Should You Use a Corporation for Your Real Estate Investments?

As a real estate investor, one of the biggest strategic decisions you'll face is how to structure ownership of your properties. Should you purchase them in your personal name, or would it be wiser to use a corporation? While there isn't a one-size-fits-all answer, this article will walk you through the key considerations to help you make an informed decision.

1. Liability Protection

One of the most compelling reasons to use a corporation for your real estate investments is the protection it offers against personal liability. When you own a property in your personal name, you—and by extension, your personal assets—can be at risk in the event of a lawsuit or a creditor claim. A corporation acts as a separate legal entity, meaning liabilities related to the property typically stay within the corporation. This "corporate shield" can offer peace of mind for investors, especially those with multiple properties or higher-risk rental ventures.

Key Takeaway: If you’re concerned about asset protection or have significant personal wealth you’d like to safeguard, holding properties in a corporation may be a prudent choice. Every scenario is unique, please consult with a lawyer.

2. Tax Efficiency and Income Splitting

When deciding between personal ownership and corporate ownership of rental properties, taxes play a key role. Here’s a basic overview and quick comparison of how rental income is taxed under both ownership structures:

Personal Ownership

• Tax Rate: Rental income is taxed at your personal marginal tax rate, which could be as high as 53.53% for high-income earners in my home province of Ontario.
• Access to Cash: You get immediate access to the net rental income, but high-income earners may lose a large portion of it to taxes.
• Simplicity: No need to manage a corporate structure, and accounting is more straightforward.

Corporate Ownership

• Tax Rate: Rental income in a corporation is considered passive income and is taxed at an effective rate of about 49.5%.
• Refundable Tax: Approximately 30.67% of the corporate tax is refundable if dividends are paid to shareholders.
• Additional Tax on Dividends: Remember, when dividends are paid to you personally, you’ll pay additional personal dividend tax, which may bring the combined tax rate closer to or even above personal ownership rates.
• Cash Retention: If you keep the cash within the corporation (for reinvestment, paying down debt, or funding future purchases), you avoid paying the additional personal dividend tax, giving the corporation access to more working capital.
• Control and Flexibility: Corporate ownership allows for income splitting and reinvestment opportunities, making it a better option for those looking to scale a real estate portfolio.

For most individuals, the total effective tax rate for personal ownership may be close to the combined corporate and dividend tax rate. However, if the goal is to scale a real estate portfolio, corporate ownership provides a significant long-term tax advantage.

For more clarity on how this applies to your personal situation, it is best to consult with a CPA that specializes in this area to map out the best strategy for your portfolio.

3. Access to Financing

If the building is producing enough cashflow, access to financing can be easier through a corporation. However, interest rates and lending terms may be less favorable compared to personal mortgages. This could mean higher interest rates, shorter amortization periods, or more stringent down payment requirements. This is because banks often assess corporations as riskier borrowers, especially if the corporation doesn’t have a strong credit history or cash flow track record. To mitigate this, lenders will almost always require personal guarantees from directors or shareholders, which could erode some of the liability protection you’re seeking.

Myth Alert: It’s a common misconception that your personal financial situation isn’t considered with commercial financing. In reality, lenders will want to ensure you’re not relying on rental income to support your personal lifestyle.

If the property isn’t cash-flowing well at the time of purchase, you can use your personal income to support the application. On the commercial side, this usually results in a smaller mortgage amount to ensure the property can cash flow the mortgage payment on its own.

Key Takeaway: If you’re relying heavily on financing for your acquisitions, check with your mortgage broker or lender to understand how a corporate structure might affect your ability to borrow.

4. Administrative Burden and Costs

Running a corporation comes with extra administrative responsibilities and costs. This includes:

• Annual filing fees
• Corporate tax returns (which are more complex than personal returns)
• Legal and accounting fees

These ongoing costs can range from $1,500 to well over $5,000 per year, depending on the complexity of the corporation's activity. Investors with only one or two properties may find these additional expenses eat into their cash flow, while larger portfolios can better absorb the costs.

Key Takeaway: If you’re managing only one or two properties, the cost of maintaining a corporation might outweigh the benefits. For larger portfolios, the cost becomes a smaller percentage of overall revenue.

5. Exit Strategy and Estate Planning

Thinking long-term, a corporation can simplify the process of transferring ownership of your properties. Instead of transferring property titles, you can transfer shares in the corporation. This may streamline estate planning or the sale of your portfolio.

From an estate planning perspective, it’s often easier to pass on shares in a corporation to heirs or successors than to transfer individual property titles.

Key Takeaway: If your long-term plan includes succession planning, selling your portfolio, or handing down your properties to your children, using a corporation could create a more seamless transition. This is an important and very complex area of the law, be sure to discuss with your lawyer and CPA.

6. How Many Properties Do You Own (or Plan to Own)?

If you’re just starting with a single property, it might not make sense to go through the process of setting up a corporation. The administrative burden, costs, and financing hurdles may not be justified. However, if you’re planning to grow your portfolio to 3, 5, or 10+ properties, then the long-term tax, liability, and succession planning benefits often make incorporation worthwhile.

Key Takeaway: Consider the scale of your portfolio. If you’re a "one-property investor," personal ownership may be simpler and cheaper. For investors with larger growth plans, a corporate structure may be more advantageous.

Watch for Part 2: In the next article, we'll discuss how many properties you should have in each corporation and explore strategies for structuring your real estate portfolio for maximum efficiency.