There are a multitude of reasons why you may choose not to combine real estate and other assets within a single entity. For instance, your business may be liable if injuries occur on the property, or if the company is confronted with legal liabilities, this may affect your ownership of the property. Tax savings, limited liability and flexibility are just a few of the reasons that holding real estate in a separate entity may be beneficial to you.
How to Avoid Costly Mistakes
Numerous businesses operate as a C corporation so they are able to purchase and retain real estate similar to how they do with equipment, inventory and other assets. The expenses which correspond to owning the property are handled as ordinary expenses recorded on the income statement of the Company. The downside to this is that when the real estate property is sold, any profit will be subject to double taxation – the corporate level first, and then the individual level to the owner when the distribution is made. Therefore, recording real estate in a C corporation could possibly be a costly mistake based on the double taxation which occurs when a sale takes place.
Conversely, if the real estate was held in an entity such as a limited liability company (“LLC”) or limited partnership, which are considered to be pass-through entities, and then leased to the corporation, the profit of a sale on the property would only be taxed once, at the individual level to the owner.
How to Maximize Tax Benefits
The most clear-cut and apparently least expensive way for an owner to maximize the tax benefits is to purchase the property outright. However, this may assign related liabilities on the property directly to the owner, which puts the other assets, including the business, at risk. Essentially, this would nullify a part of the original reasoning for organizing the business as a C corporation to begin with.
Therefore, it’s usually best to hold the real estate in its own limited liability entity. The option of organizing as a “LLC” is usually the best option for this, however, organizing as a limited partnership can also achieve the same ends if there is more than one owner. No matter which structure is used though, be sure that all entities are adequately insured.
How to Stay Flexible
Dividing real estate ownership from the business also establishes additional options to attain the needs of multiple owners. For example, if a family business is passed down from one generation to the next, one child may be more interested in owning and operating the business, however, may not have the financial stability to purchase both the business and its real estate.
If the two are separated, it makes it likely that one sibling may take over the business, while the other siblings hold the real estate. In this instance, everyone can benefit. The child who purchases the business maintains sole control, while still reaping the benefits of a property owner.
The Bottom Line
Use caution when handling ownership of real estate as you would any other business, as you could encounter numerous difficulties. Protect yourself by working side by side with a financial advisor.