Incorporation Guide for Realtors: What You Need to Know Abou

The Ontario government recently made an amendment to the Real Estate and Business Brokers Act, allowing real estate agents to incorporate their practices through the use of Personal Real Estate Corporations (PREC). This move brings Ontario on par with other jurisdictions that have similar legislation, including Alberta, British Columbia, Saskatchewan, Manitoba, Quebec, and Nova Scotia. The new rules allowing real estate agents to incorporate gives them the opportunity to reap the benefits of owning a corporation, including a lower tax rate, the opportunity for tax deferral and income splitting, and deductions. If you’re a real estate agent in Ontario and are considering incorporating your practice, this article will cover the basics of what you need to know. What is a Personal Real Estate Corporation (PREC)? PRECs were established to allow real estate agents the same benefits of incorporation that many other professions, like law, engineering and accounting, already have. The corporation is referred to as a personal real estate corporation (PREC) Previously, real estate agents operated as sole proprietors, but the ability to operate as a corporation, which is referred to as a Personal Real Estate Corporation, gives them access to benefits afforded to other corporations. Requirements of PRECs PRECs are incorporated under the Business Corporations Act in Ontario. While they have similar benefits to other corporations, a PREC is subject to a few additional requirements, including that the real estate agent establishing the corporation must: Own all equity and voting shares Be the sole director of the PREC Be the president of the PREC With this style of corporate structure, non-equity shares must be owned by the real estate agent or a family member (this could be done through a trust). There also cannot be any written provision or arrangement that restricts or transfers any part (or all) of the controlling power away from the real estate owner. Can a real estate team form a PREC? Given a PREC must be a single-person corporation, it begs the question: what about real estate teams? Unfortunately, teams cannot get together and form a corporation. Since each PREC has to have a sole real estate agent who owns all the voting shares, each real estate agent on a team must establish their own PREC and cannot own one jointly. What about real estate investors? Real estate investors cannot use a PREC to reap the benefits of incorporation from their real estate investments. A PREC is intended for real estate agents only. Advantages of PRECs Here are the advantages to establishing a PREC. Tax savings Sole proprietors are taxed at a higher rate than corporations because they are taxed as individuals. When a real estate agent opens a PREC, they can take advantage of lower corporate tax rates. The corporate tax rate in Ontario is 11.5 per cent, which is lower than the personal tax rates for individuals who make over $150,000. You also have to factor in federal taxation on top of that, which is 15 per cent for corporations. Federal tax starts at 15 per cent for individuals and goes up to 33 per cent. Typically, real estate agents pay the personal income tax rate on all income earned. If you are a high-earner, this can mean a significant chunk of your income goes towards the government. Income splitting With a PREC, so long as all the voting shares remain with the real estate agent that owns it, family members can be named as share members with non-equity, non-voting shares. This means that dividends can be paid to those family members. Income splitting isn’t available to all real estate agents under the PRECs. This is because of the updated Tax on Split income (TOSI) exception that sees dividends paid to family members as split income and makes it taxable at the top rate. This effectively means income splitting is not the best benefit of a PREC. However, there are two exceptions to the TOSI rules that could make income splitting a benefit to incorporating a real estate practice in Ontario. The exceptions to TOSI rules are: If a real estate agent is over the age of 65 years (regardless of the age of their spouse) If the spouse works over 20 hours per week at the business over the course of a year If you and/or your spouse fall under one of these two exemptions, income splitting could be a major advantage of a PREC. Tax deferral Tax deferrals are not the same as tax savings, but they could save you money in the long run, depending on what you do with your excess revenue. PRECs give real estate agents the ability to defer some income, which would then likely qualify at a lower rate of tax. This can save you money at tax time, but you will eventually have to pay personal tax on it when you start withdrawing from your accumulated corporate savings. This is because after-tax profits are still taxed when they are paid out in dividends. That said, if a realtor can accumulate savings in their PREC, those savings could be used to create additional cash flow. The savings could possibly be invested in stocks, GICs, EFTs, bonds, mutual funds, or they could go full-circle and be invested in real estate. It should be noted that if you spend all the money you earn annually in that same year, you will likely not reap the benefits of the tax deferral advantage. Tax deductions Sole proprietors already benefit from business-related tax deductions, and many of those are the same that corporations benefit from. However, there are two notable exceptions when it comes to tax deductions from having a PREC: Health Spending Account (HSA): With an HSA, a business owner can be reimbursed for personally incurred medical expenses without those business withdrawals being considered taxable income. Corporate paid retirement counselling: Though the purchase of services like financial counselling or tax preparation are usually considered taxable benefits, the exception to the rule is counselling that relates to retirement. With a PREC, real estate agents might be able to fund the service without paying taxes on it. Disadvantages of PRECs There are two significant disadvantages to incorporating your real estate business, and both are related to the cost. Whereas sole proprietorships are inexpensive and easy to set up, there is a little more paperwork and a higher price tag involved with incorporation. Likewise, when operating a PREC, you will probably spend more money annually on bookkeeping costs and accounting fees for the corporate filings. Most times, especially when it comes to higher-earners, the advantages outweigh the disadvantages. However, as mentioned earlier, if you’re a real estate agent who isn’t running a particularly high-earning business, these costs might not be worth incurring. Should I incorporate as a realtor? Incorporation with a PREC has benefits and drawbacks, so it depends on how a real estate agent runs their business, how much money they make, and how they want to go about handling and reporting that money. While PRECs have benefits related to tax deferral, income splitting (if you meet one of the exceptions), tax deductions, and give you access to the corporate tax rate, they also cost more money to start and maintain. Many experts say that the PREC model mostly benefits real estate agents who are in a higher tax bracket (especially if you’re claiming $100,000 or more where your personal tax rate is over 40 per cent). Not only does the PREC give you access to the decreased tax rate, but also tax referral capabilities—both of which can help you accumulate wealth faster. Making the leap from sole proprietorship to a PREC will take extra work, but it might just be the thing that takes your real estate business to the next level.