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I’m a Canadian Who Plans to Rent My Palm Springs Area Home and I’m Worried About Possible Lawsuits, What is the Best Form of Home Ownership For This Purpose?

Many Canadian snowbirds who purchase Palm Springs area property wish to rent out the property during the time when they can’t use it personally (or maybe rent it out all the time). I think it’s a great idea, primarily because if the snowbird plays his or her cards right, they can receive rental income and possibly owe $0 tax on the income in the United States- a great deal. But if you’re going to let strangers use your property as business guests, in these days of excess lawsuits, you have to protect yourself. Insurance is a must, but insurance will only protect you to a certain point. It is possible a court could award a settlement of a far higher amount than the value of your US house or your insurance. Next, the injured renter wants every penny you have to compensate for the injury. Finally, I am asked from time to time whether a judgment from a California court could ever be enforceable in Canada? The answer is it is possible for a judgment from a California court to be enforceable in Canada. So Canadians, like Americans, need to be careful about how they conduct their US businesses, just like they need to careful about how they conduct their Canadian businesses.

So Let’s Review Our Various Ownership Forms From a Liability Protection Perspective

Ownership as an Individual, as Joint Tenants or Tenants in Common– If you are going to rent out your property to strangers regularly, none of these basic forms of homeownership is likely a wise idea. In each case, the owner can be sued in his or her personal capacity (it’s either one or multiple individuals who own the property), and that means (in a worst case scenario) you could lose all your personal assets.

Ownership as a Partnership– Ownership via a regular partnership is no different from a liability protection perspective as ownership as an individual or joint tenant,etc. The court’s view it as multiple individuals who own a property.

Ownership as a Limited Partnership– Ok, now we’re getting somewhere. Limited partnerships offer limited liability to each partner other than the general partner (and there must be a general partner). Limited liability means in a worst case scenario the limited partner can lose his or her interest in the limited partnership (ie. the value of his or her portion of the house), but that’s it. NO PERSONAL LIABLITY. On the other hand, there has to be a general partner. Being the general partner doesn’t help you at all from a liability protection perspective, so what we see quite a bit is the partnership naming a corporation (which itself has limited liability) to serve as the 1% general partner, while the individuals serve as the 99% owning limited partners. Now nobody’s losing any personal assets in a lawsuit. A couple things to note on limited partnerships: (1) the limited partnership will have to file with the State of California and pay a minimum fee (it’s actually called a tax) of $800 per year to the state. That’s price of limited liability. And (2) if your limited partnership is a Canadian limited partnership, it must register to do business in the state of California and pay a minimum fee of $800 per year- again, that’s the price of limited liability.

US Limited Liability Corporation (LLC)– I would love to recommend to all Canadians to own their California house via a LLC if they planned to rent it out. It offers the fantastic mix of allowing the owners to be taxed as a partners of a partnership and not a corporation (being taxed as a partnership is generally far preferable than being taxed as a corporation), and still offers the liability protection for a regular corporation. Alas, I can’t recommend it, because (at least presently) Canada does not recognize LLC’s as taxed as partnerships. So a Canadian using a LLC risks a double tax on the same income (once in the US as a partnership and once in Canada as a corporation), or at least a timing mismatch in the tax credits. Until Canada recognizes LLC’s as partnerships for tax purposes, Canadians should stay away from the LLC.

US S Corporation (small corporation with special tax rules)– Canadians can’t use these, as the US S corp. rules do not allow for foreign shareholders.

Regular (“C”) Corporation– Canadians can use an American or Canadian corporation to own their US house, again provided they pay the state of California a minimum of $800 a year for liability protection. And they work great for liability protection. But the tax implications of a corporation are probably the least favorable of all choices (to be discussed at a later post).

Trusts– I love trusts for avoiding probate, but most trusts don’t have special liability protection. There are special trusts which do serve this purpose, but the rules about these trusts are restrictive.

Conclusion

As of now, for Canadian owners whose primary concern is liability protection from the rental of their Palm Springs area home, I favor limited partnerships. They give the best mix of liability protection with good tax benefits (to be discussed at a later post). When Canada recognizes the US LLC as taxed as a partnership, the LLC would likely become the favored way for Canadians to own US real property for liability protection purposes.