UPDATE on Ontario Personal Real Estate Corporations (PREC):
As of October 1, 2020, Personal Real Estate Corporations (PREC) have been permitted in Ontario. This is fantastic news for Ontario Realtors as it will allow those in higher tax bracket to defer (and potentially save) on taxes.
Full details on PRECs are found on the Ontario Regulation here, but let’s go over the criteria below.
Criteria for Personal Real Estate Corporations (PREC)
- The corporation is incorporated or continued under the Business Corporations Act.
- All of the equity shares of the corporation are legally and beneficially owned, directly or indirectly, by the controlling shareholder.
- The sole director of the corporation is the controlling shareholders.
- The president, being the sole officer of the corporation, is the controlling shareholder.
- Each non-equity share of the corporation is,
- legally and beneficially owned, directly or indirectly, by the controlling shareholder,
- legally and beneficially owned, directly or indirectly, by a family member of the controlling shareholder, or
- owned legally by one or more individuals, as trustees, in trust for one or more children of the controlling shareholder who are minors, as beneficiaries.
- There is no written provision by agreement or otherwise or arrangement that restricts or transfers in whole or in part the powers of the sole director to manage or supervise the management of the business and affairs of the corporation.
What are Personal Real Estate Corporations (PREC)?
Personal real estate corporations are now a reality in Ontario after the Government of Ontario’s introduction of new legislation (Trust in Real Estate Services Act (TRESA)) that will modernize the old Real Estate and Business Brokers Act, 2002 (REBBA). Essentially, this means that individual Ontario real estate agents will now be able to incorporate their business. This would allow them to offer more services to clients, invest in new technology and create jobs in their community. More importantly, this opens up avenues for better tax planning for Ontario realtors, which we will discuss below.
What Do Personal Real Estate Corporations Mean for Taxes?
Does it mean Real estate professionals will pay less taxes with Personal Real Estate Corporations in Ontario? Or would they have undue advantage after incorporating? The answer is NO. However, a Corporation definitely opens up some avenues for better tax planning in the long-term. Our Canadian tax system is fundamentally based on the concept of ‘integration’. In simple terms, integration means that everyone should pay the same amount of taxes whether you are incorporated, or you are an individual filer. Does integration work perfectly in the real world? A perfect integration does not exist.
Currently, real estate agents report their income as sole proprietorship. This means that you an agent will have to pay taxes on the entire amount you earned minus your applicable deductions in that one year. However, with this change , you as an agent will be able to claim all the allowable deductions under your corporation. But, you will have the opportunity to defer your income taxes by not withdrawing all your profit out of the corporation in the same year. Income taxes will be payable at corporation level, not individual level. You will only pay personal taxes to the extent you withdraw money from the corporation.
Under the current system, if a real estate agent earns $250,000 in commissions, they have no choice but to pay income taxes on the entire amount minus applicable deductions. Under the proposed Personal Real Estate Corporation structure, if an Ontario realtor makes $250,000 in commission in any given year, they will first pay corporate taxes at the corporation level, and then personal taxes at their personal tax rate only to the extent that they withdraw funds out of the corporation for personal use.
As such, for high income earners who do not need their entire earnings immediately, there is an opportunity to defer personal income, and therefore personal taxes, into the future. This would be especially beneficial to real estate agents whose earnings can fluctuate significantly year over year depending on the timing of their closings.
Should a Real Estate Agent Incorporate? What are the Advantages and Disadvantages?
Incorporating your real estate business has its advantages and disadvantages summarized below:
Advantages of incorporation:
- Lower corporate tax rate of 12.20% plus the agent’s personal taxes (depending on how much is withdrawn from the corporation) versus an average of 30% to 40% personal taxes on entire earnings.
- Tax deferral opportunities – This allows you to grow money on tax deferral basis through various investment vehicles.
- Income splitting between among spouse. Of course, be aware of TOSI rules (Tax on split income)
Disadvantages of incorporation are usually compliance related costs:
- Incorporation charges – This could range from $1,000 to $2,500.
- Higher accounting fees – You might be paying higher fee for corporate filing.
- Stricter compliance – You will be required to submit T4 if you decide to withdraw money through payroll for yourself and spouse. Also, you must make remittance payment on monthly basis to stay in compliance with CRA. Check out our related blog on CRA compliance and deadlines.
- Primarily for high income agents – No advantage if an agent needs all their earnings for personal use – that is, the advantages only exist for high income earning agents who can afford to leave some earnings in the corporation and pay lower tax rate.
Advantages of incorporation outweigh the disadvantages despite the higher compliance and accounting cost.
Please note that by incorporating, your practice will not result in any additional deductions from your income. You can still deduct the expenses that you have been deducting as sole proprietor. The biggest advantage of incorporating is in tax deferral, not in tax deductions.
In summary, this is a progressive step by Ontario Government to bring fairness among all professionals. Real estate agents who are high income earners could see significant tax impact from this change. However, just because you can incorporate does not mean you should. There should be a quantitative and qualitative analysis performed before you make this decision.
Got questions about your PREC? Reach out to us at firstname.lastname@example.org or give us a call at 416-422-0300! We’d be happy a complimentary initial discussion.