Corporation Structure, Commercial Rates & Taxation

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Corporation Structure, Commercial Rates & Taxation

Andrew Pettitt
Canada · Member since 2019 · 9 posts · 1 vote

I've been researching how I should structure my real estate investments. I currently have all my assets under my personal name. As I grow my portfolio, I want to reduce risk, taxation and free up my personal cash vested. The best way to do that seems to be setting up an incorporated company. I'm interested in hearing other recommendations or thoughts on the below structure.  

Here is what I'm contemplating..

Corporation A - Holding Company (Passive Corporation) 

Each property under this corporation requires its own, separate corporation. This limits liability - For example, if you had someone sue you due to an incident/injury at Property #1, they cannot come after the value of property #2 as it is in a separate corporation.  As you purchase new properties, keep adding them into new corporations under the main, passive holding corporation. 

  • Corporation A.1 - Property #1
  • Corporation A.2 - Property #2
  • Corporation A.3 - Property #3

Corporation B - Property Management Company (Active Corporation)

This corporation maintains your properties and provides invoices to each Corporation/Property for services. Usually 10% of the monthly rent. You can also look to pay the corporation in dividends. Dividends paid between connected corporations are often non-taxable. Corporations are connected when one corporation owns shares, of the other, that represent more than 10% of the votes and more than 10% of the corporation’s value.

To set this up, I am assuming mortgages need to change from residential mortgages into commercial mortgages. This will increase mortgage rates (usually around 2%) changing the profitability of each property. If you've done this, I'd love to hear the details of your experience. I've read that some lenders will take 10% down payments. If acquired, this could free up 10% of your cash as Canadian real estate requires a 20% down payment on secondary residential mortgages. Who doesn't want 10% of their investments back into their pocket? 

Taxation

It seems the best way in terms of taxation is through dividends otherwise there is a 38% (active) and 50% (passive) taxation rate on corporations in Canada. Is there some sort of arbitrage that can provide a financial benefit through receiving 100% dividend income? The rate varies based on a person's overall taxation but its an average of around 29%.

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  • Roy N.Pro Member
    Rental Property Investor · Fredericton, New Brunswick · Member since 2013 · 7k+ posts · 4k+ votes
    6y

    @Andrew Pettitt

    My first advice would be to set your objectives down (near-, mid- & long-term) in bullet form and find yourself an accountant to lay out a plan to meet your current and future needs while mitigating taxable events along the way.

    Holding your properties in your personal name in the beginning is usually the best approach - you can deduct expenses against your income (even income from other sources).   If you are the only owner of the properties, then when/if the time comes you should be able to roll them into a corporation under a Section 85 election and not incur a taxable event (you will want to plan for this with your accountant).

    Even when you do place your holdings under a corporation, you will not want to place individual properties into separate companies; the accounting and reporting overhead would be expensive. That said, if a property were of sufficient size (i.e. a 100 unit apartment complex or shopping mall) then it might well make sense to incorporate a company for the asset.

    Another motivation to keep properties in your name is taxation.   A corporation whose primary revenue is from passive sources (rental properties, stocks, other investment instruments), is not eligible for the small corporation tax reduction and will pay income tax at the full corporate rate.  Unless you are personally in one of the top tax brackets, it will be more beneficial to have your rental income taxed in your hands.

    After you have moved properties into a holding company and have reached a sufficient size, there will be benefits to having those properties managed by a separate management company - which would be considered as an active corporation and be eligible for the small business tax reduction/rate. 

    The taxation rules around dividends between related corporations is another topic which you should review with your accountant as there are a variety of conditions that impact taxation.

    Finally, my last bit of advice would be the same as my first ... set your objectives down (near-, mid- & long-term) in bullet form and find yourself an accountant to lay out a plan to meet your current and future needs while mitigating taxable events along the way.

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