Operating a vacation rental property is a popular way many homeowners create an additional stream of income. But here’s a simple question for short-term and vacation rental property owners: If you could protect your assets AND increase your tax write-offs with ONE business move, would you do it? It’s safe to say that the overwhelming majority of property owners would probably answer “YES” to this question, which means forming a real estate LLC is the way to go when it comes to owning and operating a rental property.
The Worry-Free Way to Rent Your Vacation Property
Ah, the life of a vacation rental homeowner. Your renters get a piece of paradise where they can relax and unwind, and you get a great source of income and an investment that grows in value.
Aside from the occasional burst pipe situation — or the guests who appear to have thrown a raging party with all of their messiest acquaintances — it’s a pretty sweet deal that doesn’t take up too much of your time and energy. However, despite the relative simplicity of renting out your vacation property, there’s always the possibility of unforeseen circumstances that could potentially have an impact on you and your other personal assets.
Surprisingly, you can safeguard your finances AND increase your cash flow with one business move. The secret is to operate just like you do now but under an LLC. Don’t worry; it’s not as complicated as it sounds. Let’s dig in.
What is an LLC?
LLC stands for limited liability company, and it’s a type of business entity. The type of business entity that a business owner chooses is important because it impacts the way the business is taxed and what is at stake in the event that legal action is taken against the business, such as a lawsuit.
How are LLCs created?
When a business owner (including rental property owners, such as yourself) decides to operate as an LLC, they initiate the process by filling out a document called the Articles of Organization and submitting those documents to the state in which they’d like to operate.
To file the Articles of Organization and receive LLC status, the business owner will pay fees to the appropriate governmental entities. These costs vary from state to state.
What is the difference between being self-employed and operating under an LLC?
Without an LLC, a business owner and their company can be one and the same in the eyes of the legal system. However, once the business owner is registered to operate under an LLC, the business owner is officially a separate legal entity from the company itself.
The LLC status essentially creates a delineation between the owner’s personal assets, such as their home, bank accounts, vehicles, other valuable possessions, and the assets belonging to the LLC and any profit generated by it. This separation is crucial in the event that a lawsuit is potentially filed against the LLC. Remember, it’s important to discuss legal matters like this with your attorney.
Does an LLC protect you the same way a homeowner’s insurance policy does?
Insurance is helpful in litigious situations, and it’s still necessary after forming an LLC. A homeowner’s insurance policy and LLC status are in no way the same thing, although both may protect you in the event a claim is filed against you. However, a homeowner’s insurance policy will typically not cover all costs associated with a lawsuit, and insurance alone won’t fully protect your personal assets from becoming part of any restitution payments.
In the event that a lawsuit is won against you, your insurance may not cover all the costs. In this situation, if you’re not operating under a formal business entity like an LLC, your personal assets might become fair game.
What do LLCs have to do with short-term rental properties?
It’s important to remember that property owners have a duty to keep their guests safe. The owner of the property is responsible for maintaining a property that is safe and free from foreseeable hazards. This doesn’t necessarily mean that a guest can’t still sustain an injury while visiting a rental property, but it does mean that the property owner is always responsible for reasonable upkeep of the property. Because you’re responsible for what takes place on your property, you need to ensure that you have as many financial safeguards in place to protect yourself. As previously mentioned, an LLC will help separate your personal assets from any liabilities associated with your rental business, offering you the protection you need to confidently rent the property.
Aside from personal asset protection, what other benefits come with forming an LLC?
LLCs make your short-term rental business more flexible and even more lucrative. Here’s how:
- Tax write-offs: Send less of your cash to Uncle Sam by claiming expenses like interest on related business loans, legal or bookkeeping fees, transaction fees from payment processors, and license fees. (NOTE: Be sure to check with your tax advisor for specifics on which items can be claimed.)
- Protect your partnerships: LLCs are especially useful for situations in which vacation rental properties are shared between family members or friends (i.e., the LLC entity allows two or more parties to enter into a clear, low-risk agreement that effectively protects every individual involved).
- Easy income distribution: Once your vacation rental is clearly organized into an LLC, it’s easy to track revenue and expenses, and even pay for repairs or home improvements directly from the LLC’s business bank account.
Disclaimer: The information in this article is not legal advice and is not a substitute for, and does not replace the advice or representation of, a licensed attorney.
What’s the easiest way to set up an LLC?
In the past, rental property owners had to wade through daunting paperwork, fine print, government agencies, and filing fees. Creating an operating agreement, filing documents, and figuring out how to get an EIN (think of it like a Social Security number but for your LLC) was time-consuming, especially for vacation rental owners without prior experience in forming companies.
Oh, and the compliance chaos was ongoing, with updates coming through the mail and new documents required throughout the year (all with different deadlines, of course). And remember to keep in mind that inaccurate filings and compliance mistakes have serious consequences that can be damaging to business-owner bank accounts.
Fortunately, with the assistance of technology (and some very helpful humans), it’s never been more simple to establish an LLC and ensure that all filings, paperwork, and fees are completed and up-to-date. See how it works, and let ZenBusiness (the #1 alternative to services like Northwest Registered Agent and MyCorporation) get started on your new LLC before your next guest even checks in!
Disclaimer: The content on this page is for informational purposes only, and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.