Owning a business and being exposed to risks go hand in hand. But business risks like fire or theft, and the possibility of a person being injured on your property, should not mean your personal assets or the asset itself should be at risk. While general business liability insurance may provide some protection against these types of claims, having the right business structure will provide you with additional layers of protection. If your business owns real estate or you own rental property, it is important to investigate the benefits of a real estate holding company.
What is a Real Estate Holding Company?
A real estate holding company provides provides protections that cannot be provided by forming a single LLC. A holding company may be an LLC or a Corporation. They are formed the same as other companies, but differ in how they're operated. Their sole purpose is to control other companies and assets. The holding company should not engage in operations or have clients. That should be done with a subsidiary. The purpose of this structuring is to limit liability, provide privacy and reduce taxes.
The Fundamentals of Holding Companies
A real estate holding company serves no other purpose than to hold real estate, not manage or operate the real estate. Once the property is placed into the holding company, the holding company is completely passive. All of the work, like negotiating leases, making repairs, and managing the property is performed by a management company. In this way, any injuries that occur on the property or liabilities that arise will be the responsibility of the management company, which does not own the real estate.
A Guide for Starting a Real Estate Holding Company
The most basic step, if you have not done so already, is to create a company for each real estate asset. The next step is to create a company to act as the holding company. The final step is to create a separate Limited Liability Company for managing the properties. This company is in charge of maintenance and handles contracts, tenants, and contractors. Those desiring additional protections should consider equity stripping or forming an asset protection trust to hold all of entities.
Firstly, set up the LLC and choose the name for the holding company. You need to register it with the State and IRS to receive an EIN (Employee Identification Number). You must remember that the chosen business name does not match any registered LLC’s name. The name of the business should end with LLC or some variation showing its entity type.
Put Property in the Name of the Holding Company
The primary goal of establishing a real estate holding company is to protect personal assets and the property from liability. It's thus important to put the property in the name of the holding company. Whether you are going to fix and flip the property or buy-and-hold, it is important to ensure that you treat the holding company as being completely separate from you personally. You would not take money out of your friends bank account and put it in yours and you should not take money or property out of your holding company. If you do not respect the ownership of the holding company, a court is not likely to respect it either.
Real Estate Holding Companies - Advantages
Real Estate Holding Companies help in protecting personal and primary business assets. For instance, if a person runs a restaurant on a property owned by his real estate holding company, that the restaurant leased through a management company, and a customer is injured by an employee of the restaurant, the customer is likely to sue the restaurant. The customer may also sue the management company, but the holding company, which owns the building would be protected by multiple layers of others liability. In this case, the customer would have to successfully show that the owner of the building played some role in their injury. Hence, the personal and business assets of the property owner remain protected from the lawsuit.
Open Separate Accounts
It is important to open a separate account for the company. If you mix personal and business assets, a court may find that you are the same as the business and therefore, should not receive the protections of limited liability an LLC offers. Keeping the personal and business funds separate also helps to budget, track company performance, bookkeeping, and taxes.
Draft the Articles of Incorporation & Operating Agreement
Filed at the office of the Secretary of State, Articles of Incorporation is a simple document listing the name and address of the company. It is possible to set up an LLC anonymously so that your information can be kept private. The operating agreement is a private document that is not posted online. It lists the roles of each member, operational rules, percentage interest of each member, rights and responsibilities of each member, voting rights, management duties, and the way profits and losses need to be handled.
Pros & Cons Of Real Estate Holding Company
- Limited liability
- Business write-offs and deductions
- Separation of business and personal finances
- Establish business credit
- Appearance of professional management
- Start-up costs of forming entities
- Annual costs of maintaining entities
- Additional costs of tax preparation and bookkeeping
- May be difficult for new company to obtain financing
A real estate holding company is one of the best ways for investors to insulate themselves from liabilities that may arise out of their ownership of real estate. To learn if a real estate holding company can work for you, contact us to schedule a consultation with our experienced Colorado attorneys through the contact link on our website.