When Is It a Good Time to Incorporate in Real Estate?

Many real estate investors wonder when it is worth incorporating in real estate. Here are the main benefits and downsides of incorporating in real estate. Of course each situation is different and the advice of a tax professional is crucial.

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Is There a Way to Know When Incorporating in Real Estate is a Good Decision?

Unfortunately, incorporating in real estate cannot be justified by reaching "X" number of properties or exceeding "Y" value in terms of assets.

As mentioned in Alexandre Blouin's blog "Immeubles commerciaux: devrait-on s'incorporer?", the tax rate of a real estate asset in a company does not provide any tax advantage, so the decision to incorporate should be made according to the financial, legal and succession goals. The elements to consider are: asset protection, growth goals and transmission of real estate assets to future generations.

Benefits of Incorporating in Real Estate

1- It Protects Your Assets by Limiting Your Liability

One of the main benefits of incorporating in real estate is the protection of assets. In fact, incorporation is ideal for real estate projects with a high degree of risk (e.g., new construction). The corporation is considered a legal person, distinct from its shareholders, and is responsible for its financial obligations. In other words, the liability of its owners cannot exceed their initial capital outlay, except in certain exceptional cases (e.g., granting a guarantee to the bank or fraud).

2-  It Allows You to Reach Your Growth Goals

Incorporation would also be beneficial to any investor who wishes to increase the size of its real estate holdings. In this context, incorporation would create several tax opportunities. For example, capital cost allowance allows you to create or increase tax losses. In the case of the sale of a building, you could use your losses against the taxable gain and the recapture of depreciation realized and postpone the tax payable. This would allow you to protect your cash flow and maximize your investments.

On the other hand, for an individual, a tax loss cannot be created or increased by depreciation, so in some ways, redevelopment planning for park assets is limited.

In a corporation, it is appropriate to use the losses created by capital cost allowance against short-term rental income. In general, short-term rental activities such as Airbnb generate more income than expenses. It is therefore possible to use the tax losses created by long-term rental properties against short-term rental income.

3- Incorporation Allows Dividends to be Transferred Between Companies

One of the main reasons for incorporating a company in real estate is that it is possible to use "raw money" to invest. If the money comes from an active company that generates income (for example, an incorporated plumber), it is possible to transfer dividends from one company to another without paying taxes on the transfer. There is no "personal" outflow of money, so there is no personal tax to pay on these amounts. This is why it is called "raw money" investment.

4- It facilitate the Transfer to Future Generations

Another reason why it may be beneficial to incorporate your real estate is in the context of estate planning.

It is possible to freeze the value of a property indirectly through the incorporation. The value of the shares would be "frozen" and the capital gain would be transferred to the person to whom you made the freeze for, through a new class of shares. This would allow you to integrate your successors into the company. The beneficiaries of the freeze would be able to redeem your frozen shares, over the years, and allow you to recover your initial investment and the capital gain at the time of the freeze.

This buyback over time also allows you to postpone the tax over several years. In fact, compared to selling the property directly, the gradual repurchase of the shares will allow you to spread the impact over time that would otherwise have been imposed in the year of the sale.

What Are the Downsides of Incorporating in Real Estate?

There are downsides to incorporation like legal and tax costs associated with incorporation. Also, you would have to comply every year, which would incur accounting fees.

Of course, this is an additional cost and additional fees, so make sure you are in a good position with a tax professional before incorporating. Don't hesitate to contact a member of our team!

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