What legal entity should I buy my property into?
The question of whether to buy a property into a trust, company or on your own name is one I get exceptionally often. Many people want to know what the pros and cons are, the cost-effectiveness and why people are even bringing this conversation to the light.
The reason for this important question is due to the far-reaching consequences:
- Liability – What happens if someone takes legal action against you or your business?
- Tax – there are different tax rates and implications for all the structures.
- Admin costs – some entities have higher running costs and some are more time-consuming.
Note that I will refer to the choice below as ‘entities’ – a company entity, your own name (as an entity) and a trust entity.
What is the goal of your property?
I am sure you’ve heard this one. People (especially lawyers, estate planners and financial advisors) love using big words such as goals, mission, vision, and strategy. Yet, in the context of choosing the right structure, you need to take these into account as the impact can stretch much longer than your lifetime.
Let’s get started to narrow down some questions that will help you in establishing your needs:
- What type of property do you want to put into the entity?
- Primary residence
- Holiday home
- Investment property (residential, commercial and/or industrial)
- Is this property for your use, rental use or for your business?
- Are you planning on selling the property in the next 10 or 20 years?
- Will the property change its purpose in the next few years, e.g. primary residence to rental property or residential to commercial/offices.
With these answers in mind, you can now compare the answers to the below structures.
The CPIC allows you to register a company (a Pty Ltd) and run a business. This business could be a property business or/and something else like selling coffee.
The goal of a company is to distance your personal interest from your business interest and have less liability on you personally. What this means is that if your company gets liquidated, your personal belongings could still be kept safe from creditors. This is why In the US they call these LLC’s – limited liability companies.
As you’ll be running this business like a business, your mission will be to make money. It would therefore not make sense in most instances to buy residential in a company.
Money and tax implication
If you want to move money between yourself and the company, you would need to do so in a methodical way to show your auditors what you’ve been doing. You need to submit these audited statements of income and expenses to SARS so that you can pay the necessary tax.
To get the money out of the company, you have a few options: you’re able to pay yourself a salary (for management) or invoice the company for work done. Please make sure that this is done legally – consult your tax consultant!
If your company makes a profit, you will need to pay tax. All profit in a company is taxed at 28%, as dictated by SARS.
If you pay yourself dividends from the profit, you will need to add another 20% dividends tax on top of the company tax.
When selling a property, you will be liable to pay capital gains tax (CGT) – 18.6%. If you want to pay out that money into your own pocket, then you will be paying dividends tax on top of that.
You might often find shareholder loans on the audited statements of a property company to cover some of the (initial) property costs such as bond and transfer, deposit and bond shortfalls. If at a later stage you want to withdraw this money, you are able to do so, as you’re just paying back the loan to yourself.
Many property companies run at a loss. They do this to avoid paying tax legally. An example is having a bonded rental property where your expenses are more than your income. For more info on this, check my article here!
It’s not just the auditors and SARS that need to know about your company and profit. You need to submit annual returns to the CPIC. They need to know if the company is still alive and going well. This quote by Riaan van Deventer was so strong, I decided to copy and paste it as found!
“Don’t always presume your auditors will bring this to your attention or submit these annual returns. The onus and responsibility is fully on you as the director of the company ((Pty) Ltd) or as a member of the close corporation (CC) to ensure your company’s annual tax returns have been submitted on time. Ignorance of the law is no excuse, and you need to be aware of the requirement for submitting annual returns with the CIPC to avoid de-registration of your company.”
If the CPIC deregisters your company because they didn’t get the needed communications, there are exceptionally painful processes in place to reinstate a company. Note that it is time consuming and will make you cry non-stop for quite a few months, if not years. It is therefore recommended that you stay compliant.
Trusts have been around for about 200 years in South Africa. The name might be misleading, but conceptually it’s not a difficult thing to understand.
When you create a trust, you are creating a legal entity that is not connected to you. Because it’s not connected to you, its assets are kept safe from your tax rates, liabilities etc.
A trust has trustees and beneficiaries. Trustees are the people that run the trust – think of them as the board of directors. Beneficiaries are people that benefit from the trust. If the trust makes money, beneficiaries get money!
As with a company, if the trust doesn’t pay for the property, you need to create a loan between you and the trust. There will also need to be a loan agreement in place if your property is not used as a (primary) residence.
Money, tax and estate planning
The South African law on trusts does not set a time limit for trusts. It is for this reason that it’s able to withstand even your death and be used as an estate planning tool. In short, to explain the impact, you will be liable to pay estate duty, capital gains tax (on e.g. property) and executor fees – which are often a percentage of gross assets before liabilities are deducted.
Many people will over time put all their possessions in a trust, including their properties (investment and residence) to avoid paying these taxes.
As a legal entity, a trust still needs to have their financial statements drawn up annually. If a profit is shown, you need to pay tax. All profit is taxed at 45% (as of 2020).
If the income is distributed to beneficiaries, then they will be taxed according to their individual income tax brackets.
You are also able to register a property on your name. This could be beneficial if this is your primary residence or if you are planning to sell the property within the next few years. If this is your primary residence, you will get a nice capital gains tax break when you sell, yet on secondary (investment) properties, you will liable to pay some taxes.
From a tax and cost perspective, it makes sense to have a property on your name if:
- You’re not planning to die
- Sell the property before in the medium term (less than 10 years)
- Not leave a huge legacy to people – the government will cash in on your assets!
- The property is used for residential purposes and you don’t anticipate that this will change
- You don’t run the risk of being sued
After reading this, you might think: is it a good idea to have any investment property in your personal name? If you have established that you will keep the investment property for a shorter period of time, then it might make sense from a tax perspective to register the property in your own name.
Money, tax and estate planning
What happens when you die?
Everything that you own will go into a ‘fund’ called your estate. You will need to pay fees for everything including:
- Executor fees – they easily charge 3% of your gross assets before all expenses and liabilities are deducted)-
- Capital gains tax on your property of roughly 13 %,
- Estate duty – you will need to pay the government a fine for dying. For every rand above R 3.5 mil, you will need to pay 20%. In essence, if you’re in the top tax bracket, then having too many assets in your own name will not be tax efficient.
You owning Trusts owning companies
To give yourself as little liability as possible, it would make sense to let someone or something else own your properties and allow you to benefit from it. Generally, it’s acceptable to register both a trust and a company and structure it in the following way:
- The company issues 1 000 000 shares. You own 1 share and the trust owns the rest.
- You are a trustee, have an independent trustee and are a beneficiary of the trust.
As you technically don’t own the company or the trust, it makes sense that you can distance yourself from these structures financially and legally – yet you control the trust, and indirectly the control the company.
Can I move my property to a different entity?
It’s important to realise that this question is time-sensitive. There will be costs involved if after 5 years you want to transfer a property from your own name into a company. It would therefore make sense to have a solid strategy from the time when you start looking for a property.
The entity that you decide to register your property in depends on your strategy.
If you’re planning to grow your property investments and/or have the risk of legal action, it is best to register the property in a trust or company.
If you are planning of flipping the property in a few years, it might be more beneficial to register it in your name.
I encourage you to do your math.
Don’t trust people’s opinions.
- Private property – Should I buy property in my name, a CC or a trust?
- Property24 – Buying property in a company
- Property24 – Everything you need to know about buying property in a trust
- Ooba – Transferring property into a trust: The benefits and considerations
- Find an advisor – How estate duty is calculated
Article reposted with permission from Frugal Local.