Should I Put My Commercial Property in an LLC?

Placing commercial real estate into a Limited Liability Company (LLC) is a strategy for property owners seeking to create a separation between business and personal affairs. The decision involves weighing several factors, including liability, tax implications, and financing.

Understanding Liability Protection for Commercial Property

The main reason for transferring commercial property into an LLC is liability protection. An LLC is a legal entity separate from its owners, called members. This separation creates a “corporate veil,” a legal barrier between the LLC’s assets and the personal assets of its members.

This shield means that if a lawsuit arises from the property, claims are limited to the assets held within the LLC. For instance, if a visitor is injured on the property and sues, the lawsuit is against the LLC. Only the LLC’s assets, such as the property and its bank accounts, would be at risk, while the owner’s personal wealth is protected.

This protection extends to business-related debts and contractual disputes, where creditors can only pursue assets owned by the LLC. To maintain this liability shield, it is important to keep business and personal finances separate by not commingling funds. Failure to adhere to the formalities of operating the LLC could result in a court “piercing the corporate veil,” which would remove the liability protection.

The protection is not retroactive and only applies to liabilities that arise after the property has been transferred to the LLC. Any claims from incidents that occurred while the property was under personal ownership remain the owner’s personal responsibility. This distinction highlights the benefit of establishing the LLC structure early in the ownership of a commercial property.

Analyzing Tax and Financing Implications

Transferring commercial property into an LLC has tax and financing consequences. For federal income tax, a single-member LLC is treated as a “disregarded entity.” This means the LLC’s income and expenses are reported on the owner’s personal tax return, avoiding the double taxation associated with C corporations.

A financial consideration is the potential for real estate transfer taxes, which some jurisdictions levy when ownership changes. Transferring a property to an LLC you own can trigger these taxes, calculated on the property’s market value. Additionally, there are ongoing administrative costs for maintaining an LLC, such as annual state filing fees and fees for registered agents, which can range from a nominal amount to several hundred dollars per year.

A major financial issue is the “due-on-sale” clause found in most commercial mortgage agreements. This provision gives the lender the right to demand full repayment of the loan if the property is transferred without the lender’s consent. Deeding the property to an LLC is a transfer of ownership and can trigger this clause, allowing the lender to call the loan due.

Before any transfer, communicate with the lender. Lenders may consent to the transfer, especially if the original borrower remains a member of the LLC and personally guarantees the loan. Obtaining written permission from the lender is the way to avoid triggering the due-on-sale clause and keep the financing in good standing.

Information and Documents Needed for the Transfer

To move your commercial property into an LLC, you must prepare two documents: the LLC’s Operating Agreement and a new Property Deed.

The LLC Operating Agreement is an internal document that governs the company’s operations and outlines the members’ roles and responsibilities. Although not always filed with the state, creating a comprehensive agreement is standard practice. Drafting this document requires decisions on the management structure, the initial capital contributions of each member, and the rules for distributing profits and losses.

A new property deed is needed to legally transfer ownership from you (the grantor) to the LLC (the grantee). The deed must include the LLC’s exact legal name as filed with the state and the property’s official legal description. This description can be found on the existing property deed.

A warranty deed is used for this transfer, as it provides a guarantee that the title is clear of any claims. Gathering the LLC’s legal name and the property’s legal description ensures the new deed is accurate and legally sound.

Executing the Property Transfer

The transfer process begins with officially forming the LLC by filing the necessary formation documents, often called Articles of Organization, with the appropriate state agency. This filing legally establishes the LLC as an entity capable of owning property. After formation, the Operating Agreement should be finalized and signed by all members.

Next, the new property deed must be executed. The deed must be signed by the grantor in the presence of a notary public to be legally valid. Once notarized, the deed must be recorded with the county recorder’s office in the jurisdiction where the property is located. This recording updates public records to show the LLC is the new legal owner.

Finally, after the deed is recorded, you must notify relevant parties of the ownership change. This includes contacting your property insurance carrier to update the policy to name the LLC as the insured party. If you obtained consent from your mortgage lender, provide them with a copy of the recorded deed.