What tax benefits does commercial real estate offer, Want to buy a commercial property and avoid paying property transfer tax? Cory and Adam welcome John Juranyi from Davidson & Company Accountants to discuss tax tips and benefits of owning commercial real estate. John provides in site on how buy the shares or company vs the commercial asset to avoid property transfer tax and ways to defer capital gains on the sale of commercial real estate. A must listen to episode for everyone who owns or looking to own commercial real estate.
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Please tell us about yourself.
I’m a tax principal at Davidson & Company LLP and have been working in the tax field for 10 years. I’ve always been in Vancouver and we focus on private companies, like small businesses. Having a tax practice in Vancouver, you see real estate all the time.
What are the tax considerations when you’re buying commercial real estate?
The biggest thing to consider is GST. People forget about sales taxes. Commercial properties are subject to GST. Whoever is purchasing has to be a GST registrant. The purchaser is under a special rule so they can handle both the collection and payment of GST at once, so no cash needs to actually change hands. That helps a lot from a financing point of view.
Does GST have to be charged on all commercial sales?
GST is something you would need to charge. But with special rules, you don’t necessarily have to collect it. People get tripped up when they assume the purchaser is a GST registrant, when they’re not. If the purchaser is not registered, then the vendor would need to charge GST. It’s very important that the proof of registration for the buyer is built into the legal language of the contract.
Are there different ways of holding commercial real estate?
There are a variety of options. A lot of it comes down to your individual tax planning. There is a difference between legal title, whose name is on the property, and beneficial interest, who really owns it. The legal title can be assigned to anything, and that’s important for property transfer tax. A lot of people will put a holding company down as the legal title and let the beneficial interest reside with someone else. When the property is sold, there is no property transfer tax because the legal title will stay with that company. So instead, the shares of that company will get sold and the company may be renamed. Avoiding that property transfer tax could save you tens of thousands of dollars.
I rarely see commercial property held by an individual. People often set up a corporation or limited partnership to mitigate any legal risks. A corporation is one of the simplest ways to get this legal protection and to have corporate tax rates applied. A limited partnership is a good way for different parties to keep control of the project, even if they aren’t the primary investor.
So I can just buy the shares of the company that holds a property?
Correct. If it’s just a change of control, there’s no property transfer tax. If you’re buying the shares of the company that holds the legal title, you’re not paying $10 million for the company. You’d pay something nominal, like $1. The $10 million purchase price would go to the beneficial interest holders. And that won’t trigger any property transfer tax because the legal title would stay the same.
However, it is simpler to buy the assets instead of the shares. This also has the benefit of the purchaser not buying any skeletons in that business’s closet.
Is the foreign buyers tax applicable in commercial real estate?
I don’t think so. Generally those taxes only apply to residential. If you’re a non-resident, you won’t pay the foreign buyers tax on a commercial purchase. But when you go to sell that property, there are significant withholding taxes applied, which is something to consider. This can cause some cash flow issues if you don’t file the right forms.
There is also no speculation tax in commercial real estate.
Can we talk about replacement property rules?
If you sell a property or your property burns down, you’re entitled to some proceeds, whether that’s from insurance or the actual sale. Let’s say you bought a property for $10 million and sell it for $15 million, in order to buy a new property for $25 million. Those $5 million gains on your original property can be rolled into your new property. You can kick the tax can down the road.
It matters whether it’s a voluntary or involuntary move; a voluntary move, like selling, gives you one tax year to buy a new property while an involuntary move, like if your property burned down, gives you two tax years to buy a new property.
You’re deferring taxes; it’s not a tax savings scenario. As a caveat, if you buy a new property that costs less than the proceeds from selling or insurance, you will have some tax recognition.
Is there any way to capture the interest on my mortgage?
Interest deductibility is actually quite complex. Simply put: where are the funds coming from and where are they going? If they’re coming from the bank and being used to buy a property that you’re using to earn income, you can take a deduction on those funds.
Issues arise if you’re borrowing money in order to fund a non-income earning purpose. If you’re refinancing and not spending the extra funds on the expenses of your business, you won’t be able to get a deduction on that portion. You have to pay attention to the flow of funds.
Has covid had any impact on taxes for commercial real estate?
We have the various government subsidies available, like the Canada Emergency Rent Subsidy, to get up to $300,000. There’s the Canada Emergency Wage Subsidy as well, if you have employees involved.
For landlords offering free rent, free rent doesn’t mean anything for tax purposes. You’re not getting income so you don’t pay income taxes. As a tenant, you haven’t paid anything so you don’t get a deduction. As a landlord if you’re offering inducements to your tenant, you can often claim those inducements as an expense immediately.
You’ll also want to think about reimbursements of the subsidies or grants the government is providing. Most of these are taxable. Make sure you’re setting money aside for those tax consequences.
Is there one tax tip you can share to inspire people to get into commercial real estate?
You can take advantage of capital gains tax rates and get more favourable tax depreciations when you own commercial real estate. When you own residential real estate and rent it out, there are circumstances where the commercial will have a faster tax depreciation. There’s more security in commercial and fewer questions.
What advice do you have for people getting into commercial real estate?
Get appropriate advice. Don’t think you know everything. Having the right advisor to guide you is important.
Find out more: https://davidson-co.com/