By Jay Butler
During the 18th century, corporations in America were formed by an act of congress for public projects and services, such as the building of damns or creation of manufacturing jobs. Charters were revoked for the violation of law or upon the life of the project.
Originally owners and managers of corporations were held liable for the mismanagement of all company affairs and criminal acts. These corporations could not own stock in other companies, possess ownership of non-essential property, nor make political or charitable contributions to influence law-making decisions within the legislative branch of the United States government.
Large central banks didn’t care for this and pushed New Jersey representatives to pass legislation called the General Revision Act in 1896, which privatized corporate charters. Delaware passed similar laws shortly thereafter and became known as the premiere state in which to incorporate in America for the next 101 years.
In 1997 Delaware began disclosing stock ownership information with the Internal Revenue Service and, combined with an 8.7% state corporate income tax rate, may no longer be the best choice for forming a private corporation. However, Delaware has some of the best anti-takeover clauses in the United States and is a worthy consideration should you wish to take your company public.
Wyoming has risen through the ranks as a viable alternative state in which to incorporate. Although they disclose available stock ownership to the IRS, Wyoming does not keep any records on file and therefore has no available information to disclose. It is a very clever strategy and certainly places the low cost of incorporating in Wyoming above most other every state in the union.
Nevada improved upon Delaware laws when forming their Nevada Revised Statutes in 1987 (later revised in 2001), wherein personal liability protection is determined by state statute and not by judicial determination on a “case-by-case” basis as in California courts. In Nevada, individuals are not subject to the unpredictable rulings applied by any particular judge, rather one can count on stable outcomes based on foreknown Nevada state law.
Nevada has developed a strong precedence for protecting the corporate veil, making it the most difficult to pierce of any state in the country. In fact, since 1987, only one Nevada “C” corporation has ever had its veil pierced. [Polaris Industries Corp v. Kaplan]. Under NRS 78.747 the protection and anonymity for officers, directors and stockholders in Nevada “C” corporations are unparalleled with any other state in the union as the nearly insurmountable burden of proof rests entirely on the Plaintiff to prove all three of the following NRS requirements to pierce the veil.
1.) The corporation must be influenced and governed by the person asserted to be the alter ego. When a corporation is not operating as a true legal entity and is being used by its shareholders as a “shell” to control private interests and assets or debts, the corporation is said to be the “alter ego” of its shareholders. A corporation may appear to be the alter ego of its shareholders when:
- No directors are elected;
- No corporate records are kept;
- No records are maintained by the shareholders;
- Personal funds or assets of shareholders are co-mingled with those of the company;
(e.g. no separate bank accounts).
If the shareholders have themselves disregarded the corporate form, the law will disregard the entity and shall not offer shareholders the protection normally granted to the corporation.
2.) There must be such unity of interest and ownership that one is inseparable from the other;
3.) The facts must be such that adherence to the corporate fiction of a separate entity would, under the circumstances, sanction fraud or promote injustice.
After the deplorable June 24th, 2010 Florida Supreme Court Ruling in Olmstead vs. FTC, Nevada amended their charging order protection under NRS 86.401 to specifically provide single-member limited liability companies the same exclusive remedy for a judgment creditor as with multi-member LLC’s. And with legislation enacted on October 1st, 2011, Nevada went a step further under NRS 78.746 to become the only state in America extending such charging order protection to “C” Corporations. Now Nevada “C” corporations are afforded the highest degree of protection from lawsuits filed by disgruntled creditors and zealous attorneys.
Tax, what tax? The great state of Nevada has no gift tax, no sales tax, no luxury tax, no property tax, no franchise tax, no capital gains tax, no succession tax, no tax on corporate shares, no individual income tax and no corporate income tax for entities whose gross revenues do not reach or exceed $4 Million per annum. Nevada entities are only subject to Federal income tax IF the respective entity has a profit upon reaching its fiscal year-end.
Nevada corporate stock holders and directors are not required to be U.S. citizens and meetings may be held by proxy anywhere in the world. Nevada requires no minimum paid-up capital and there are minimal reporting and disclosure requirements. Only the names and addresses of the corporate officers, directors and resident agents are on public record, but again Nevada recognizes privacy and permits the use of nominee officers and directors.
The primary business which may be exempt from paying the annual Nevada state business license fee under NRS 76.020 are government entities, non-for-profit organizations, motion picture studios, and limited types of insurance companies.
Choose a jurisdiction in which to incorporate wisely and always be sure to “Cover Your Assets”. Please contact our offices today at https://www.assetprotectionservices.com/apsa/contact/contact-us.php to receive your free private consultation and for assistance with forming an entity in the state which best suites your needs.
Asset Protection Services of America
Mobile (239) 309-8214
By Garrett Sutton, Esq.
Throughout history, kings and nobles have sought to protect and defend their valuable real estate. Castles were once the preferred method of keeping marauders at bay. In today’s world, with lawyers and governments now leading the attacks, protection is no less important. In my latest book, Loopholes of Real Estate, we compare castle fortifications and asset protection, as they are quite similar in history and purpose.
But for today, without the expense and zoning issues of actually building a castle, what is the best way for you to hold real estate? There are several scenarios for real estate investors with varying asset protection options, so let’s look at a new client of mine who uses a few of the different options himself.
Sammy is an astute real estate investor. He had started out as a carpenter working for a company that both built homes and filled in their time with remodeling jobs. He soon realized that the clients who spent $10,000 with the company to remodel a property were turning around and making $50,000 when they later sold the property.
Sammy liked his job, but even more so, he liked to make money. So he started by buying a run-down property at a discount that he could fix in his spare time. While he experienced a few setbacks and some learning pains, when the remodeling and painting was completed, Sammy had a $20,000 profit after the sale.
That was enough to launch Sammy into his new career. Since then, Sammy has been buying distressed properties, fixing them up and selling them. In the last six years, Sammy has also been fixing up duplexes and 4 plexes and keeping them for his own portfolio. To further his real estate options Sammy has also started building spec houses for sale and profit.
Sammy has assembled a good team of professionals. He has learned from his CPA and attorney that each of his three real estate activities – remodeling for quick sales, holding and keeping, and building homes for speculation, or spec home sales – require a different legal strategy and a different means of taking title. His strategy is as follows:
- Remodel for quick sales. This is the strategy Sammy had first started with and it continues to constitute a significant portion of his profits. Still, as more new investors are getting into “fixing and flipping,” the sale prices for distressed real estate are increasing. Sammy knows what his margins are and won’t bid on dilapidated yet overpriced properties as others have done. Nevertheless, there have been plenty of good fixer-uppers in his area to acquire.
Because Sammy has been flipping several properties a year, he is subject to ordinary income taxation. Since flipping properties is his business, it is how he earns his salary. This means he has to pay a 39.6% tax (the highest federal income tax rate) on all his flips instead of only a 20% capital gain tax rate for his long term holds (with a 3.8% Obamacare surtax on income above $250,000 for married couples). Sammy definitely needs a CPA on his team for all the new rules.
This brings us to the best way to take title for Sammy’s (and for your) flipping activities.
While in a large majority of cases, you will want to take title to your real estate in an LLC, for flipping you will consider using an LLC taxed as an S corporation. The reason for this, as with so many other things in life, has to do with taxes. Because flipping constitutes ordinary income, with the S corporation tax rules we can minimize payroll taxes (that darn 15.3% extra tax we’ll never get back as it falls into the dark hole of Social Security promises). Pay yourself a reasonable salary (and pay payroll taxes on that amount) and flow the rest through to you as a distribution (without payroll taxes). Be sure to work with your CPA on this to make sure you are taxed appropriately on your real estate endeavors.
- Hold and keep. As Sammy analyzes each new property, he always asks himself whether it was one to flip or keep.
While he knows how to accelerate the return on his money by quickly flipping properties, he also knows that his long-term retirement needs would be in part satisfied by rental real estate income. Typically, his ideal candidate is a duplex or 4-plex that needs some repair. In such cases he can buy below market and perform improvements over time at his convenience. When he doesn’t have a quick flip to work on, he keeps his crew busy on his hold and keep properties.
Sammy always holds his hold and keep properties in separate LLCs. He values the asset protection benefits of keeping his properties in separate entities, especially after suffering two lawsuits early in his career. The first lawsuit arose when he operated his construction business as a sole proprietor and held his first investment property, a duplex, in his individual name. A client had sued Sammy over some very careless work a subcontractor had performed. The plumber had gone out of business and left the state, leaving Sammy holding the bag. A judgment was rendered whereby Sammy’s sole proprietorship was held liable for the significant damages. Since the sole proprietorship offered no asset protection whatsoever, all of Sammy’s personal assets were fair game for collection. And because Sammy hadn’t used a protective entity to hold title to his duplex, the property was completely exposed to the claims of the judgment creditor.
As a result, Sammy lost all of his sole proprietorship assets, his trucks and equipment, as well as the duplex. All lost to satisfy the claims for damages he did not cause. It was a bitter experience Sammy vowed would never happen again.
Sammy immediately started operating his construction business for flipping properties through an LLC taxed as an S corporation. He began acquiring hold properties with a vengeance, putting them all into one LLC. Before long, he had three 4-plexes and one triplex in his one LLC.
Then the second lawsuit was filed.
A tenant had fallen at the triplex. Sammy’s insurance company used a loophole to avoid paying the claim. As the chart below indicates, the tenant prevailed in a lawsuit brought against the LLC that owned the triplex.
The good news was that Sammy’s construction business and personal assets were not exposed to the claim. The bad news was that the judgment allowed the tenant to proceed against all of the assets in Sammy’s Real Estate LLC. Two of the 4-plexes were owned free and clear. The tenant’s attorney was able to easily attach the 4-plexes and sell them to satisfy the claim.
It was after this experience that Sammy came to appreciate that one did not want to own too many properties in one LLC or LP. By holding four properties in one LLC, a tenant with a claim involving one of the properties can reach the equity in all four properties.
Sammy decided that in the future, only one property would be held in each LLC. Putting too many properties in one LLC created an attractive target for the professional litigants of the world.
- Spec home sales. Whether building one home for speculative sale purposes or building a subdivision full of identical tract homes, Sammy knew that a unique protection strategy was needed when he started in spec home sales. This was because more and more lawyers across the country were bringing lawsuits alleging damage from mistakes during construction, known as construction defect litigation. Plaintiff’s lawyers were filing lawsuits on behalf of homeowners alleging monetary damages due to settling, cracks, improper construction practices, and the like. These suits were especially prevalent in California and Nevada, where a ten year statute of limitations allowed suits to be brought a decade after a house was built.
Each time Sammy builds a spec home he uses a new entity. Again, because of its asset protection benefits and efficient flow-through taxation of income, Sammy uses a separate LLC for each custom home he builds. In California, because of the extra state taxes on LLCs, he uses an LP with a corporate general partner as his developer entity.
The key to Sammy’s strategy is to keep each entity active after the house had been sold. This is to thwart the aggrieved homeowners and their lawyers who have ten years to bring a construction defect claim. Too many builders believe that by having tail insurance they can dissolve the construction entity. But insurance doesn’t cover every claim, and dissolving the entity leaves you personally responsible. By keeping the entity alive during the ten-year statute of limitations period, any claim would be brought against the LLC or LP, not personally against the owners.
But isn’t it expensive to keep an entity alive for ten years? What about all the filing fees and tax returns? As Sammy knows, it isn’t a burden if done the right way.
As far as tax returns are concerned, once each house is sold a final tax return for the entity is prepared. The LLC or LP stays alive but has no activity and thus does not have to file an ongoing return. In terms of annual filing fees, some states are more expensive than others. In California it is $800 per year per entity. Including a $125 annual resident agent fee, the ten-year cost per entity is $9,250.
But what if your California entity was originally formed in a low-cost state such as Wyoming? That is Sammy’s money-saving strategy. The developer entity is formed in Wyoming and qualified to do business in California. Qualifying in California is required since the house is being constructed in California. But once the house is sold, the entity no longer conducts any California business. It is free to stop paying California fees and only has to pay the minimal Wyoming fees of $50 per year. Assuming the same $125 annual resident agent fee, the cost of maintaining a Wyoming entity for 10 years is only $1,750 versus $9,250 for California. By forming the entity in Wyoming, qualifying in California for only as long as necessary and then keeping the entity alive in Wyoming until the ten-year statute of limitations runs out, Sammy is able to affordably protect himself and his other assets.
Sammy’s three strategies for remodels, holdings, and spec home developments serve him well and he has prospered without any further devastating litigation. His modern day castle keep are properly formed and properly maintained LLCs and LPs.
For more information on this and other title matters, please read my book Loopholes of Real Estate or visit CorporateDirect.com
Loopholes of Real Estate: http://www.corporatedirect.com/loopholes-of-real-estate/
Corporate Direct: http://www.corporatedirect.com/
Garrett Sutton is an attorney, speaker and best selling author. As part of Robert Kiyosaki’s Rich Dad’s Advisor group he has written six books which have been translated into 11 languages. Garrett focuses on corporate and asset protection law and speaks to audiences on the importance of asset protection. His advice is pertinent, timely and valuable.
Garrett received his Juris Doctor Law Degree in 1978 from Hastings College of the Law, the University of California’s law school in San Francisco. He received a B.S. in Business Administration from the University of California, Berkeley, in 1975. He is licensed to practice in Nevada and California.
By Garrett Sutton, Esq.
Title to real estate sounds grand. As you think of titles let your mind wander back again to medieval England when titles such as Baron and Duke meant you were part of the nobility and peerage system. And not coincidentally, if you had such a title you also owned land. As our legal systems evolved, real estate title–the means by which you owned valuable property rights – remained ever so important. Because title conveyed power (and with power came corruption and fraud), a system to accurately record the chain of title developed. Over time you had to defend your title with the proper paperwork. The ‘checking system’ that evolved means that there are two steps for the transfer of title.The first step is the granting of a deed whereby the grantor transfers the property to the grantee. An investigation of the sequence of deeds to establish an accurate chain of title is then performed. If the grantor actually has clear title, according to the public records, a policy of title insurance may be issued and the property transferred. (Please note that property can be transferred without title insurance but that most banks won’t take the risk in making a loan without it.)A noticeable break in the chain of title means that the buyer–even though they believe they are the rightful owner–can be subject to the possible claims of others contesting the title. It can also mean that the property is now very difficult to sell, because future potential purchasers don’t want any doubts about clear title.
Accordingly, title insurance is important. Before insuring you against the risk of future claimants, a title company is going to check the public records to see if there are any troubling gaps in the chain of title. If gaps exist they won’t issue a title insurance policy. If they won’t issue a policy you won’t buy the property. It is that simple. Follow their lead. Transferring Title
The specter of title insurance affects the way you will transfer title to property.
There are two ways to transfer title:
1. a grant Deed. this deed (or ‘Warranty Deed’) implies or warrants that:
a. The Grantor (the person granting the property) has not transferred the property before, and that absolute ownership (‘free and clear’ title) is conveyed.
b. Unless the Grantee (the person receiving the property) agrees otherwise, the property is free from any liens or encumbrances against it.
c. Any after-acquired title (ownership that goes to a Grantor later) is also conveyed to the Grantee.
2. a quit Claim. this much weaker deed only:
a. Transfers whatever present right, title or interest the transferor may have. (If the transferor doesn’t have any rights, neither do you.)
b. No warranties are made as to any liens or encumbrances. (So if there are undisclosed mortgages against the property it’s not the transferor’s problem – as it is in a grant deed. Instead, it is now your problem.)
c. No after acquired title is transferred.While often advocated by promoters as the easiest means for transfer, the quit claim deed is not your best choice. First, know that in many bank involved ReO (real estate owned) transactions the ReO lender selling a foreclosed property will only use a Quit Claim deed.
Why is this?
It is because the lender has no idea what happened on the property prior to foreclosure. During the boom documents were not properly kept or transferred, the banking industry’s MeRS electronic recording system failed to keep up with it all, and many documents were just plain lost. This is no way to maintain a good chain of title on the nation’s real estate.
It was so bad in 2009 that a large national title company announced it would no longer issue title policies to two large national banks. These lenders’ records were just not trustworthy, and the title company was not going to take the risk. Know that for years to come there are going to be title issues arising from the real estate collapse in 2008.
It is for this reason that sellers (mainly banks) of foreclosure properties are using quit claim deeds. They don’t know what happened and they aren’t about to warrant or guarantee that they have a clean title to convey to you. The quit claim deed they use instead says, “We don’t know what we’ve got but whatever we’ve got we’re giving to you.”
What is offensive is the lengths that some of these lenders will go to get you to bite on a quit claim deed. They will tell you that it grants you full rights to the property. It doesn’t, because neither you nor the bank really knows what those rights are.
To further get themselves off the hook after taking your money for the property these banks will bury the fact that they don’t warrant good title in an Addendum at the end of a sixty page contract. They want you to waive any rights you may have in the matter. They may or may not know that the title is so defective that the property will be severely devalued. But they want you to release them from any future problems and sign off that everything is okay. There have been reported cases where the Addendum is intentionally withheld and only provided to you at the closing. (You know, at that last meeting at the title office where you are expected to sign 47 documents without reading them.) Accordingly, please be very careful and have your own attorney review such transactions.
The second reason a quit claim deed is not preferred is because the quit claim deed severs an express or implied warranty of title. (Remember, you are just granting whatever you may own which may be something, or nothing.) As such, the title insurance doesn’t follow. While this may not seem like a big deal, let’s consider an example.
You buy a property in your name. Part of your closing costs includes a policy of title insurance. Several years later you want to transfer title to an LLC for asset protection. Your friend says a quit claim deed is the easiest and quickest way to go. You file the quit claim deed and now the property is titled in the name of your LLC. Later, you learn that the boundaries weren’t properly surveyed. You seek recourse from the title company since they insured the boundaries were correct. But you now learn that by quit claiming the property into your LLC you have unwittingly cancelled your title insurance policy. The boundary issue is no longer insured.
The way to avoid this problem is to use a grant deed or a warranty deed. A title insurance policy isn’t extinguished in such a transfer. As well, a grant deed is just as easy to prepare as is a quit claim deed. But in either case, remember that easy isn’t always best. If you are not an expert at title transfers, I would have a lawyer or title company handle them.
For more information on this and other title matters, please read my book Loopholes of Real Estate or visit: www.CorporateDirect.com