Real estate investors come in many different forms. Some own a couple of properties while others own dozens. Some own the homes alone while others may have one or more “partners.” Regardless of the size or complexity, people who invest in real estate, especially rental properties, are often advised to form a limited liability company (“LLC”). There are many benefits to structuring a business this way, including protection from personal liability and potential tax write-offs. However, before creating an LLC and transferring property, there are a few concerns to keep in mind.
#1 – Title Insurance
If a title insurance policy was issued when the home was purchased, it is important to check that it will remain in effect once the property is transferred to the LLC. The definition of who is the “insured” under the policy will vary based on the title company; some companies use language that would include an LLC where the named insured is the sole member, but that is not always the case.
#2 – Due on Sale Clause
If the property is encumbered (i.e. has an active mortgage) the due on sale clause is a major factor to consider before transferring the property to an LLC. This is a standard clause for residential mortgages that allows the lender to accelerate the loan and demand payment of the full outstanding balance if the property is sold or transferred. Conveying the property to an LLC, even when the borrower is the sole member, can trigger the due on sale clause.
Investors do have a couple of options to potentially avoid this issue. First, it is possible to contact the lender and ask for permission to move the property into an LLC. Second, if the loan is backed by Fannie Mae or Freddie Mac, there are guidelines in place that may allow for the transfer.
#3 – “Seasoning” Period
Many lenders have a seasoning requirement for loans. If the goal is to refinance the investment property to access the equity, it may be necessary to hold it for a period of time in the name of the LLC. For example, if the existing loan is backed by Fannie Mae, their guidelines for a cash-out refinance require that the loan be at least 12 months old and that at least one borrower has been on the title for at least 6 months. These requirements vary by lender but are worth considering if there are short-term plans to refinance the property.
Revolution Law Group is located in Greensboro, NC, and serves individuals and small businesses throughout the Triad and surrounding areas. To contact us please visit Revolution.law or call 336-333-7907.
The information included here is for informational purposes only, is not exhaustive of all considerations when creating documents, is not intended to be legal advice, and should not be relied upon for that purpose. We strongly recommend you consult with an attorney and do not attempt to create your own documents.