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What Agents Should Know About Ontario’s Personal Real Estate Corporation

December 22, 2020

Recently, real estate agents across Ontario were finally able to incorporate their business through a Personal Real Estate Corporation (PREC). Before, you could only run as a sole proprietor, which meant paying taxes on all your revenues minus any expenses. But a PREC allows you to keep money within the corporation to defer your taxes and leverage income splitting.

The PREC helps bring real estate agents in line with other professionals, such as doctors, lawyers, and chiropractors, who can already create professional corporations. The primary advantage of the PREC is to pay less tax. But incorporating might not be suitable for everyone. Generally, a PREC benefits older and higher-earning agents who don’t need all their income for day-to-day expenses.

This article explains PRECs in greater detail. Specifically, it reviews the advantages and disadvantages of the new tool and whether a PREC is right for you.

Advantages of an Ontario Personal Real Estate Corporation

A PREC allows you to defer tax and use income splitting to lower your household’s overall tax liability.

Once you incorporate, any money you earn through commissions is paid from your brokerage to your personal corporation. Instead of being taxed at your personal tax rate, your business’ profits are taxed at a corporate tax rate, which is usually much lower (12.2% for 2020). You aren’t required to pay personal tax until you withdraw the retained earnings from your PREC. So that you’re not taxed twice, you may be eligible for a tax refund for what the corporation already paid — i.e., that 12.2%.

Tax Deferral

This might sound redundant. In theory, you essentially pay the same amount of tax regardless of whether you have a PREC or not. Except, paying taxes with a PREC sounds a lot more complicated. But the magic of a PREC is you choose when you withdraw your earnings. So, if you don’t need all the profits you’ve earned for the year, you can withdraw less and pay less tax.

The remaining earnings in the corporation can be invested and grown over time. It’s common for individuals with professional corporations to use it to increase their retirement savings. If you’re continually leaving money in your PREC, you can inevitably withdraw it once you retire while paying lower taxes during your working years.

Income Splitting

The second benefit is income splitting to reduce your tax liabilities further. Income splitting is a strategy where you pay a salary to a family member in a lower tax bracket. As a result, your household can withdraw more money from your PREC while paying less tax than if you withdrew it all yourself.

For example, if you’re in the 33% tax bracket and your partner is in the 20.5% tax bracket, you can effectively shift some of your income to them and receive part of your income at a 20.5% tax rate, as opposed to receiving the entirety of it at the 33% tax rate. However, there are complicated rules on tax on split income (TOSI), and it’s best to speak with an accountant or tax lawyer first.

Disadvantages of an Ontario Personal Real Estate Corporation

As amazing as a PREC may seem, there are disadvantages. A PREC is not suited for every real estate agent, as incorporation makes everything a lot more complicated.

Additional Administration and Costs

If you incorporate, you now must deal with corporate taxes in addition to personal ones. There are also more tax documents that you now need to submit to the Canada Revenue Agency. These complications mean more work for not only you but also your accountant, who is more than happy to help, as long as you pay a higher accounting fee.

Further, setting up a PREC may cost $1,000 – $2,000. There is plenty of paperwork to go through and lawyers to contact when it comes to incorporation. Understanding the laws around tax deferrals and income splitting may also require a tax lawyer, who often charges a premium over the neighbourhood real estate-corporate law firms.

On-going minute book maintenance is also required. And this is commonly handled by lawyers. This, again, adds more legal fees to your expense list. If your minute books aren’t maintained, it could lead to issues with the Canada Revenue Agency.

Loss Deductions

When you run a sole proprietorship, your losses as a real estate agent, while uncommon, are deductible against other personal incomes. So, a part-time real estate agent who may have spent a pretty penny on marketing only to not close a single lead may end up with a loss that they can deduct against other incomes. However, in a PREC, the losses belong to the PREC and are generally only deductible against the profits of the PREC and not other personal incomes.

Does an Ontario Personal Real Estate Corporation Benefit You?

Whether you should use a PREC depends on your business, family, and personal situation. Generally, agents whose earnings outpace their day-to-day expenses, who have a partner or children in a lower tax bracket, and who want to save for retirement are ideal candidates for a PREC.

In this situation, you could retain earnings in your PREC and withdraw it during retirement. You effectively average your income over a greater number of years and thus pay less personal tax over the long run. You can also maintain your income in years where your business is less active by dipping into your PREC’s retained earnings.

Having household members that are earning less than you is also a reason to use a PREC. This allows you to leverage income splitting and provides your household with more after-tax dollars.

The PREC is best for high-earning agents who can take advantage of the tax benefits incorporation has to offer. However, you should do a thorough analysis to see if the new Ontario PREC inevitably helps or hinders you. Speaking with both your accountant and lawyer can help you get an understanding of the pros and cons.

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