Protecting Your Assets

The concept of protecting your assets might seem a bit complicated and overwhelming, but it doesn’t have to be. As long as you know what to do and how to protect yourself in certain situations, you’ll be able to keep your assets safe and secure (even when unexpected issues come up).

We’ll be talking all about strategies for protecting your assets in this article, so let’s dive in. From the importance of insurance to different business structures (like LLCs, trusts, and corporations), you’re about to be “in the know” when it comes to practical tips for keeping your assets safe. Let’s get started!

Umbrella Insurance vs. LLC

When you start thinking about becoming a landlord (i.e., a business owner), one of the first things you'll worry about is how to protect yourself from lawsuits. You know you need insurance, but which policy is the best for your rental property? Let’s talk about two of the most popular options for liability protection below:

Umbrella Insurance

An umbrella insurance policy is a type of supplemental insurance that kicks in when the costs exceed what your standard policy covers. This can protect you from personal financial responsibility in case of an injury or lawsuit.

Umbrella insurance also covers things your standard policies might not (like slander, libel, or false arrest, to give you a few examples). It not only covers your rental properties but also follows you personally. For example, if your dog bites someone at the park, umbrella insurance can cover the medical costs.

Umbrella policies provide extra liability coverage but won't cover areas not already included in your standard policies. They can cover multiple properties across different states, unlike LLCs, which are limited to the state they're registered in.

However, umbrella policies might have more conditions and loopholes, so it’s important that you have a thorough understanding of your coverage. Some insurance companies will even provide legal teams to help you fight lawsuits. You’ll definitely want to take these things into account when making a decision.

The cost of an umbrella insurance policy depends on where you live. On average, a $1 million policy costs about $383 per year, while policies can go up to $10 million in coverage, costing roughly $1578 a year. It's a good idea to get quotes from several insurance providers to find the best deal. Also, bundling your insurance policies with one company might get you a discount.

While umbrella insurance gives you extra coverage, it doesn't protect all your personal assets. For example, if a claim is $2 million but your umbrella policy only covers $1 million, you would still be responsible for the remaining $1 million. This could put your personal assets such as your primary residence at risk. This is where an LLC can be helpful. If you own your rental properties through an LLC, and a claim exceeds your insurance, only the LLC's assets like the rental property are at risk, but not your home.

Limited Liability Company (LLC)

A Limited Liability Company (LLC) is a business structure that provides its members (owners) with limited liability. This means that in most cases, you won't be personally responsible for any debts or lawsuits against your business. The LLC is seen as a separate entity, much like a corporation.

However, just having an LLC doesn't automatically protect you from all lawsuits. For example, if you fail to maintain your property (like not taking care of a swimming pool or neglecting to take care of a mold problem in a tenant’s apartment), you might still be held personally liable if a tenant gets hurt. Also, if you break the law or deceive a tenant, your LLC might not protect you.

This risk is higher with a single-member LLC, as courts may view the LLC as your "alter ego," potentially putting your personal assets at risk.

The cost of setting up an LLC varies by state, but the average filing fee is around $132. Also, many states charge an annual or biennial fee, which is important to keep in mind. Some states (like South Carolina and New Mexico) have no annual fee, while others like California charge $800 annually.

To make sure you're making the right decision, you should consult with a tax advisor and possibly an attorney, especially if you're considering setting up LLCs for multiple properties. Both LLCs and umbrella insurance costs are tax-deductible, which can help offset some of the expenses. Keep in mind, though, that with umbrella insurance, you'll have a deductible to pay before the policy kicks in.

Protecting Your Assets With an LLC: Advantages and Disadvantages

We’ve already touched on this briefly, but you might find it helpful to see a more comprehensive breakdown of the pros and cons of protecting your assets with an LLC. Let’s take a look below:

Advantages

• Stronger Legal Protection: Creating an LLC means your business becomes a separate legal entity. This separation means that if someone sues your business, they can only go after the business’s assets (like its bank account) and not your personal assets (like your house).
• Flexible Tax Options: With an LLC, you have several choices for how you want to be taxed. Many people choose to be a “single-member LLC.” This means the business's income is reported on their personal tax return. Alternatively, you could choose to be taxed as an S Corporation. This would allow you to take part of your income as a salary (subject to income and self-employment taxes) and part as a distribution (only subject to income tax).
• Improve Your Brand Image: Having an LLC in your business name can also make you appear more professional to customers. This could potentially improve your brand image, which is always a plus.

Disadvantages and Risks

• Extra Costs and Paperwork: Starting an LLC involves quite a bit of paperwork, and it can be initially expensive too (usually a few hundred dollars) — especially if you choose to hire a lawyer or accountant. There are also state filing fees, annual renewal fees, and (possibly) franchise taxes to keep in mind.
• An LLC doesn't protect you from being personally sued for negligence: If you’re the sole member and any negligence is perceived to be your fault, you could be personally named in a lawsuit.
• Piercing the Corporate Veil: Courts can "pierce the corporate veil" if they believe the LLC is just an "alter ego" of its owner, particularly with single-member LLCs. This can put personal assets at risk if the LLC's separation from the owner is not maintained properly.
• Isolating LLC Finances: To maintain the LLC’s protection, you must keep business and personal finances separate and follow proper business governance. Using personal bank accounts for LLC transactions or neglecting business formalities can lead courts to view the LLC as indistinguishable from the individual, thereby voiding the liability protection.
• Legal Costs: Having an LLC doesn’t stop you from being sued or personally named in a lawsuit. You still need to defend yourself, and legal costs can be significant. A good insurance policy is crucial to help cover these costs.
• Some Legal Uncertainties: Since LLCs have only been around for a few decades, there isn’t a lot of legal history or case law. This means there might be changes in how LLCs are treated legally in the future, particularly regarding the extent of personal liability protection.

What About Trusts and C Corporations?

When it comes to estate planning, trusts are great for protecting assets. For example, trusts can protect your assets from both creditors and lawsuits. This is also a great way to make sure that your assets go where you want them to (without going through probate). Setting up and managing a trust can be tricky, though, so you might want to hire a lawyer to help you out.

A C Corporation is a bit more complicated, especially in comparison to other business structures. However, it also offers significant protection, so it may be a good option. The great thing about C Corporations is shareholders aren’t personally liable for the company’s debts. C Corps can also deduct business expenses and potentially lower taxable income.

That said, when it comes to C Corps, profits are taxed at the corporate level and again as shareholder dividends. C Corps also have more regulatory requirements and higher administrative costs. This won’t be an easy decision to make, and either way, you’ll probably want to hire a lawyer.

Renters Insurance

Requiring your tenants to have renters insurance can also protect you by covering damage to the property and claims from accidents. Just remember, umbrella policies don’t cover everything your standard policies do; they only add extra liability coverage. They won’t cover business-related liabilities, your own injuries, intentional or criminal acts, or damage to your personal belongings.

The Bottom Line

Protecting your assets is just a matter of being proactive and using the right strategies depending on your situation. Whether it’s through insurance, business structures like LLCs, trusts, or corporations, you should be able to keep your assets safe now that you have the right information on hand. Do your best to stay informed and review your plans every now and then. That way, you’ll be able to keep your assets safe over the long term.