Question

Should I sell my primary home to my LLC and rent back? 2018 limits personal deducts, not biz. No cap. gains due on sale side & Id pay fair market to LLC for rent?

Forum|Forum|7 years ago
June 4, 2019
4 replies
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Already have LLC that owns multiple rental properties. If property is owned and operated by LLC, I believe LLC could deduct taxes, interest, etc. and would be able to start depreciating as well. Within next couple years, will renting out this house to others at least half of the year, so it will eventually need to be classified as a rental property anyway I believe and I would have to pay rent for the time I spend here in order to classify as a rental? I think there is, (or was), a 2 week limit for owner stay in a rental, but assume that this doesn't apply if I'm paying rent to LLC? Not sure, but I will loose a lot of personal deductions this year and trying to look at everything to arrange according to new laws. I've read a lot of articles about moving personal property into LLC and renting back, but nothing specifically aligns with this situation nor are there any current / post 2018 tax law info that I can find.

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SweetieJean

Employee

Please seek out local professional assistance, as there are legal, state and local issues as well. But here are some things to consider:

1. If your state has a homestead exemption on property tax, then your LLC is not going to qualify for it. So your property tax bill will be higher.

2. The LLC will not qualify for Section 121 Capital Gains Exclusion on your primary residence whenever it sells the home.

3. Your property insurance will likely be higher, as you have to pay for a landlord policy owned by the LLC, and a renters policy in your name.

4. Unless your house is owned free and clear, it would violate the lender's Due on Sale clause.

So there is cost/benefit analysis to be done.

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liberty2496Author

Thanks! I would finance house under LLC upon sale. All other properties are financed this way. It would also allow me to cash out the equity by selling it to the LLC, who would be paying fair market value for the property. My sale to the LLC should qualify for exclusion from capital gains when selling primary residence- but yes, I understand the LLC would incur applicable capital gains when it sold the asset at some point in the future. The insurance may be slightly higher, but it would be an LLC business expense, and the increased insurance cost is marginal, that wouldn't be a big hit overall - in fact would probably have benefit as none of my insurance is deductible now on this property. The homestead exemption would be eliminated, but again, it's marginal. The insurance would be deductible, as the property taxes and mortgage interest would be, which would more than offset the marginal increased operating costs, which would now be deductible and would not be under new laws. While capitol gains may have an impact, unless property appreciates measurably in the next 15 years- the ability to deduct interest, insurance and property taxes, (all which will now be eliminated under new 2018 laws), would more than offset the 15-20% gains hit the LLC would take upon dissolving the asset in 10 - 15 years, (assuming no additional changes, LOL:)). I can't find anything that forbids this type of transaction - but thought someone here might see something I've missed.

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huskerlewis

Were you able to exclude gain personally when sold to LLC. I am looking at doing exact same thing for exact same reasons. Additionally, I went through career change so only real way to unlock equity.

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mtf1

If the LLC that now owns the property that leases back to you chooses to be taxed as a C-Corp, can the LLC deduct depreciation expense?

Carl11_2

Employee

In a nutshell, what you may "save" now you will end up paying "at least" 3 times over whenver you sell or otherwise dispose of the property. Additionally, if your primary residence is in the LLC and a tenant of one of the other properties sue you and win, you can potentially lose your primary residence too. In the past a rental dwelling policy was actually cheaper than an homeowner's policy because it only covered the structure. But that has been slowly changing over the last few years where a rental policy is about 10-20% more than a homeowner's policy.

Then there's the "offset" costs of needing two insurance policies - one to cover the property and another to cover the possessions. If your state offers a homestead exemption, you lose that which means you pay more in property taxes. Matters can be further complicated if your state taxes personal income.

Overall, I would suggest you seek professional help in your local area, as that so-called "veil of protection" offered by an LLC is so thin, it's a joke. You'd be more successful carrying a clutch of bowling balls in a wet paper bag.

Unless it's a multi-member LLC I always recommend against putting residential rental into a single member LLC. It's a waste of time since rentals generate passive income that gets reported on SCH E.

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mtf1

My goal is not the legal protection of the LLC. My goal is to legally save taxes. If I rent from my LLC that is taxed as a C-Corp, then it appears that I can depreciate and also legally avoid the SALT limitation so I can deduct property taxes beyond $10k. I’m not concerned about selling as I would let my children inherit the property so no capital gains issue. Also, I can fortunately do this sale from me to the LLC using cash, no mortgage, so “due on sale” mortgage issues also don’t apply. Plus, the C-Corp only gets taxed at 21%. It seems like a “no brainer”, what am I missing?

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mtf1

Can someone help me here? If I can purchase a home for cash either personally or through an LLC, wouldn’t it make sense to purchase thru the LLC, choose to have the LLC get taxed as a corporation (21% tax rate) lease back the home and pay rent to the LLC, and let the LLC legally deduct depreciation and property taxes ( beyond the 10k limit if held personally) and other expenses? The depreciation plus expenses would offset most of the rental income. I don’t care about the 500k cap gain exclusion because I’ll let my heirs inherit the home. What am I missing?

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maglib

Employee

The IRS doesn’t love what it calls form-over-substance techniques, and instead relies on substance-over-form principles. In other words, you typically can’t repackage one thing (like residential real estate) as another thing (like rental real estate) and pretend it’s not the first thing to avoid paying taxes.

The IRS has long considered profit motive as a critical factor to determine whether an enterprise is legitimate. Rental real estate has a long term profit motive although may show losses up front, there is an ultimate goal once homes are depreciated. This is not your goal... another reason the IRS would reject it.

This also falls into what is considered related party transactions and you can not report losses on non arms length related party transactions.https://taxmap.irs.gov/taxmap/ts0/relatedpartytransa_o_12ae2a31.htm

The Tax Cuts (TCJA) also adds a layer in the form of a new loss deduction rules. https://home.kpmg/content/dam/kpmg/us/pdf/2019/03/tnf-wnit-tcja-apr1-2019.pdf

This is another one of those, well everyone is doing it.... just a matter of time before they are caught. And as others said, other costs and loss of deductions may more than offset your perceived positives.

**I don't work for TT. Just trying to help. All the best. ***Say "Thanks" by marking as BEST ANSWER and clicking the thumb icon in a post and that I solved your question**Mark the post that answers your question by clicking on "Mark as Best Answer" I am NOT an expert and you should confirm with a tax expert.