5 Reasons Not to Buy Real Estate in a PREC
One of the top questions I receive from realtors is whether they can use a personal real estate corporation (PREC) to invest in real estate. In this blog I will share 5 reasons not to buy real estate in a PREC. I will also share some ideas on how a realtor can structure their real estate portfolio in a tax-efficient manner.
For real estate agents who are still unsure whether incorporation is right for you, I encourage you to read my blog on the pros and cons of a PREC.
#5 – Restrictions on a PREC’s Activities
There are restrictions on the activities a PREC can engage in. A PREC cannot “carry on the business of trading in real estate” other than providing the services of its controlling shareholder. This definition may include certain investment activities.
For example, if you are using a PREC to actively flip homes, including pre-construction, you should consult with a lawyer or accountant to make sure you are not offside. Or, you can simply avoid purchasing real estate in a PREC altogether.
#4 – Asset Protection
Operating a business comes with risks. A PREC can be sued by its creditors or a disgruntled client. By mixing your real estate assets with your business, you risk exposing your investment portfolio to these parties’ claims. Asset protection is a common reason for business owners to separate their real estate assets from the business.
#3 – Planning for the Sale of Your Business
If you are a realtor who is building up a substantial business or brand in your PREC that could one day be sold, then holding real estate in the corporation can become a costly mistake.
When you sell the shares of an eligible private Canadian business, you may be able to shelter up to $892,218 (current as of 2021) in capital gains realized on the sale. There are specific criteria to determine whether a business is eligible. One criterion requires that substantially all of the company’s assets be used in an active business. Real estate investing is usually not an active business and may jeopardize your PREC’s eligibility.
#2 – Income Splitting
Rules were put in place in the past few years to restrict the ability to income split with lower income family members (known as the TOSI rules). These rules apply to PRECs. However, if you invest outside of a PREC, you may still be able to split investment income with family members if the proper structure is put in place.
#1 – Mortgage Eligibility
The top reason not to buy real estate in a PREC has to do with obtaining a mortgage. From my experience as a mortgage agent, most lenders are not willing to extend a mortgage to an operating company such as a PREC. This makes sense because operating companies come with business risks. If your PREC is sued, this could put the bank’s collateral (i.e., the real estate) in jeopardy. If you require a mortgage, then purchasing the property in a PREC may not be an option.
What Can I Do Instead?
These are my top 5 reasons not to buy real estate in a PREC. So, if not inside a PREC, what are some ways in which a realtor can purchase real estate in a tax-efficient manner?
One solution is to use a holding company. If set up properly, a separate holding company paired with a PREC may allow you to avoid the above issues. A holding company also allows you to reinvest the profits from your PREC in real estate without triggering personal tax. (I wrote about how to defer tax using a PREC in this other blog.)
Before you implement this strategy, it is important to consult with an experienced professional to ensure that your structure meets the needs of the CRA and mortgage lender.
Still have questions about PRECs? Contact us for a consultation.
The content of this blog is intended to provide a general guide to the subject matter. Professional advice should be sought about your specific circumstances.
