PRECs: Personal Real Estate Corporations (PRECs) now available in Ontario
This article was originally published by The Lawyer's Daily (www.thelawyersdaily.ca), a division of LexisNexis Canada.
The Ontario Government has introduced new and amended regulations to the Real Estate and Business Brokers Act, 2002, S.O. 2002 c. 30, Sched. C (“REBBA”). As of October 1, 2020, Ontario realtors can now incorporate through their own Personal Real Estate Corporation (PREC). A PREC is a corporation that a realtor may establish which allows the corporation to directly receive remuneration earned by the registrant. In effect, this new development allows for, but does not require, individual realtors in Ontario to incorporate their business, putting realtors on an equal footing with lawyers, accountants, doctors, and other professionals.
Ontario has lagged behind other provinces including British Columbia, Alberta, Saskatchewan, Manitoba, Quebec, and Nova Scotia which already permit realtors to establish professional corporations.
According to the regulation, the criteria for a PREC include the following:
- The corporation is incorporated or continued under the Business Corporations Act;
- All of the equity shares* of the corporation are legally and beneficially owned, directly or indirectly, by the controlling shareholder**;
- The sole director of the corporation is the controlling shareholder;
- The president, being the sole officer of the corporation, is the controlling shareholder;
- Each non-equity share of the corporation is:
- legally and beneficially owned, directly or indirectly, by the controlling shareholder;
- legally and beneficially owned, directly or indirectly, by a family member of the controlling shareholder; or
- owned legally by one or more individuals, as trustees, in trust for one or more children of the controlling shareholder who are minors, as beneficiaries;
- There is no written provision by agreement or otherwise or arrangement that restricts or transfers in whole or in part the powers of the sole director to manage or supervise the management of the business and affairs of the corporation.
* “equity share” is a voting share as defined in subsection 1(1) of the REBBA.
** “controlling shareholder” means, in relation to a personal real estate corporation, the broker or salesperson who owns all the equity shares of the personal real estate corporation.
For many realtors, the legislative change is a welcome development. Before the introduction of PRECs, realtors reported their income as a sole proprietorship, meaning taxes are paid personally on the net income earned. Operating through a PREC does not change the fact that tax must be paid, however, it will be paid initially by the corporation at the corporate tax rates (as discussed further below these rates are significantly lower than personal rates). As such, earning income in a corporation provides for the opportunity to defer income tax by not withdrawing all profit from the corporation in the same year.
Under the previous structure, if a realtor had net income of $200,000 in a calendar year, the realtor had no choice but to pay income tax on the entire amount. Under the new PREC structure, the same $200,000 in net income will be subject to corporate taxes at the corporation level, and personal taxes at the individual’s personal rate only to the extent that they withdraw such funds out of the corporation. Accordingly, for high-income earners who do not require their entire earnings immediately, a PREC can provide a considerable advantage for tax purposes.
It should be noted that incorporating through a PREC does not translate into paying less tax, but instead a tax deferral. Canada’s tax system is based on the concept of ‘integration’, which, in simple terms, means that everyone should pay the same amount of tax whether you are operating as an incorporated company or reporting as an individual filer. Although perfect integration does not exist, and such a subject is beyond the scope of this article, the real impact of this legislation allows realtors to defer paying taxes, which combined with a long-term estate and tax planning strategy, can have a significant impact relative to one’s financial well-being.
While the current combined Federal/Ontario top personal marginal rate is 53.5%, the PREC can access the small business tax rate – currently 12.2% combined Federal/Ontario on the first $500,000 of active business income and 26.5% thereafter. Compared to the average 30-40% personal tax paid by realtors, PRECs can provide a more favourable tax advantage. Further, the income left in the corporation allows for the ability to earn interest and investment income through various investment vehicles (e.g. stocks, bonds, mutual funds, etc.). Additionally, and given that the legislation allows family members to hold shares in the PREC, realtors can leverage income splitting opportunities by distributing PREC profits amongst lower-earning family members as dividends or payment of a reasonable salary for services provided by a family member to the corporation, subject to the rules of tax on split income (“TOSI”), which can impose top-rate taxation on family members in certain income-splitting situations.
Aside from the significant tax benefits PRECs can provide, there are other considerations that should be included in the discussion. While advantageous to many, not every realtor will benefit from a PREC. Similar to professional corporations used by lawyers and doctors, PRECs are more favourable to high-income earners who don’t require access to the income earned by the corporation. Further, there are upfront and recurring costs associated with a PREC, including incorporation charges, application and PREC renewal fees, as well as additional accounting costs to maintain the books/records of the corporation. Accordingly, a qualitative and quantitative analysis should be obtained by the registrant of the PREC both from an accountancy and legal perspective.
Overall, the new legislation is seen as a welcome development for realtors in Ontario, allowing them to engage in tax planning strategies not previously available.
Should you have any questions regarding the above, or have a question related to a matter not contained within the subject of this article, please contact Carter Perks at email@example.com or (905) 649-5306.