Should You Buy a Rental Property as an Individual or a Corporation?

When buying a rental property, one of the most crucial decisions to make is whether to buy it in your own name or through a corporation. The best decision is based on a number of criteria, which we will go over below.

It is critical for anyone seeking to accumulate wealth, attain financial independence, and/or retire early to develop streams of passive income, which are sources of income that are generated on a monthly basis without the need to actively work for them.

Purchasing a home that provides rental income is one of the most popular ways to generate passive income. The return on investment (ROI), which is comprised of both rental income and appreciation in the value of the property, can dramatically improve your net worth if done correctly (and with some luck.)

When buying a rental property, one of the most crucial decisions to make is whether to buy it in your own name or through a corporation. The best decision is based on a number of criteria, which we will go over below.

Is the rental property part of a principal residence?

Many homeowners have a rental property that is part of their current home, such as a duplex, triplex, or just a rented-out basement apartment. In this scenario, incorporating is probably not a good idea (unless it’s part of a more complex tax strategy), because you risk losing your principle residence exemption, which can save you a lot of money on any future property appreciation.

In Canada, the principal residence exemption allows you to sell your property and avoid paying capital gains tax which can be worth a significant amount of money, so may b a benefit you will not want to lose.

Will you own the property in partnership/co-ownership with someone else?

If you want to buy the property with someone else (including your spouse), incorporating offers the co-owners/partners a separate legal entity with unambiguous beneficial ownership in the corporation based on whatever share is agreed upon at the outset. If two co-owners opt to contribute an equal share of the down payment, for example, their ownership percentages can be split 50/50.

It’s critical to draft a partnership agreement between co-owners that spells out who owns what percentage of the property, who is in charge of different aspects of property management, how major repairs will be handled and who will pay for them down the road, who is in charge of accounting and tax reporting, and so on.

Do you want limited liability to protect against potential lawsuits?

If you believe there is a possibility of litigation/lawsuits with respect to the property you’re buying – and there increasingly is as individuals get more litigious – then incorporating to provide limited liability protection may be a good idea.

This means that the corporation’s shareholders can only lose up to the amount of their investment, ensuring that your personal assets are protected. However, if you opt to purchase liability insurance on your own, you may be able to replace the limited liability protection provided by a corporation.

Are there any obstacles to selling the rental property to a corporation?

It’s crucial to check with the seller and your bank before incorporating to see if there are any restrictions on transferring the property to a business.

Individuals may be the lone permitted buyers for some properties. In addition, a bank may have different criteria for lending to an individual than a corporation, and in many circumstances, a bank may seek a personal guarantee from the property buyer.

Do you plan to buy more rental properties?

If you simply plan to have one rental property, incorporating may not be necessary. If you decide to develop a portfolio of properties, however, forming a corporation can be far more advantageous because it limits your liability and spreads your administration costs across multiple properties.

Furthermore, losses on one property might be used to offset gains on another. Of course, some property owners form a separate corporation for each of their properties to limit their responsibility even further, but this, too, is dependent on your individual scenario.

Should you transfer an existing rental property to a corporation?

You might already have an existing rental property that you want to transfer. If this is the case, you generally have two choices:

a. The property can be transferred at its fair market value. To do so, you’ll need an independent appraisal of the property from someone who is qualified to do so. You would report the difference between the initial purchase price and the fair market value as a capital gain (or loss) on your personal tax return and pay the associated taxes once the property has been appraised.

b. You can transfer the property at its original cost via a section 85 rollover. This can be a complicated transaction, therefore it’s best to consult an accountant to help ensure that everything is done correctly.

The choice to invest in a rental property can be a big step toward wealth building, but there are many business and tax aspects to consider before doing so. Having an experienced source of financial advice and assistance in the form of your own chartered accountant can be a big help. If you are planning on buying a rental property soon – and our local market is very hot right now – contact us today so we can discuss your plans as they relate to your finances further.