What is a Personal Real Estate Corporation (PREC)

On 1 October 2020, the Provincial Government introduced Ontario’s new rules for forming Personal Real Estate Corporation(PREC). Personal Real Estate Corporation (PREC) is similar to options available to other professionals like accountants, dentists and lawyers. Real estate professionals can reap the benefits of incorporation, including enhanced tax planning and income management. In a way, both agents and brokers in the real estate business can benefit from it as it acts as an intermediary between the brokerage house and the agent.

Criteria for a corporation to be considered as PREC.

1. The corporation is incorporated or continued under the Ontario Business Corporations Act.
2. The sole director of the corporation is the controlling shareholder.
3. All of the equity shares of the corporation are owned, directly or indirectly, by the controlling shareholder. The controlling shareholder is the individual employed by the brokerage as a salesperson
4. The president, the corporation’s sole officer, is the controlling shareholder.
5. Each non-equity share of the corporation is owned by the controlling shareholder or a permitted family member of a controlling shareholder or a permitted trust.
6. The controlling shareholder controls the business and affairs of the corporation, and no written provision or agreement restricts the controlling shareholder’s power to manage the corporation’s business affairs.

How does PREC work?

A PREC will have a separate legal entity from yourself, the agent. It will act as an intermediary between the brokerage house and yourself. Regarding the flow of funds for your commissions, the commission you earn will be paid directly to the PREC rather than to you as an agent. Then as an agent, you have the discretion to pull out funds from the PREC to cover your living expenses and keep the remaining profit intact inside the corporation. Only those amounts are subject to personal income tax, which you withdraw, unlike the sole proprietorship, where you pay taxes on the entire amount you earned minus permitted deductions of the year. The remaining income is taxed in the hands of the PREC at the applicable rates, which are lower than the personal income tax rates.

Benefits of incorporating and operating as PREC

While operating as a PREC, real estate businesses can minimize taxes payable with tax planning. Following are some of the benefits of a PREC:

• Corporate tax rate – PREC  has the advantage of the corporate tax rate (approx. 12%), which is lower than the individual marginal tax rate (approx 53%). If the income is kept in PREC, you have the advantage of tax deferral. Personal taxes begin to apply once the income is distributed to shareholders. Therefore, if you need all your PREC income for personal purposes, PREC will not suit you.
• Income splitting: The PREC can pay compensation as salaries or dividends other than the realtor itself, esp. to their spouse but keep in mind the application of TOSI rules which requires that wages must reflect the value of the work done by the individual who is compensated. Talk to the tax advisor for applications of TOSI rules.
• Tax Deferral: If you are not withdrawing the whole amount earned from the PREC for your personal use, the personal tax will not kick in, and you can take advantage of tax deferral.
• Capital Gain Exemptions: On the sale of shares of PREC, in certain situations, the shareholders have access to Capital Gains Exemption. However, there are extensive criteria to meet the exemption for qualifying as a Qualified small business corporation (QSBC) share; talk to your tax advisor if you are planning to sell the shares of PREC and want to benefit from the exemption.

Whether to opt for PREC or not?

There are benefits of opting for PREC, but benefits come with the cost. PREC is expensive in terms of higher compliance and accounting fees. Therefore, it is more beneficial to the high-income agents who can keep the money inside the corporation and take the benefits of tax deferral.

If you need any help understanding the PREC conditions, restrictions, provisions and exemptions do reach out to us at Rav Bhatia CPA Professional Corporation, and we’ll sail you through all your queries.