Property owners know they need to take measures to protect their valuable real estate assets. The challenge is deciding what vehicles are best to get the desired level of asset protection.
Rental insurance policies, or landlord insurance policies, provide more protection than a homeowner’s policy. In addition to covering damage due to fire, vandalism, and weather, rental insurance policies provide coverage for the loss of rental income while the property is being repaired or rebuilt. Also, landlord policies offer liability coverage in the event of an injury or property damage occurring on the rental property. Using these policies do not cover flooding, however, flood insurance can be purchased as a separate policy. Investors who have a large portfolio of real estate assets should consider an umbrella policy for additional protection.
Limited Liability Companies
Commonly known as LLCs, limited liability companies shield assets held outside of the LLC from litigation. The protection comes from the LLC holding title to the property instead of holding it in the investor’s own name. LLCs are of particular value to real estate investors who own multiple properties. Each property can be held in a separate LLC. To demonstrate how all of this works together, a fictional real estate investor has properties in Main Street Triplex LLC and First Street Duplex LLC. A tenant falls at the duplex and sues the property owner, First Street Duplex LLC. The tenant doesn’t get access to the investor’s triplex, her private residence, or bank accounts. Investors must take care to follow the laws for the maintenance of their LLCs so that the entities can continue to shield their assets.
Holding a sizable amount of debt against a real estate asset is a form of asset protection. Properties that have little to no equity lack value as targets of litigation. This fictional scenario demonstrates why. Regis recently put 5% down to mortgage a four-unit apartment building priced at $300,000. He has a modest income, lives in one unit, and rents out the others. Although he holds title to the property in his own name, the $285,000 debt makes a lawsuit unlikely. Most lawyers aren’t going to pursue someone whose only valuable asset has just $15,000 in equity. As Regis pays down his mortgage, he can continue using debt as asset protection by stripping the equity from the property with a home equity line of credit (HELOC). Debt as an asset protection strategy isn’t as effective for investors with large incomes or who own other properties with significant equity.
Protecting real estate assets is an essential aspect of investing in real estate. Understanding how to protect your assets as an investor can help limit your losses and maximize your returns.