Don't trust a land trust unless you must

It must be the most common question I get from real estate investors after I explore with them the PREMES: Professional Real Estate Multiple Entity Strategy. "But where do I put my trusts? I have all my properties in land trusts."

A land trust is the "poor" person's asset protection or the paranoid person's anonymity confusion. In fact, I can think of only reason to use land trusts and I'll explore that at the end of this post.

First let me use an analogy to compare a land trust v a chartered corporation or limited partnership.

A land trust is the asset protection equivalence of a fire wall. A business entity, like a corporation, limited liability company (LLC) or limited partnership (LP); is much more like a back up or restore disk.

Basically, a fire wall will prevent the casual onlooker from being able to damage your files. However, a skilled and persistent hacker will get past it. (Ironically, one of my sites was hacked this weekend by a hacker!) And once behind the firewall, all the files are at risk. It's open season when you get over the wall.

That's how it is with a land trust. The land trust is a deterrent to the casual litigant. They don't know who owns it and this is supposed to deter them from suing. However, let's really think about this.

1) Who owns it isn't important. Only who to name in the suit. And that is known by any first year law school student. The land trust trustee.

2) Who would have a land trust? The average Joe? Or would it be reserved for the kind of person seeking to remain anonymous? You got it, a land trust can give the sue-happy litigant just the kind of adrenalin rush needed to file a suit. After all, they might consider the owner to be a "trust fund baby" (Although land trusts are very dissimilar.)

3) To determine the owner and destroy the anonymity is very simple. You just depose the trustee or get a judge to order it. Few people are going to go to jail or pay fines for contempt because he/she refuses to give you name over as the beneficiary of the trust.

What most ironic is most of the alleged benefits of a land trust are actually earned by using a business entity for your asset protection.

1) Since the business entity is the title holder of the real estate property, who owns it? Not you, the entity does. But someone can just look up the public record registering the entity, right?

2) In the case of limited partnerships used correctly for real estate investing, you as an individual will show up no where on public records even if you receive the benefits of 99% ownership of the property! The entity that shows ups have very little ownership interest, hardly enough to care about. And, if you personally show up on any records at that level, and it's possible to avoid it, there's no reason to assume because you're a president or manager, that you're the "owner" of the 99%.

3) There needn't be a "someone else" who can be involved in the case to say things against your interest. This is one of the most overlooked advantages of business entities over land trusts. A land trust requires a trustee. The more legitimate the trustee, the more likely it will cost you more money to have this asset protection the more active you are in your business. However, with a corporation, you're the deal and the decision maker. You still keep from "owning the property" but you don't have to get assistance from someone else to get financing, sell, or the like.

And ultimately, returning to our analogy. If there's a problem with an entity and you've used equity stripping (see a future blog post), you have nothing to lose. If a lawsuit even comes your way, bankrupt the company and start a new one (or activate one you have waiting in the wings). It's like using the restore disk to bring yourself back to normal prior to the "attack" of the plaintiff.

Now, while you're seeing clearly the advantages of a business entity over a land trust, even for holding title to real estate investment properties; let's return to the one way in which you may want to use land trusts.

Land trusts facilitate the transfer of real estate by purchasing "subject to" the underlying financing which protects the property from the "seasoning" challenges faced by real estate quick turners. (People who buy real estate low from motivated sellers and sell high(er) to motivated buyers.)

This is the single reason I would use one and only when my intent is to buy and sell the property quickly.