Hold investments inside a company or not? (Article URL)

Hold investments inside a company or not? (Article URL)

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Hold investments inside a company or not? (Article URL)

http://jurock.com/read951/weston-ingram.html

-for the Real Estate Action Group

WHY YOU MAY WANT TO INCORPORATE AFTER ALL

Ace lawyer John Weston of Access Law Group (member of REAG, call him at 604-609-0308) takes issue with David Ingram's advice to Not place your real estate into a corporation:

Ozzie - David Ingram took a real swing at the corporation as a valid alternative to sole proprietorship. I thought that REAGgies should be reminded of some of the important benefits of incorporating. The following statements are as general propositions rather than specific legal advice - some lawyer suggested we make such silly statements, as if any reader didn't know that already ...

1. Companies were created to insulate individuals from liability or, more accurately, to limit the liability of the investors to the amount they invested. As long as the deficient acts or omissions are committed in the name of the company, the corporate shield should stand.

2. Directors are increasingly exposed to liability, not so much because the corporate shield is ineffective, but because the standard of prudent conduct expected of directors has increased over the years. The type of liability from which individuals are shielded by a company differs from the type of liability assumed when a person assumes a directorship.

3. Inasmuch as the liability may be covered by a personal guarantee, the party which procures the personal guarantee has done at least two things. It has circumvented the corporate shield by explicitly requiring of the individual a degree of personal liability for what would otherwise be a corporate obligation. Secondly, it has implicitly affirmed the effectiveness of the corporate shield, that is, why would you need personal guarantees if you could readily circumvent corporate liability?

4. Remember that corporate liability is, at least in theory unlimited. That is, we cannot know what risks may be out there in the form of unforeseen liability and unforeseen plaintiffs. For instance, in the construction business, new types of liability are arising all the time, such as the kind of liability associated with hazardous waste, a relatively new concept in B.C. The reason business can function is that, while the liability may be theoretically unlimited, the liability is practically limited by the amount of assets in the company.

5. Many lenders prefer to deal with companies over proprietorships. People die or get divorced (usually, not in that order); companies don't.

6. It's easier to structure investment in the corporate situation, allowing, for instance, for different classes of shares, with different rights attached to the different classes.

7. In terms of tax planning, there are eminently better options when a company is involved. One of the things I discussed in my estate planning presentation to the various REAG classes was the estate freeze, which allows for the capital gain in real estate to accrue in favor of the younger generation instead of the parents.

8. Insurance is not the only answer to protecting against liability. Sometimes, insurance can be invalidated. A corporate shield is a good protection to have.

Ozzie says: So, there you go. It will depend on your circumstances. Clearly, if I own only one investment property ... not having it in a corporation may help my argument with our Income tax department ... that my gain should be a capital gain one and not an income gain.

Having employees or more properties ... may help me make the opposite argument.

Major Point: Get expert advice for your own personal situation.

"Some say the glass is half empty, some say the glass is half full, I say, are you going to drink that? " -Lisa Claymen

This came in response to this question which Ingram answered a few months back

Here goes:

Posted question to Ingram - names deleted:

My husband and I are members of Ozzie Jurock's Real Estate Action Group mentor program. Last night during a discussion about owning real estate in a company or in a trust or in our personal name, your name came up as an expert in this area. I was told that you have owned many properties and that you are a tax expert.

I am confused. We currently own 2 revenue properties (single family with a suite) and have offers on a couple of others. For the past 10 years we have owned a couple of revenue properties. The mortgages are in our personal name because the banks preferred that, but we have the lawyer put together a letter stating that they are held in trust for our company and for accounting purposes, they are owned by our company. Our accountant is happy with this but our lawyer would like to see us put the mortgages in our company name also (I believe, for liability purposes). He has also mentioned that we look at tax planning as we have three children (17, 20, 22) and would like to pass these properties to them with the least amount of taxes payable. We were general contractors for 18 years which is why we started our company - we no longer do that so our company is now mainly our revenue properties and a portable putting machine rental business.

Recently, we have started talking to different people as we have become involved with the real estate group and have found out that we should have been deducting our principal residence mortgage interest payments and some other things. An accountant we recently talked to suggested that we own our real estate in a holding company that is then owned by a family trust??? It would cost as much as $8 - 10,000 to set up. I am not convinced that we are ready for this as we aren't making alot of money from our properties each month and our present accountant is usually able to write most of it off or income split with our children. Now that they are working and going to university, those options are becoming limited. (We also had a couple of business losses from non real estate ventures that we are still using. Our accountant likes to put everything in our company but we do also have one marketing business that is still in our personal names).

It seems that everyone has a different opinion. I hear that you are a tax expert and also have invested in real estate. In your opinion, taking into consideration liability, income tax and tax planning (to pass on the properties to our family with the least taxes paid when we die) what is the best entity to hold revenue properties in?? We plan to purchase many more properties in the future - some we will fix up and flip for cash, but each year we plan to buy two or more to hold for cash flow and the unearned income that Ozzie talks about.

David Ingram replies:

I could write two or three books in answer to your question and time restraints in our tax season makes this one a short answer.

What you are describing to me is turning into a business. It may already be a business because if you plan to buy properties to fix up and flip, that is a venture in the nature of trade and the profits will be taxed at full rates, not as capital gains.

You can find out more about taxation of real estate deals at www.centa.com. Click on the Tax Guide and go to the chapter on Capital Gains. This chapter is so old that the taxable Capital gains rate went from 50% to 66 2/3% to 75%, back down to 66 2/3% and ended where it started in 1972 at 50%.

You ask what the best way to hold the properties is:

There is no best way. It might be that you should get the family together and work as a limited partnership. It might be that you should continue with your corporation and it might be that you should have a family trust. However, I still prefer that people own the properties in their own name because that is the easiest to administer, the cheapest accounting for years and simplest for anyone to understand.

There are few things funnier than watching someone try and explain their multi-layered trusts in my office. And as one recent visitor to my office found out, he has spent over $250,000 defending his trusts with the CCRA. By the way, he spent the $250,000 defending his trusts with the lawyers and accountants who had set them up in the first place and he was losing big time.

In asking him how, why, what, where and when he had set them up, he only knew that they had been set up to avoid tax and that other people he knew had used the same setup and the same lawyers and the same offshore banks, etc. But he did not understand them.

If you do not understand them yourself, do not do it. Revenue agents can smell blood when they find a taxpayer who says, "I don't know why" or "my accountant set it up. If it does not have an obvious business reason, which YOU understand, do NOT do it.

For instance in the last week, Judge Bonner of The Tax Court of Canada turned down $27,000 of legitimate receipted travel expenses. The taxpayer owns his own company. He had filled out his own T2200 which is the document that the CCRA asks employers to fill out to justify their employee's travel expenses.

The taxpayer owns the company and has absolute control over how he pays himself and pays his expenses. In order to qualify for full Canada Pension Plan benefits in the future, he was paying himself more than he was actually earning from his company and deducting his travel expenses on line 229 of his return.

This is the way most realtors, life insurance, general insurance and other commission salespeople are paid. The company pays them a salary or commission which they have to pay CPP on and the employee deducts his automobile and sales expenses.

It is very clear.

However, in this case, before 1986 when I suggested the change after he adopted a child, the taxpayer had been paying expenses through his company and taking very nominal salary. After the change, which was promoted more by his wife who wanted CPP protection, in his mind, he was only doing this to qualify for CPP. In court, he could not get his mind around the fact that this was the way employees are paid and consistently said he was only doing this to qualify for CPP rather than that it was the way that his own employees were paid as well.

The Kicker!

In addition, unknown to myself, he had been asked to fill out a T2200. When filling out his T2200, he checked off that he was NOT required to pay his own expenses and was NOT required to use his home for an office even though he has ten employees working in his home office. The form was obviously wrong and should have been discarded in my opinion. I was shocked when Judge Bonner rejected two days of testimony about the facts and what the taxpayer actually did and hung him out to dry (as CCRA had done in the first place) because of the signed T2200 which stated quite clearly that he was not required to pay his own expenses.

I had not been able to figure out why the CCRA had turned down the expenses in the first place. They turned them down because HE SIGNED A PAPER THAT SAID HE WAS NOT REQUIRED TO MAKE THE EXPENSES.

When you wander around with trusts and companies, you either have to be prepared to hire a lawyer and accountant to supervise each move OR be prepared to defend yourself later when you do not have a memory of the transaction or worse still, do not have a "business" reason for the transaction.

Paying $10,000 a year in legal and accounting fees for 20 years does not make sense to save $50,000 in probate fees for instance.

------------------------------------

The solution! Public liability is NOT a reason to incorporate. If you depend on the "LTD" or "INC" at the end of your company name to protect you, you will lose. As the directors and managers and main shareholders of a family real estate holding company you have larger risk than if it was just you. You are considered more sophisticated with a company and run into Director's Liability problems.

You are better protected with a good insurance policy for liability and a life insurance policy to pay the probate fees in the future.

And "watch out" if you intend to put these properties in children's names. I cannot begin to count the number of times that I have seen someone put their sons or daughters name on a piece of property for estate purposes and watched a son-in-law or daughter-in-law walk away with a big piece of it in the child's divorce.

Think about this for a couple of months. Then come and see me in May.

Hope this helps.

 

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09/21/2015
 

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