A lot of people that consider flipping homes for profit will also consider renting homes or maybe renting a Multi Unit Building. In this HowTo we go over some of the basic business setup procedures and cover some of the aspects of Insurance. This How To is not professional legal or accounting advice it is just a discussion about what some investors do and what you might want to discuss with your lawyer and accountant when you consider becoming a Landlord.
The first thing you have to consider when you are deciding if some of your flips should remain as rentals is your profit and loss situation. If you do not calculate all of your costs associated with any venture you have a serious likelihood of coming up short. Real Estate is no different and just because you think things might remain the same for an extended period of time it doesn’t mean that it will happen.
Thinking Your Tenant’s Rent Will Pay Your Loan Is A Really Good Way To Lose Money
Rent considerations for properties with outstanding loans are something that most beginners do not understand. When you are just starting out in life they tell you have a buffer of 6 months so that you can get over any unforeseen problems. Well this is very true when you are a landlord. Just because you might have a property that rents for $1,500 and your outstanding loan is $1,000 doesn’t mean that you are going to be able to pocket that $500 extra every month but what is even more difficult is to understand the problems that could happen where you may not have a renter for many months and it will be up to you to cover all the costs associated with that property.
Think of all the possible situations that could occur where your Tenant doesn’t pay you rent. They could be sick or get laid off and these are the things in your mind. What if there was a natural disaster in the area that didn’t damage your home but shut off power for weeks or longer? Then your tenant would have to be released from their obligation and you won’t be able to find a new renter anytime soon. You could sell but you would sell at a loss.
This is where experience and planning are important and you never want to get into a situation where you can’t meet your obligation to the property loan, taxes, insurance and other situations that might not normally be considered.
How Should You Setup Your Rental Business
The first thing when starting your business is understanding the reality of being a landlord. It is not an easy thing even if you have an amazing background check system and screen your tenants perfectly. There are always things that can and will go wrong.
Incorporating is a good way to separate your personal life from the business and it will also give you some relief in liability if you have people that work for you and end up causing you issues.
There are a variety of different business structures. Class C is the most common when people think of corporations but it does require some management. If you have a small or individually owned rental company you might want to look at a S Corporation which has fewer requirements on the number of executives and how taxes are paid. In a S Corp all of the profits are passed on to the owners after expenses have been paid. In some states there are LLCs limited Liability Companies and you may even find a few more sub classes of business structures. It is very important that you understand the requirements of all of these business structures and choose the best one to insulate your personal assets from the business.
This does not mean you have removed all liability from your company. If you are doing things intentionally wrong then the courts will still come after your personal assets. Additionally some courts will just ignore the laws around incorporation and go after your personal assets no matter what. This is the problem with owning a business. Liability can be difficult to insulate yourself from and you need to know this before you begin.
What Type Of Insurance Can Protect Your Business?
There are a variety of different insurances that can protect your business and properties. First would be the general home owners type policies that protect you from loss due to a variety of situations like storms or accidents.
Second would be Business Liability Insurance which will protect you from a variety of different problems that can occur due to you being a landlord. Some insurance companies will have policies specifically set up for your business. Others will offer General Liability Insurance and then there are Umbrella Policies that can cover things that are unforeseen.
You will need to go to an insurance broker and ask them what the best policies are for your business specifically and you will also want to ask them about additional personal liability insurance that might help you if a court ignores your business structure and tries to come after your personal assets.
Who Should Own The Properties That You Rent?
Above we talked about a number of problems you might run into as a landlord. We also talked about insurance coverage to protect you from those problems.
For anyone that is setting up a business to rent property then the best situation is normally to have the business own the property. If this is true in your case then a Real Estate Attorney can write a Deed and register your property in the name of the business or maybe they will place it in a trust or some other form that isn’t directly owned by you but your business or the trust would still be controlled by you so you control your assets.
It is a difficult situation to navigate so the best thing to do is get professional advise and you want to work with a Real Estate Attorney that has experience in setting up these types of Deeds. I would strongly advise you do not go to a general litigation lawyer unless they can show you clients in your situation that they have helped before.
Final Note
This How To is not professional advise. You will need the help of professionals to start and manage your business. Normally the best way to understand the process is to work for a property manager or realtor for a period of time to learn these things on the job. Unfortunately not everyone does this so it is your responsibility to hire professionals that will help you through the process. Your first consultation should probably be with a Real Estate Attorney and then an Insurance Broker that offers policies to Landlords.
Normally initial consultations are free or at a nominal fee. I would suggest that you talk to as many licensed professionals as you can before you consider jumping into this business. It is far harder than you think it is.