

DRAWBACKS OF IRREVOCABLE TRUST:

• Medicaid 5 yr lookback: Medicaid will look very hard at the trust to look for any way that the money can come back (or be forced to come back) to a Medicaid applicant. If Medicaid finds any opening, the trust will lose its protection against long term care costs.

• Unchangeable: You can’t change it later.

• Loans & Financing more Difficult: Not easy to refinance or get a bank loan against it.

• Lack of Control: Once it's written, signed, and sealed, you give up control of the property to a trustee.

• Possible Trustworthiness Issues: You must have a trustee that you, infact, trust.

• Expensive: Costs anywhere from $1000 to $2,500

• Complex: There's a lot of stipulations, rules, and what-if's, and if they're not all included, you could be up the creek without a paddle. 

• May Not Be Done Correctly: Attorneys may not do it right, and 10yrs later when it comes time to put it to use, it might night work as you had hoped... and the attorney who created it for you is long gone, with the 2 grand you paid them. 

• Tax Returns: Trust must file tax returns and value assets

• No Tax Advantages: No tax advantages other than estate taxes. They are a separate “person” for tax purposes, and the income that the trust earns must be reported and the resulting tax paid. Non-grantor trusts (and this should be a non-grantor trust) must pay at the top income tax bracket whether the trust has high income or low income.

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