In 2020, the provincial government of Ontario allowed real estate agents and brokers the ability to incorporate, Personal Real Estate Corporations (“PRECs”). This announcement provided real estate professionals with a potential tax advantage. Other regulated professionals including doctors, lawyers, dentists and accountants have been able to incorporate for many years now.
For a corporation earning up to $500,000 of taxable income, the corporate tax rate would be 12.2% in 2022 in Ontario, this rate increases to 26.5% if taxable income is more than $500,000. Alternatively, if this income were to be earned directly by a professional in the top bracket, the rate is 53.5%. The earnings must be left in the corporation in order to take advantage of the low rate. Only when the funds are withdrawn would personal income tax be triggered. Ideally, the professional would be in a lower income tax bracket when the withdrawals are taking place, potentially during the years of retirement. As a result, there could be a significant advantage by incorporating a PREC to create the deferral opportunity and access to the lower tax brackets.
However, in 2019 the government introduced new rules where if the corporation is earning more than $50,000 of passive income (rent, interest, dividends, etc.) it would reduce the amount of income eligible for the small business rate. The small business limit will be reduced by $5 for every $1 of passive income earned in the prior taxation year. If the passive income in the prior taxation year exceeds 150,000, the corporation will not be entitled to the small business rate of 12.2%. The taxable income would be taxed at a higher rate instead but still would be lower than the personal tax rate of 53.5%. These higher rates would not come into play immediately for a new Personal Real Estate Corporations as it will take some time for its investments to earn the $50,000 passive income threshold.
There are specific criteria that must be met in order to be considered a PREC. It’s important to connect with a lawyer and an accountant to ensure you are properly setup and determine if incorporating is right for you.