Do You Need an LLC? What It Does and Doesn’t Protect
An LLC is a company you form under your state’s law. The company, and only the company, owes its debts and answers its lawsuits. That’s the whole idea. It helps, and it has limits.
This episode keeps it basic. It covers what an LLC protects, where it stops, what it costs, and the mortgage catch to check first.
What an LLC Does
An LLC separates your business from your personal life on paper. The Small Business Administration says LLCs protect you from personal liability “in most instances,” so your house, car, and savings generally aren’t at risk if the LLC faces bankruptcy or lawsuits. The model LLC law that states borrow from says the same thing: A company’s debts belong to the company, and an owner isn’t personally responsible just for being an owner.
Say a contractor sues over an unpaid bill from your rental. The claim goes after the LLC’s assets, and your personal savings stay out of it.
What an LLC Doesn’t Do
Your own mistakes stay yours. The shield covers the company’s debts. If you personally cause an injury, you can be personally responsible for it, LLC or no LLC. The model LLC law’s own notes say so, and South Carolina’s Supreme Court has ruled the same way. State laws vary.
Personal guarantees stay personal. If you sign a personal guarantee on a loan, you’re responsible for that loan yourself.
Mixing your money with the LLC’s can undo it. Courts can ignore an LLC in some cases and go after your personal assets. Lawyers call this “piercing the veil.” Keep a separate business bank account, which the SBA says keeps your business funds apart from your personal funds.
Insurance still matters. The SBA says an LLC’s protection has limits and business insurance fills the gaps. General liability insurance covers bodily injury, property damage, and the cost of defending lawsuits. On Airbnb stays, AirCover includes $1M of host liability insurance, and our AirCover vs Hospitable Protect vs Truvi Shootout shows what each protection covers.
For what to do when a guest breaks something, read Your Guest Broke the Bed. Now What?
Does an LLC Save You Taxes?
An LLC doesn’t save taxes on its own. What changes is which return the IRS expects, and that depends on how many owners the LLC has.
- 1 owner: The IRS ignores a single-member LLC by default, so you report the income on your own tax return, the same way you would without an LLC.
- 2 or more owners: The IRS taxes the LLC as a partnership by default. The LLC files its own partnership return, Form 1065, and 1 of its members signs it.
You report your rental income on 1 of 2 schedules. It generally goes on Schedule E, the form for rental income. If you provide substantial services mainly for your guests’ convenience, like regular cleaning or maid service, the IRS says to use Schedule C, the form for self-employed business income, and you may owe self-employment tax. Your CPA can tell you if your own cleaning between guests counts.
You can ask the IRS to tax an LLC differently with Form 8832, but that’s also a decision for your CPA.
What an LLC Costs
Every state charges to form an LLC, and many charge again every year to keep it active. Here are 4 states where hosts own a lot of rentals:
California is the outlier. Its $800 a year is more than 2 and a half times Tennessee’s $300, and it’s due even when the LLC earns nothing.
Beyond the state fees, plan for these:
- A registered agent. This is the person or service that receives legal papers for the LLC, and every LLC must name an agent in its state. In many states you can name yourself, and some owners pay a service instead.
- An EIN. The IRS issues it at no charge and warns against sites that charge for it. A single-member LLC with no employees doesn’t need an EIN, though a bank may ask for it.
- Local permits. Your city or county may charge its own business license or short-term rental permit fees, separate from the LLC.
- A lawyer or formation service. Both are optional. Filing it yourself costs only the state fee.
Check your Secretary of State’s site for current fees, and read The Real Costs of Running an Airbnb That No One Talks About for the other costs to plan for.
The Mortgage Catch
If you have a mortgage, transferring the property into an LLC can trigger the loan’s due-on-sale clause. That clause lets the lender demand the full balance if you transfer the property without the lender’s written consent. Federal law names specific transfers a lender can’t act on, like a transfer to your spouse or children, or into a trust you live in. A transfer to an LLC isn’t among them. Ask your lender in writing before you transfer the title.
So Do You Need an LLC?
It depends on what you stand to lose and what your state charges. Here’s how we’d sort it.
An LLC may be worth forming if
- You own enough that losing it to a lawsuit would hurt. The LLC keeps a claim about the rental away from your other assets, within the limits above.
- You’re buying with a partner. A company and a written agreement make the split clear, and the LLC files its own partnership return.
- You want to keep rental money and records apart from your personal accounts, which the SBA says helps keep your protection intact.
Ask first, or wait, if
- You have a mortgage. Transferring the property into an LLC can trigger the due-on-sale clause, so get your lender’s answer in writing before you transfer the title.
- Your state charges a lot to keep an LLC alive. In California, that’s $800 a year before the LLC earns anything.
- You don’t have insurance yet. An LLC doesn’t pay for damage or injuries, and insurance does.
Our view: Form an LLC once you know what it protects you from and have checked your mortgage and insurance first. An LLC is 1 layer of protection. Insurance, a separate bank account, and clean records make up the rest.
Before you form an LLC, ask these 4 questions:
- Do I have a mortgage, and what does my lender say?
- What does my state charge each year?
- Does my insurance agent need to know about the LLC?
- Who will set it up, and who will check it?
Plan on the paperwork, because an LLC won’t file itself.
