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February 28, 2007
Setting up an LLC
We are in the process of buying a townhouse in Cobble Hill. We have been told that it would be good to set up an LLC for the building. We have also been told that if we do so, we would technically be in default of our mortgage. Has anyone done this?
Comments
Was strongly advised against it. Was put to me this way - whatever structure provides you with more default protection provides the bank you borrowed from with less. If the bank takes on more risk (as you have less via LLC protection), they'll want - and deserve - payment for that risk in terms of a (much) higher rate to the borrower.
The bank lent you money based on your assets and ability to pay. From the bank's perspective, the LLC is a different, and more protected, entity.
Posted by: John at February 28, 2007 9:58 PM
not to mention that you'd lose your tax deductions for mortgage interest and property taxes
Posted by: Anonymous at March 1, 2007 9:43 AM
A mortgage loan is non-recourse, meaning the bank can only come after the collateral (i.e., the property). Why would it matter whether that property were owned by an individual or an LLC? 99% of commercial lending is done to LLCs, and the banks want it that way because it's a newly created, "clean" entity that is required to do nothing else but own the property and act in connection with owning the property.
I'm no tax lawyer, but I've been told that the tax benefits of property ownership would pass through to the members.
I would talk to your bank and an attorney before letting posters on this board discourage you.
Posted by: grendel at March 1, 2007 1:32 PM
Me again, definitely talk to professionals but to point above, 99% of commercial lending is probably done to LLCs - and the interest rate commercial developers pay is very different than what you and I pay as owner/occupiers.
Posted by: John at March 1, 2007 6:24 PM
Also most residential sales contracts do not allow you to assign the purchase to another entity or individual unless that was negotiated ahead of time. So the sellers can back out if they want to. Not that they would want to. But if you don't apply for a mtge under the name/entity on the original sales contract you may be in default of your contract and be acting with bad faith. Talk it all over with your attny.
Posted by: Anonymous at March 1, 2007 7:38 PM
we were thinking about doing the same thing for the house we just bought in cobble hill - our accountant thought we should. we decided against it because we were close to closing and by forming the llc we would have had to re-apply for the mortgage. if we did it after closing we would have to sell the building to the llc and take on more closing costs. we just got a really good umbrella policy instead. this was after discussing it with several btdt families we know.
Posted by: Anonymous at March 1, 2007 8:58 PM
grendel - have you ever taken out a mortgage or if you have read your mortgage note? A mortgage is secured financing, not non-recourse. The bank takes a senior lien on the property but has recourse to you for 100% of the loan. The bank may decide it is not worth the effort to go after you, but that is far different than non-recourse. Ask how many people who after defaulting on the a mortgage, handing the keys to the bank and walking away had their credit history destroyed. The reason your credit gets hit is because you were liable on the loan.
Posted by: mike at March 2, 2007 2:27 PM
Mike is right for residential loans. For many commercial loans you can get non-recourse and this is usually with an LLC holding ownership and signing for the loan. In that case if you default on the loan it does not ding your personal credit. In fact when running your credit report the loan won't even show up.
This is OK in the commercial space because an income producing property has income of its own. The bank will loan based on that income. When you buy your house the house has no income, thus you have to use your income and your personal guarantee.
If the property you are buying is your home an LLC doesn't make much sense. If it is an investment it can add an extra layer of financial protection in case things go bad.
Posted by: Anonymous at March 2, 2007 6:54 PM
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