Personal Real Estate Corporations (PRECs) in Ontario - Incorporation for Realtors
INCORPORATING YOUR REAL ESTATE PRACTICE
Until recently, a real estate salesperson or broker in Ontario was not able to incorporate. As of October 1, 2020, this may no longer be the case. Realtors/real estate agents may be able to incorporate a PREC - Personal Real Estate Corporation.
Currently, there is a consultation period underway that is slated to conclude on September 8, 2020. The Government will then review the comments they receive and move forward with implementing the supporting regulations.
October 2020 Update: the regulation under the Trust in Real Estate Services Act, 2020 (“TRESA”) on personal real estate corporations (“PRECs”) came into force. This regulation will allow Ontario real estate salespeople and brokers to finally operate their business through Personal Real Estate Corporations (PRECs).
It is very important to note that one limitation of a PREC is that it must not trade in anything other than to provide the services of its shareholder (aka the realtor) to the brokerage. That means that a PREC shouldn’t be earning income from other sources (i.e. rental properties, ecommerce sales, etc.).
SHOULD YOU INCORPORATE?
Just because you can doesn't mean you should. Like any other professional, the decision to incorporate will depend on your circumstances.
Generally speaking, if you have income in excess of your personal spending requirements then you should consider incorporating.
Remember, a corporation is a separate legal entity. The funds from commissions would be earned there. A tax plan has to be created for you, the individual realtor, to access those funds. If not done correctly, there could be significant tax implications.
Consider the following example related to commissions earned personally vs. a corporation.
The following calculations:
Assume that ‘Jane’ is a resident of Ontario and only includes the basic personal tax credit
Assume that the corporation is a resident of Ontario and qualifies for the small business tax rate.
Jane’s net income (income after expenses) from her real estate activities on a yearly basis is $500,000. If she does not incorporate, her personal tax would be approximately $229,225, leaving her with $270,775. From the $270,775 remaining, $150,000 would go towards her personal expenditures (mortgage/rent payments, travel and other personal expenses) and the remaining $120,775 would be used for investing.
Alternatively, if Jane decided to incorporate, her corporation would earn the $500,000. The tax payable to the corporation on the $500,000 would be $66,000 (as opposed to the $229,225 above). Jane would pay herself a dividend from the corporation in the amount of $220,000, which would result in an approximate tax of $67,500 personally leaving her with $150,000 for her personal expenditures. In addition, the corporation would also have 214,000 to reinvest ($500,000 less $66,000 in taxes less $220,000 in dividends to Jane).
By leaving the excess income in the company, Jane has effectively deferred personal tax and availed herself to additional cash to reinvest. The illustration below summarizes this example:
You’ll note that being incorporated allows for an extra $95,725 of cash on hand to be invested (214,000 + 2,500 in a corporation) vs. $120,775 personally.
Corporations provide individuals with a mechanism to defer tax. Tax is not avoided or reduced, but rather, dealt with at another time. That is important for two reasons:
Cash now allows you to take advantage of compound interest and time-value-of money (i.e. a dollar today is worth more than a dollar in the future). You can use extra funds now to set you up financially for the future.
Your circumstances may change in the future. It is not uncommon to have a year in which income may not be as high as other years. You can take advantage of those ‘lower’ years, to take dividends from your corporation at a lower tax rate (if income from other sources is lower for example.
OTHER BENEFITS OF INCORPORATING
While tax deferral is one of the main advantages, incorporation may also allow you to split income with other family members. However, due to the recent legislative changes, this requires proper planning. As part of the consultation, it seems like PRECs may include the ability for family members to own non-equity shares (i.e. voting shares). This may provide corporations with the opportunity to split income amongst family members.
Incorporating may also allow you to access the lifetime capital gains exemption.
BOOKKEEPING, COMPLIANCE AND MAINTENANCE
Being a corporation means a lot more administration. A corporation requires a completely different tax return than the typical tax return that an individual realtor would file once a year.
A corporate tax return (also known as a ‘T2’), requires accurate balance sheet and income statement reporting. From our experience, corporate tax returns are open to more scrutiny and review as well. It is imperative that realtors have a robust bookkeeping solution in place to ensure year-end books are accurate, tidy and reconciled. Let us know if you need help with that. For almost a decade we have been setting up companies on cloud-based accounting and bookkeeping tools - a fully digital solution - for the modern business owner (say goodbye to paper and receipts).
There are definitely added costs (legal, accounting, tax) to incorporating, but if done right, the benefits far outweigh the costs.
NEXT STEPS
As we mentioned previously, incorporation is not a default answer and not every individual will be a good candidate for incorporation. We encourage you to speak to a trusted advisor so that an analysis can be made to determine whether it makes sense for you to incorporate a Personal Real Estate Corporation (PREC).
