A property is a huge investment (duh), but many people wonder, how do I protect my real estate investments? And more importantly, how do you protect yourself against the chaotic world of landlord-dome?

You can’t just put up reams of barbed wire and mine fields like Scrooge McDuck does to his money bin (Shout out to Carl Barks and Don Rosa for epic Duck Tales). 

It would be great if we were warned away from bad investments with signs that shout “Danger”. I WISH investing worked like that. 

Instead, what can we do to help us steer clear of dangerous situations and step into a place of better protection?

In a rental world that is quickly and continuously adopting legislation in favor of lawsuit inclined tenants, it’s getting harder and harder for a landlord/owner to protect themselves and their property.

I’m no lawyer, so first off, consult yours for more info. I use Anderson Business Advisors 

(They’re awesome. Shameless plug) who helps me with most of my legal and business needs. They help me when I want to protect my real estate investments. For more info, visit them at https://andersonadvisors.com/

Here are a few basic concepts that Anderson Advisors recommend to think about when it comes to real estate investing. 

The first one is calculated risk. Calculated risk is the assessment of how risky or conservative an investment or decision is based on the info you have at the time. I encourage my clients (and myself too) to think about the risk of a particular decision when it comes to the use of your investment properties. 

For example, if it’s a high risk investment, like a top-dollar property in a neighborhood that’s still on the rise for equity gain, you have to decide if that’s an investment you’re willing to sit on until the neighborhood comes up. Similarly, if you’re interviewing potential tenants, you will have to make the financial call for which tenant is the most financially qualified.

Asset Protection is another crucial component of real estate investing. Simply put, this means setting up a method to guard what’s yours. When it comes to protecting your real estate assets, many investors (including me) use a corporate structure. In other words, this means making companies that own your assets to help protect you from losing your assets if things go awry.

Two important things I’ve learned from Anderson Advisors to help reduce risky exposure when you’re a real estate investor: 

1. Get good legal counsel (this includes having lawyers draft and/or review all your documents including leases)
2. Create a corporate structure to protect your assets and limit your liability. Your company will function as a separate entity with its own finances, bank account and expenses.

There’s probably not a ton of mystery around why you want a good lawyer especially if you’re having them draft or review contracts. I’ve found that choosing a lawyer that has expertise in the area you need is critical. If your lawyer is a guru in real estate law, that’s a good starting point. Make sure they can advise you on new legislation and pivot as needed. Any lawyer worth their salt should be able to help you change with the times.

But, what the heck is corporate structure and why is it important for real estate investing? Corporate structure is a term that people throw around (me too it seems) to describe how a company or series of companies are set up to benefit the people who own them, employees (if there are any) and the company assets (the things the company owns that have value).

When it comes to the issue of protecting my real estate investments, the house or houses are the assets and the company is usually designed to own the houses separately from you as an individual. Imagine the house(s) inside a protective force field. The company is the force field that helps guard against attack from the outside.

There are different types of companies that investors use, and a common one is a Limited Liability Company or LLC. 

There are several advantages of using a company to hold investment properties according to Anderson Advisors. 

First and foremost, a company can help protect you as an individual from losing your shirt to lawsuits. This term called asset protection is one of Anderson’s specialties. 

Let’s take a second for story time.

Once upon a time…

I bought a house as an investment property and kept it in my personal name. I got it ready to rent, made a lease, found a tenant and signed them on. Then, things went south and they wanted to sue me for a faulty water heater that burned them because the water was too hot. Since I own the property personally, the tenant can not only sue me for the value of the property, but they can come after ALL my assets. 

Now, let’s consider what would happen if my company owned the assets instead.

I own an LLC that bought an investment property that belongs to the LLC. The company got it ready to rent, made a lease, found a tenant and signed them on. Then, things went south and the tenant wanted to sue me for the faulty water heater burn. BUT, since the property is owned by the LLC, the amount they can sue for is limited to the value of the company. In this case, that would be the value of the house.

The company acts as a protective barrier, and the business assets remain separate from you as a natural person. 

The second advantage is for taxes. Yes, filing your taxes correctly, above board and on time is still the requirement and goal. But, there are differences when you file taxes as an individual (let’s say W2 income) versus filing taxes as a company.

We usually pay taxes on the wages we earn first. The money remaining is what we put in our pockets (or mattresses) to live our lives. A company pays their expenses FIRST out of their gross income, and then pays taxes on what remains. This makes for a HUGE difference in taxable income which can have a major advantage when it comes to the bottom line. 

Here’s a quick example:

You make $100. You pay 25% to taxes, for a total of $25. Your net income is $75, and it’s the money you have to pay your $50 worth of expenses. The money you pocket at the end of the day is the remaining $25. 

A company, on the other hand, makes $100. It pays its expenses of $50. Then, it pays taxes on the $50 income (post expenses). The amount of taxes it pays is $12.50, only HALF of the amount paid in taxes if you were paying taxes on W2 earnings. The company banks $37.50 at the end of the day…almost 67% more income! 

These savings are HUGE and they add up over time. 

CPAs will tell you the same thing, and I suspect, would encourage any investor to consider using corporations to help when it comes to tax time. Of course, I am not a tax professional, so talk to your tax advisor and/or CPA for more info and details about how to best plan and file your taxes.

It certainly gets more complicated than this, and every situation is different (which is also why you need a good lawyer to help you navigate the ins and outs). But setting up a solid legal team and a corporate structure to protect your assets is a great way to set yourself up for long term success. So, if you are wondering how to protect my real estate investments, reach out. I’d love to talk with you about your options for buying real estate in the Grand Valley. You might also enjoy my post about real estate investing goals: cash flow or equity?

To your growth and success,

Alanna

Alanna Spees, REALTOR®
Text/Call: (408) 497-3774
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