Real Estate Accounting: Proper Entity Setup - Entity Structure Matters
In business, an entity is how an organization is structured. Entity types may have different kinds of ownership, leadership, and legal and tax responsibilities.
It’s also important to note that one business can contain multiple entities, and even multiple types of entities. This is especially common for large businesses and in certain business areas, such as commercial real estate. Having multiple entities allows businesses to separate out their transactions and liabilities for higher visibility and lower risk.
When starting or developing your commercial real estate business, entity structure is vital because it impacts your profits and liabilities. Different entity structures offer different levels of protection against liabilities on your property. They also offer different benefits and drawbacks in terms of how you are taxed.
The size and interests of your business mean that it’s important to pick an entity structure that fits your goals. In commercial real estate, this is especially key, as the more properties you own, the more likely it is that you will need a complex entity structure.
There are many types of entities in business, and it can be hard to keep track or narrow down the best option for you. However, commercial real estate professionals most commonly use one of the types listed below.
A sole proprietorship is essentially running your business yourself. As an individual, you are responsible for all of the operations, finances, and liabilities of your commercial properties. The biggest advantage of a sole proprietorship is that it takes almost no effort to start: you simply begin doing business. This makes it very easy for small business owners, perhaps only with one or two properties, to handle.
However, the drawback to sole proprietorship is liability. There is no separation between your business assets, like your properties, and your personal assets, like your house and car. This means your personal assets have no protection if someone takes legal action against you.
A partnership is very similar to a sole proprietorship, except that it involves multiple people doing business together. This group shares responsibility for running the business and liability if anything goes wrong, taking some pressure off each individual. However, it’s important to note that in a basic partnership, your personal assets are still unprotected, just like in a sole proprietorship.
A limited liability company, or LLC, is a very popular choice among our clients. This setup works well for commercial real estate businesses with more properties or looking to grow. LLCs require you to file paperwork, and usually pay a small fee, to your state’s government to register your business and describe the way it will run. Each state’s regulations vary, so be sure to check your local requirements.
In an LLC, your personal assets are separated from your business assets. In case of a lawsuit, only business assets can be impacted. Creating multiple LLCs for different properties can also keep them protected from each other. Finally, LLCs may offer you more options in terms of tax savings and investments.
For very large commercial real estate businesses, corporations are another common choice. Like an LLC, corporations provide liability protection for shareholders and potential tax deductions. Incorporation involves meeting a variety of state and federal regulations, making it more complex and expensive than an LLC.
In commercial real estate, most corporations are S-Corporations. This type of business allows the owners to avoid being taxed twice (once for the business and once on their personal profits) and instead only taxes them on personal earnings. C-Corporations, which do not offer this benefit, are a less common option.
The best entity structure for your business depends on its size and goals. If you manage a single property, a sole proprietorship might be all you need. If you own many properties and hope to add many more, an LLC or corporation might be the right choice. Overall, LLCs are quite popular for their balance of protection and flexibility. You also may need to consider using multiple entities to cover all areas of your business.
In the end, however, it’s important to consider your own needs and consult with legal and tax professionals who can help you assess your specific situation. Making informed choices about your entity structure early on helps set you up for success in the long run.
QuickBooks can handle multiple entities using a separate subscription for each. However, QuickBooks is not built specifically for commercial real estate. This can make it confusing and awkward to use when tracking individual properties or for specific reports like rent roll and common area maintenance (CAM) reconciliation. Add a large, complicated entity structure on top of these challenges, and accurate accounting becomes a nightmare.
In this situation, property management software like STRATAFOLIO can integrate seamlessly with QuickBooks to organize your entities and easily generate these key reports. When managing your commercial real estate entities, property management software is a must.
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Feature content adapted from an article submission by Jeri Frank. This adapted Insightful Accountant content is provided for informational and educational purposes.
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