Despite the downturn in the economy, many individuals may see being a landlord as an easy money maker, but there are things that should be considered prior to entering into that first lease.  One of the first considerations is whether the property should be owned in a personal capacity or through a corporation such as an LLC or other corporate entity.

Whether you realize it or not, being a landlord is an unpredictable and sometimes risky business. If the owner is not careful, being a landlord can create liability subjecting the owner/landlord’s personal assets to recovery. One way to limit this liability is through the formation of a pass through entity such as a limited liability company, or “LLC,” which is registered with the Secretary of State.

One common scenario which many landlords experience is where an individual, whether the tenant or a third party, slips and falls in front of the property.  As you can imagine, the hurt individual will generally look to any party for recovery and may see the property owner as a “deep pocket.”  This typically results in a lawsuit by the hurt individual against the property owner which can sometimes spell trouble, as the owner’s personal assets may be subject to recovery.

Under the above-referenced scenario, the first line of defense for the property owner is through the use of insurance that is kept on the property.  Unfortunately,  insurance is sometimes insufficient.  Therefore, it is prudent for the owner to protect him or herself through other means.  One means of protection comes through the formation of an LLC or other pass through entity.  While there is no perfect solution, the pass through entity provides some additional protections for the property owner.

As previously stated, in order for the entity to be the owner of the property, the property will need to be conveyed from the owner to the entity.  Unfortunately, the terms of many mortgages require notification of any transfer of the property through a “due on sale” clause, which requires the mortgage to be paid in full if the property is sold.  As the transfer of property from the owner to the entity almost certainly qualifies as a “sale” under the terms of the mortgage, the property owner would need to renegotiate the terms of the mortgage and consent to that transfer.

Once the entity is created and the property has been transferred, there are certain corporate formalities that should be followed.  First, the entity must be correctly registered with the Secretary of State in which the entity is incorporated.  Second, the entity must have its own separate bank account so that all income and expenses pass through the entity’s bank account and not through a personal bank account.  The property owner should be careful to not commingle assets, with all expenses being solely for the property, or a court could “pierce the corporate veil” and reach into the owner’s personal assets.  Third, any contracts entered into with respect to the  property should be entered into with the entity and not with the owner individually.  While these are some of the necessary formalities, there are many more.