Real estate investing should be a simple way to build your net worth and achieve financial freedom: you buy a property, put in tenants, enjoy the positive cash flow, and repeat. Seems straightforward, right?
But sometimes it feels more complicated than that. When an investor starts to consider the tax implications, liability, financing, out of province ownership, joint ventures, and more, the simple idea of investing can seem to become far more complicated. One area of complexity is corporate structures, and investors often ask the question “Should I incorporate or not?” Understanding the right corporate structure for you will help to bring clarity to so many of the other seemingly complex aspects of real estate investing.
To help answer the question of whether or not you should incorporate, here are four key themes on the issue shared at REIN’s recent Mastermind Session on Corporate Structures. REIN held a panel discussion with several of our top experts. REIN CEO Patrick Francey was joined by three other real estate investors: accountant George Dube, attorney David Franklin, and mortgage broker Dan Heon.
Note: Investors should be aware that the panelists were speaking generally and that your own unique situation might be different.
Incorporating Versus Not Incorporating
First, investors need to understand that there are benefits and drawbacks of incorporating versus not incorporating. There isn’t one correct corporate structure.
Incorporating provides some asset protection. REIN’s Chairman and Chief Legal Counsel David Franklin explained that when someone sues an investor’s corporation, “the only assets they can go after are the assets of the corporation… not you personally.”
Incorporating also provides some tax advantages in certain situations. However, contrary to popular thinking, incorporating does not necessarily give more tax write-offs. Mortgage broker and REIN Member Dan Heon explained: “Generally speaking, the Income Tax Act says something to the effect of ‘thou shalt deduct whatever you’d like to, provided it was for the purpose of earning an income from a business or property, and provided there’s not an exception.’ In theory, whether I’ve got a corporation or personal ownership, it’s probably an identical situation: if I can deduct it in a corporation, most of the time I can deduct it personally.”
So how do you know which one is right for you? Simple. It starts with planning and a conversation with your team.
Planning With Your Team
Before investors make any hasty decisions about which corporate structure is right for them, they need to make sure they have qualified experts in place and then sit down with those experts and talk about their business goals.
REIN CEO Patrick Francey urged the audience to make sure they have the right people on their team: “If you don’t have an accountant yet, you’re going to need an accountant. If you don’t have a lawyer yet, you’re going to need a lawyer. Your team has to include those people.”
With the right people on the team, investors should then think about what they want to achieve in their investing business in the coming years. Patrick said, “So when you sit down with your accountant and legal team, they would ask you, ‘What’s your vision?’ ‘What do you see yourself doing in in the future?’ Now you may not know the answer to those questions but at least you have some goals and whether it means that you’re going to continue to grow a portfolio.”
George Dube, a long time REIN Member and accountant, agreed and listed some additional questions he would ask: “We like to start with finding out: where are you today? Where would you like to be three, five, ten, twenty years from now? What types of properties are you investing in? What is the nature of your entrance, exit strategies? Are you working with co-investors?”
Although sometimes it might be right for investors to incorporate right away, before they invest in their very first property, the panelists agreed that many investors may find the best solution is to start out simply.
Many investors focus so much on the complications of corporate structures and holding companies that they completely forget to go out and actually invest!
David explained, “I tell people who are just starting, ‘don’t get complicated; don’t look at corporation on day one; go buy your first property.’ I’ve had too many people sitting at my desk and talking about corporate structures, saying, ‘I want a holding company, I want two other companies, I’m putting all this in place.’ And then I ask how many properties they own and they say, ‘Well, none’.”
George added, “If we’re not really sure that real estate’s right for the investor, or if somebody’s going to own just one or two smaller properties, then setting up that corporation is in most cases dramatic overkill, at least from a tax perspective.”
The panel also discussed how financial institutions and the government are potentially tightening up on mixing personal finances with corporate finances. Dan said, “The pendulum has swung so far over now that the government is standing over the banks’ shoulders, saying, ‘Why are you giving personal loans to businesses and why are you mixing the two?’”
So if an investor is going to use their personal finances to invest in their very first properties, a simple solution may be the best. But don’t worry, starting simply doesn’t mean you’re permanently stuck in that approach.
Grow From There
Once you’ve determined that you actually like investing and want to get serious about it, then you might consider incorporating. For some investors, this might happen after the first one or two properties; for other investors, this might not happen until after their sixth or seventh property.
George explained that once an investor decides to become serious and scale their business up, they can always transfer the property into a corporation. However, he cautioned that Canada Revenue Agency might consider this to be the sale of an asset and the transfer could initiate a tax requirement but George suggested that there were strategies to address this, although not all accountants or lawyers will be aware of those strategies or understand them.
Patrick emphasized the importance of finding experts who are experienced in real estate investing and can help investors because they understand them: “We have to accept the fact that real estate investing may appear to others – like bankers, accountants, realtors – as complex and really intimidating and they don’t have answers. So when they don’t have an answer to a question, they say, ‘it can’t be done.’ So I’m going to stress: if you’re a real estate investor, make sure your accountant, your mortgage broker, your REALTOR® [and other experts on your team] are familiar with real estate investing. Otherwise you’re talking a completely different language than they are.”
Patrick also pointed out that investors should be prepared to work with their team of experts to create a proper corporate structure rather than just starting one online for the bare minimum price: “We sometimes get stuck in the entrepreneurial spirit of being frugal and saving money, [so an investor will] just go online and do it themselves. I’m often shocked that that still occurs; it should not happen. Do not do that. It is absolutely critical that your corporate structure is set up properly given what you’re doing in the world of investing in real estate.”
As you get more serious about investing, you can create the right corporate structure – which could include one corporation, several corporations, trusts, and more. But don’t let the complexity scare you away from investing today.
So what should you do first? Make sure you have a team of qualified experts, including a lawyer and accountant, and make sure they are experienced with real estate investing. And most important, just get started. Don’t worry about the complexity of corporate structures if that is preventing you from doing your first deal; get started and work with your team of experts to identify the right corporate structure for your business goals.
Real estate investing should be simple but sometimes the aspects of taxation, liability, financing, and corporate structures can make it appear more complicated. Fortunately, as the panel pointed out, you can start simply and then rely on your team to help you navigate your way through the right corporate structure for you.