In the last two issues we looked at several different methods for real property ownership, from tenants by the entireties, life estates, revocable trusts and other methods allowed in Florida. These methods work for more basic needs but when dealing with specialized issues such as asset protection, limiting liability across multiple properties and foreign ownership, only ownership in an entity can provide that extra protection, but with certain restrictions and drawbacks.
Foreign owners who would traditionally buy Florida property in their own name face substantial tax and estate consequences on sale due to the Foreign Investment in Real Property Tax Act and multi-jurisdiction probates. Any sale to an investor or a sale over $300,000 requires withholding of ten percent of the gross sales price regardless of profit or loss until a withholding certificate is obtained. If the property is held by an entity, this withholding can be avoided.
Entity ownership instead of personal ownership can also serve as an estate planning tool. Instead of having a domestic probate and a separate probate in Florida, the entity interest would be treated as personal property and probated solely at home, with ownership of the real property remaining in the entity.
Entity ownership also limits liability from loss or damage due to issues at the property. Individual and trust ownership of rental property exposes the personal owner to claims for loss, injury or damage in connection with the property. For example, if a tenant is hurt or dies at the property, the tenant or the tenant’s estate can sue the owner and reach personal assets. If an entity is used, the tenant can only look to what the entity owns (typically the property only) to recover damages. While insurance can reduce this exposure, entity ownership can reduce the need for excess coverage and the costs associated therewith.
Traditionally the most common form of entity ownership was the corporation. Corporations have existed for hundreds of years, and are the best understood and most common form of ownership. However, corporate ownership has several drawbacks from both a tax and reporting areas. Corporations can be taxed as “C” corporations which is the default status under Federal law. C Corporations pay income tax on profits, and then the shareholders again pay tax on distributions. These entities also are liable for an additional Florida corporate income tax at a rate of 5.5%.
The alternative tax status is an election to adopt “S” Corporation status. S Corporations do not pay either federal or state income tax on profits. Instead, these entities are deemed a pass through, with all taxes paid at the shareholder level. However, this election is restricted, as “S” corporations cannot generally have entity shareholders, foreign owners or trust owners.
Another traditional entity for real property ownership is the limited partnership. Limited partners, like shareholders, have no personal liability beyond their investment in the partnership. However, the general partner of the limited partnership does have personal liability (though most general partners today are, in fact, corporations or LLCs).
To avoid the problems inherent in corporations and partnerships, a new entity was created called the limited liability company. Beginning in Wyoming in 1977, the LLC is now valid in all states. The LLC combines the limited liability characteristic of a corporation with the pass through tax treatment of a partnership. LLCs can be owned by foreigners, can have entity ownership for multi-layering (meaning the members of the company can be another entity, including a foreign owner), and have no limit to the number of owners.
LLCs are generally less complicated than partnerships and corporations, with only two layers of management (members and managers), and require less paperwork and meetings to maintain viability. This lowers the overall cost of formation and operation. Delaware has even created a specialized LLC called a serial LLC which allows for one parent LLC with a single tax id number and accounting to have multiple LLC children, with the benefit of limiting liability to each child LLC. This is extremely useful for owners of multiple rental properties. Florida has not approved this format but I expect it to be adopted in the future.
While entity ownership has its benefits, it is not always the best approach. Financing can be more difficult to obtain, and insurance costs can be affected. Choosing the proper form of ownership requires planning and consultation with tax and legal professionals. Failure to properly plan can cause substantial problems after purchase.
Michael J Posner, Esq., is a partner in Ward Damon a mid-sized real estate and business oriented law firm serving all of South Florida, with offices in Palm Beach County. They specialize in real estate and entity ownership and can assist sellers and buyers in all real estate and entity matters. They can be reached at 561.594.1452, or at firstname.lastname@example.org