Rental Properties and Colorado LLCs
In Colorado, the Limited Liability Company business structure is popular because it is a hybrid of a corporation and a sole proprietorship/partnership, offering the benefits of both. For a rental property owner, an LLC provides many advantages and protections in legal, tax, and management flexibility. An LLC offers owners, also known as members, limited personal liability for liability created by the entity. One of the biggest benefits an LLC provides is personal property protection. An LLC maximizes asset protection, whether the rental owner has one or multiple properties. Each rental property should have its own LLC, so if the property owner gets sued, only the one property (LLC) will be liable instead of all of the investment properties and the personal assets of the owner. An LLC can be considered an alternate form of insurance because it protects the personal assets of a rental property owner from certain legal claims, such as slip-and-fall cases and contractual tenant disputes. Rental property owners must also be properly insured to protect the property from claims made directly against the LLC.
For tax purposes, an LLC must file a tax return as a sole proprietorship, partnership or corporation because the federal government does not recognize an LLC as a federal tax classification. One tax advantage of a single member LLC is the ability to use pass-through taxation. A single member LLC can choose to be taxed as a sole proprietorship. Income and capital gains from the LLC pass directly to the owner/member, avoiding double taxation. As the legal owner of the property, a single-member LLC can deduct mortgage interest based on IRS rules. An LLC can also choose to be taxed as a corporation. If an LLC has multiple members or opts to be taxed as a corporation, mortgage interest deductions and taxes become more complicated, so a consulting with a good CPA is helpful.
Once the LLC is set up, the owner/member is obligated to follow the guidelines spelled out in the operating agreement rather then the statutory obligations required of a corporation. Additionally, after the LLC is set up the member/members are required to file annually with the secretary of state, hold an annual meeting, keep a separate bank account, and not comingle funds.
If the rental property is mortgaged, retitling it into an LLC is an issue that will need to be addressed with the lender.
