Should you set up a Personal Real Estate Corporation?
If you are a real estate agent in Ontario, you may be aware that The Government of Ontario introduced new and amended regulations to the Real Estate and Business Brokers Act, 2002 (REBBA) on October 1, 2020. These new regulations have provided opportunities for Ontario real estate agents to incorporate by setting up a Personal Real Estate Corporation (PREC). What do these entail, and should you consider creating one?
As with other corporations, a PREC is considered a separate legal entity from its shareholder(s). But this type of corporation should not be confused with one set up by a real estate investor to own real estate. Only real estate agents and brokers registered with RECO can control a PREC.
As the “controlling registrant” of your personal real estate corporation, you would hold all of the voting shares and make all of the decisions. Non-voting shares could be owned by your family members. The corporation would own the real estate business and you work for it. It would owe and pay taxes and file its own tax returns, as well as HST and payroll submissions.
By incorporating, your business commissions will not be paid to you personally, but to the corporation. For a real estate agent in Ontario, the higher marginal tax rate on $200,000 in earnings is 42.32 per cent. However, since a PREC is eligible for the small business deduction, the combined federal and Ontario corporate tax rate on that same income earned is 11.5 per cent as of 2021. This lower tax rate is available to all Canadian Controlled Private Companies (CCPC’s) on the first $500,000 of active income each year. Incorporating makes the most sense for high income earning agents. Unfortunately, there’s no real advantage for an agent who needs all their earnings for personal use.
One of the biggest benefits of incorporating is being able to defer income tax. When you draw out funds as a salary (or dividends) it becomes personal income and is taxed at the marginal tax rates on your T1 General return. Any excess income can be invested inside the company to earn more investment income and build your retirement portfolio faster.
The after-corporate-tax funds could be saved to eventually hire an assistant to manage the administrative parts of your business. You would also be able to engage in more marketing initiatives to help you grow, as there would be more money immediately available to use in the business. This would allow you to focus on growing your client base, as well as developing and maintaining relationships with referral partners.
Unfortunately, incorporating will not result in any extra deductions from your income other than the corporate tax return and the ability to set up a Healthcare Spending Account (HCSA), which turns your after-tax personal medical expenses into a before-tax business deduction (through your business). You can still deduct the expenses that you have been deducting as sole proprietor. The big advantage of incorporating is in tax deferral, not in tax deductions.
With a PREC you can potentially split your business income for tax benefits by paying dividends to shareholding adult members of your family who work for the business 20 hours or more per week. By paying dividends, you can be flexible in how you dispense income to lower the combined tax load for your family and the business. You can change the amount of dividends you pay and who receives them from year to year.
Lifetime Capital Gains Exemption
A major benefit of incorporation is succession planning. Eligible PREC’s are entitled to Ontario’s cumulative Lifetime Capital Gains Exemption (LCGE). This once in a lifetime tax exemption is based on net gains realized on the sale of Qualified Small Business Corporation (QSBC) shares. This means that you could eventually sell your PREC’s shares and spare you from paying taxes on all or part of the profit you’ll earn. As of 2021 the LCGE is $892,218 but the amount increases annually by 2%. For many small business owners, the LCGE is a tool to help them save for retirement. Be sure to consult with an accountant to ensure your PREC is structured correctly.
What to keep in mind before incorporating
If you are planning on forming a PREC and would like to learn more about PRECs in Ontario, you can do more research on the Ontario Real Estate Association’s website. There you can find a video, a PowerPoint presentation, a Webinar and more. You will need to ensure you meet the criteria and conditions set out in the legislation. There is a $300 fee to file articles of incorporation under the OBCA. Although you can incorporate or register a PREC by yourself through Ownr (and get a 20 per cent discount), you may find the DIY route more difficult after the initial set up.
You’ll have to close down your unincorporated business accounts and open new business accounts for the corporation with the Canada Revenue Agency, change over bank accounts, file a Section 85 rollover to make the transition tax free, transition your accounting system, and learn how to pay yourself from a corporation. Proper planning will be essential to help understand your compliance requirements and the various tax planning opportunities.
Incorporating includes many complexities, including added tax filing requirements and legal documentation that need to be maintained properly. All corporations, including PRECs, are required to file an annual corporate return, which lets the government know that the corporation is still active, and updates any change of address and/or other details. The majority of corporations find it necessary to hire qualified bookkeepers and accountants to stay organized and prepare corporate tax returns for filing.
A trusted Pro can help you register a PREC and walk you through the process, including a tax planning strategy session to discuss all the possibilities. A PREC can’t buy and sell real estate other than to provide the services of its broker or agent to a brokerage. An accountant who provides advisory services can guide you through the formation of a holding company. There are some corporate structures that could be built to include any real estate building purchases.
Is a Personal Real Estate Corporation right for you?
The advantages of forming a PREC can vary depending on your business. You should consider forming a PREC if you are earning more than you need to meet your daily living expenses and you want to take advantage of income tax deferral opportunities. You can split income with family members, save more money for retirement, and maybe even take advantage of the lifetime capital gains exemption. If this sounds like your personal and business situation, consider contacting an accountant who provides advisory services to discuss the details of forming and maintaining a PREC.