Transcription
Are you house hacking? Maybe you're renting out an ADU on your property. Or maybe it's a tiny home. Whatever it is.
In this video, I'm going to show you how to go about protecting these assets from your potential creditors, which would be one of the tenants stayed on your property. All right. Let's get started.
Okay, so here's the deal. When you're renting out your personal residence, your house hacking it, rent out some rooms. Or maybe it's a scenario where you have an ADU above a garage or a small little home on the backside of your property, and you're generating some extra income from renting out those units. The issue that comes up from a lot of investors is, how do I protect this? Because it's on one tax parcel number and this is my personal residence. And I understand that I cannot use some of the general protection measures that we would like to do when it comes to protecting these assets, because it is our personal residence and it's one tax parcel number.
Well, what I want to go through is some of that, one of the strategies that I recently worked through with a potential client and how we could do that in this scenario. This individual was actually concerned about protecting an ADU. So they had their house, of course, right here, their personal residence. And then they had a garage right here, which above the garage sat in ADU. And this is what they wanted to rent out on a short-term rental basis. Now, the issue for them is that all of this was on one tax parcel number. And more importantly, what they were concerned about is the homestead exemption that they had. They didn't want to jeopardize or homestead exemption. So basically you're saying this, hey, I don't want to lose anything. What can I do to protect myself and maintain all the benefits of owning property in this particular state?
Because at first blush, you might think, well, it's simple. Put your property into a limited liability company. Well, the problem is, is if you place this property into an LLC and you have a homestead exemption on in that particular state that is unlimited or it's a large homestead exemption, then you risk jeopardizing your homestead exemption. So if you got sued, it wouldn't protect you any longer, because now you've taken that property, you've placed it into a limited liability company.
So the first thing we have to ask ourselves, number one, when we're thinking about structuring here is what does our homestead okay, homestead exemption amount. All right. So if your homestead exemption amount in your particular state where you reside and you're renting out a portion of your property, the ADU or the tiny house, if it's if it's a good size, homestead exemption, and we're not typically going to use a limited liability for that structure. So if you have a high homestead exemption, then we're probably going to look at trusts, okay. To put your property into a trust. And so in this particular example when working with this individual, what we decided on is that we would use a residence trust. So we put their property into a residence trust get the property out of their name, but set it up in a trust so that we can still maintain the unlimited or the maximum homestead protection that is provided under that state law. So by moving it in there, we're not jeopardizing that because it's not going into a limited liability company.
And once it's inside of the the trust, we've done this now for anonymity purposes. We have it built inside of there. We're then going to have to decide what do we do about the equity. Because there is equity in the property that, you know, may not be covered fully by that homestead exemption. And so we want to protect that equity from a potential creditor or word or what we'd like to do is make them think that there's nothing worth going after, because maybe you have somebody stay in your ADU and, they trip and fall walking down the stairs, and they just skinned a knee, but they look around, they said, gosh, this guy lives on the water. He must have a lot of assets. They would be someone I would want to sue. So then they bring a claim against you because they have this perception that you have a lot of wealth. And if they did an asset search, maybe they find you have $2 million in equity in your property. It doesn't matter if it's 200 or it's 2 million, it's it's wealth that is potentially at risk.
So the next thing I explained to the individual, I said, listen, you've got a homestead exemption. And to them it was high. it was about $500,000. So you have this $500,000 homestead exemption there. that would be protected on this, this particular asset. But we still have equity above that of 750. Okay. So we have more equity there. We need to protect it. So the way we're going to protect this equity here is we can't put the property into an LLC. We're instead what we're going to do is we're going to create a Wyoming LLC over here. We set up a Wyoming LLC. And what I explained to them, as I said, you know, since you're renting out your property and you have to hold it in a trust, so it does leave you a bit exposed. What we need to do is make sure all your other assets are protected. So if you do get sued that they cannot come and just have a field day and tear through all of your investment. So let's move your investments into a protected state. So your savings I want to get out of your name, your brokerage account. So your, your, investments, syndications all that stuff. So we put all those safe assets, as I referred them over here into this Wyoming LLC. Now, they didn't have any rental real estate, so we weren't focused on that because this was their only rental property. This is their first start into renting out real estate. So I was really focused on protecting the the liquid side of their investing.
Now once this was set up, we have the assets inside of the Wyoming LLC. What we're going to do is we want to make this asset over here, the house that this equity I want to make it disappear. What do I mean by disappears? I want it to to give the impression, the illusion that there is no equity there, that if you wanted to come after me, you're better off just taking my policy limits, because you're not going to get anything if you go after this property. So how do we do that? Well, we have to attack the equity. We have to make the equity disappear. And so the way we accomplish that is we enter into a line of credit agreement. We had the individual entered a line of credit agreement with their Wyoming LLC for $950,000. That was it was more than what what's there? And a lot of times what I'll do is I'll do an odd amount because I don't like to use just exactly even amounts. I like to use some odd 950,000 and, $465. Okay. So so it gives the impression that you're dealing with with a lender and you took out an equity loan against your property. So now when I enter into this loan agreement, I will then provide collateral for the loan. So I don't have the money I don't I don't have this this money sitting in the LLC. That does not matter. This is a friendly lean meaning you're friends with yourself. So you say you're willing to do this deal. You'll then file a deed of trust against your property. So we're going to file a deed of trust, against the property. Then encumbering it. So there's a first with, I don't know, Wells Fargo. And then there's a second with this LLC over here. Fairview financing LLC. I know I can't probably can't read that, but I'm explaining what it is. Fairview financing, LLC, whatever name it is, so that when somebody looks if it somebody was injured on that property, they're going to see that and say, well, hey, there's no equity here. I'll just take the policy limits and I go away.
So what we're, we're we're operating on two fronts here. We want to get the property out of your name, give you some anonymity of ownership, because if you are renting it out and you're seeking anonymity of ownership, you don't necessarily want any tenant knowing that if you're living over here in this house, that that is your property. I like to let them think that, hey, you're the renter. Don't tell them you own the property, right? You could just say you're you're renting that property. And better yet, what I would also recommend you do in this scenario is I explain to this individual is create a management LLC, okay management LLC to manage the property and the the short-term rental ADU. So that is the entity that's going to deal with the the renters, not you individually. So there's so there's some different things going on here in this structure. And the idea is it's like, you know, how can we protect this property by recognizing the fact that putting it directly into an LLC isn't going to give us the, the, the benefit that we are ultimately seeking, which is maintaining our homestead exemption.
Now, if you're watching this video right now, you're saying, well, I don't have a big homestead exemption and I have an ADU or I'm going to get involved in house hacking, what should I be doing? Well, in that scenario, what you could do instead is, hey, just set up a Wyoming LLC. Now I'm going to say Wyoming, here because I like the anonymity of it. I would set up a Wyoming limited liability company, okay, for for anonymity purposes. And you want to make this Wyoming LLC disregarded. Disregarded. So you have the property held by Wyoming LLC that is disregarded. That's key. It's got to be disregarded because not all now we're not focused on the homestead, but I want to maintain the 121 capital gain exclusion when we sell the property. You see there's lots of different things that can come into play here when we're protecting our personal residence that we don't want to jeopardize because home ownership, personal residence, it is a tax-favored status under the Internal Revenue Code. The Internal Revenue Code encourages you to have a personal residence. They want you to buy one. So we have to maintain that. So that's why it's going to be a disregarded LLC. So again, all we're doing with the low state where you have a low homestead exemption, we're just swapping out the residence trust for a while. I mean disregarded LLC, but everything else would stay the same. Take the equity. This is a key component to that setting up the Wyoming LLC. So they're separate LLCs. They're not the same. I get that question a lot. People think, well, this LLC is the same one as this one. No they're not, because otherwise this strategy doesn't apply because you can't loan money to yourself. Right. Red Bunny LLC loans money to Red Bunny LLC. This doesn't work that way. And then I would definitely run my management LLC down here and and go through that same process again.
So when it comes to protecting these assets, obviously it is a little more nuanced than than normal. And we can't use the same structures per se that we would use it for protecting investment real estate. And so we have to get more creative here. And let's face it, this type of rental situation, it comes with risk. Because the more people if you're doing on a short-term rental basis, you know, you have a lot more people running through there. There could be a there was a lot more tenants would just increases the likelihood that you might end up in a lawsuit. I recently read about a case out of Florida. I believe it was where a toddler reached under a washroom or dishwasher and found a battery, choked and died on the battery, actually burned her esophagus. And now they're suing the landlord for millions of dollars for it, for this wrongful death cases like that. I mean, they're heartbreaking, but they do happen. And what we want to make sure is that we're taking every step possible to minimize our overall risk exposure.
If you like this video, be sure to hit the like button. And if you know other people that are engaging in short-term rentals, of ADU properties or tiny homes on their on their personal residence, be sure to share this video with them, because I'm sure they can get the same benefit of watching as you did. Take care.