A common and recurring question I get from doctors is, "How many LLCs do I need?" The best answer requires a fact specific look at your assets.
A common and recurring question I get from doctors is, "How many LLCs do I need?" The best answer requires a fact specific look at your assets and a number of related factors including business purpose, risk, and equity.
In two recent blogs, I introduced a basic business entity and asset protection tool, the Limited Liability Company or LLC. I first provided a basic outline of what an LLC is and some of the features that make it attractive, and followed that up with a look at the dangerous myths that LLC promoters often use to oversell to physicians. Today, I'll walk you through the process and factors I consider when advising clients about LLC usage and how many they actually need.
First, is an LLC the right tool?
The first step, just as in your practice, is diagnosis. Just some of the factors we consider in making this baseline determination should include:
• The legitimate business purpose of the LLC
• The number of owners in the LLC and how the LLC may be need to be divided or funded among those owners
• The taxation of the LLC
• The ongoing costs of the LLC
• The history of use of an LLC for the particular purpose it's being considered for, including case law
Assuming these all support the LLC as a good fit for the usage at hand (as opposed to some other legal structure like a corporation, trust, or partnership), we must look at some other specific factors to determine how many LLCs an individual may need. Contrary to popular belief, you don't always need a separate LLC for every piece of real estate. Similarly, an LLC is not a universal fit for every situation or every asset. It should not be funded like a garbage can, where multiple properties, businesses, and even safe passive assets are mixed into a cocktail of liability. This is a common fatal flaw of physicians' asset protection we previously cautioned you about.
How many LLCs? Some basics to consider.
What is the Liability Level of the Asset You Want to Put in It? A good place to start is to review the liability level of the assets you'll "fund" your LLC with. For instance, Dr. Tran calls and has two lots and a rental condo that she wants to put into the right legal structures. The lots have very low liability as they are unoccupied and passive, whereas the condo has a very high level of liability since Dr. Tran could be held liable for any property-related injuries or claims. This applies not just to the tenant, but also those incurred by neighbors, the condo building itself, and the tenant's business guests and invitees. Why? Because the landlord is typically a more collectible defendant than the tenant. As such, we would not advise putting the active liability condo in the same LLC with the safer lots. Similarly, I would not advise putting the lots or the condo in the same LLC as her medical practice or with some other business that has its own general and professional liability, a common issue I find with doctors that have their practice-entity owning both real estate and other valuable practice assets, including high- value equipment that should be segregated out.
What is the equity position or value of each asset?
In the example above let's assume Dr. Tran's lots have $200K in combined equity and the rental condo has only about $50K in equity. As such, I would advise against jeopardizing the $200K in lot equity by placing it them the same LLC with the $50K equity rental. This would subject the low-risk lots to the much higher liability of the rentals (or any other property or business with higher liability than the lots). This consideration should be part of your counsel's review process.
How big should each LLC be?
Finally, I take a look at the net worth and income of the client to help them decide how much each LLC as a "bucket of risk" should be worth. A client with a $5MM+ net worth can take larger educated risks in each LLC, whereas those with lower net worth levels, say under $1MM, have to be more cautious and may want their "buckets" to be smaller to avoid a large loss. This question requires both a very fact specific look at what you can afford to lose and what the expenses of having more LLCs will look like.