Just wondering... Is it legal to buy a small house, put the property in an LLC, and rent it to myself under another LLC?

I am self employed in sales. While a lot of people in my field work out of their house, I chose to rent a small office. Rather than keep paying rent and see the money go no where, what would stop me from buying a very small house and putting the property in an LLC and then renting it to my sales company which is already in an LLC? The "rent" amount would be the mortgage, taxes and utilities. Based on my calculations, the total is only $200 more a month than I am already paying to rent an office. I would be building equity and would have a $200K house paid off in 15 years. I have the cash available for 30% down and would always have the option of living in the house in the future (for 2 years) to avoid the capital gains tax.

The explanation works, but logic does not always dictate what the IRS says is OK. If a reputable accountant ok'd and signed off on the tax return for such a deal, I'd say go for it. Otherwise, I'd look for a more "standard" way to get the same financial advantage from the that real estate investment.

PS - Moving this to Taxes so our resident Taxes expert can pipe in on this.

The LLc is a legal entity, not a tax entity. If the sales LLC is a sole proprietorship, the IRS will NOT consider it a separate tax entity. Hence, you cannot rent to yourself if the LLCs are sole proprietorships.

If one or both are corporations, then it might be possible. However, there are "related party" rules which must be considered.

What are you trying to achieve exactly?

LLC 1 uses building. Pays $200 in rent. Takes deduction.

LLC 2 owns building. Receives $200 in rental income. Takes deduction for interest.

I am trying to build some equity on a investment rather than throwing rent away.

If LLC 1 "rents" for 15 years by working out of the small house, LLC 2 will have a paid off investment property in 15 years (assuming 15 year mortgage). The rent paid would equal that of the mortgage, taxes and utilities. That amount is only $200 more than I am paying now for rent.

After 15 years, I can then sell the LLC 2 property and pay capital gains, or I will sell my principal residence (and pocket that gain) and then live in the LLC 2 house for 2 years and then sell and then that gain is tax free as well.

It's not that simple.

The LLCs would be considered "related parties" by the IRS and you would have to be sure to meet all the myriad rules associated with business transactions between related parties. The gist of those rules is that the two LLCs would have to treat each other as if they were perfect strangers.

For example, you state that the rent would be equal to mortgage, tax and utilities. Is that equal to the "market rate" for the facility? If not, then the IRS would disallow the deduction.

Multiple high-income taxpayers have tried multiple similar schemes to avoid taxes, and the IRS watches out for such schemes. Once they connect the two LLCs as being owned by the same person, you can count on multiple audits.

I suggest you just buy the house and claim the home office deduction.