Tax Consequences for Transferring Property to a Limited Liability Company

Limited liability companies, or LLCs, offer advantages over sole proprietorships and S corporations as vehicles for business and investment. Their best-known advantage is that the owner of an LLC has limited liability for its debts and adverse court judgments. Some thought, however, needs to go into a contemplated transfer of personal assets to an LLC because of tax and other consequences. Due to the fact that an LLC itself does not directly pay taxes, the tax burden accrued through these transfers could pass directly to the LLC members.

TL;DR (Too Long; Didn't Read)

Because an LLC does not pay taxes directly, it could pass a variety of taxes directly to the LLC members themselves.

Delayed Tax Consequences

You can transfer your personal property -- rental properties, for example -- into an LLC without immediate tax consequences. However, keep in mind that just because tax consequences aren't immediate, it doesn't mean they won't arise later. The tax complications and implications generally require that you obtain expert tax advice before making the transfer.

If the property being transferred is mortgaged, assuming your lenders will allow it, you will also need to periodically readjust the basis of ownership by the LLC itself and of the participants' individual ownership shares as the loan is paid off.

Tax Consequences for LLC Participants

Transferring property to an LLC can have unforeseen consequences. If you hold a piece of property you had earlier purchased for $200,000 and the market value at the point of transfer is $400,000, that's the valuation at the moment of transfer, not the tax basis. The property's basis doesn't magically reboot when you make the transfer.

Assuming you haven't paid taxes on the gain -- and only exceptional circumstances would make that likely -- along with the property, you've also transferred a tax liability for the $200,000 property gain to the LLC.

This isn't a problem if you're the only person with an interest in the LLC. If other stakeholders are involved, you'll need to consult them, and you'll probably need legal advice about making the terms of the transfer equitable.

Tax Basis Overhangs

Sometimes, evolving circumstances can make a well-intentioned property transfer inequitable. For example, you may transfer an apartment property worth $800,000 with an accumulated taxable gain of $400,000. You accept legal responsibility for the $400,000 tax gain. The property runs into trouble and the LLC sells it for $700,000 -- a $100,000 loss.

As far as the Internal Revenue Service is concerned, however, the property has a taxable gain of $300,000, which the LLC must pay. If you're no longer able to pay the taxes on the gain, the other LLC participants must pay it.

Transfer Easier Said Than Done

Transferring property to an LLC is relatively simple: You record the deed showing the LLC as the new title holder. This is the easy part. The transfer can trigger an acceleration clause in the mortgage agreement, making the entire amount outstanding immediately due in full. If the mortgage agreement doesn't have an acceleration clause, you still can't change the ownership of mortgaged property without the lender's consent.

When you attempt to transfer a property's ownership into a legal entity whereby the mortgage holder no longer has recourse to the borrowers' assets beyond assets in the LLC -- the often touted advantage of an LLC -- the lender, understandably, may balk.

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