What legal entity should I buy my property into?
I often get questions about whether to buy a property into a trust, company, or in your own name. Many people want to know the pros and cons. They are curious about the cost-effectiveness. They also wonder why this conversation is being brought to 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.
Below the term ‘entities’ refer to the legal thing that’s separate from you. You (a natural person), a company and a trust are all entities.
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, when choosing the right structure, consider these factors. Their 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 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.
Why buy your property in a company
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 LLCs – 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.
Property COmpanies AND tax implications
You must move money between yourself and the company in a methodical way. This will help you show your auditors what you’ve been doing. You need to submit these audited statements of income and expenses to SARS and pay the necessary tax.
To get the money out of the company, you have a few options. You can pay yourself a salary (for management or as a director) or invoice the company for work.
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.
You can pay yourself dividends from the profit. Dividends are paid on profits. This means you will need to pay 27% tax on the profits. And then 20 % dividend withholding tax on top that. Your tax bill will be more than 40%!
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.
Shareholder loans commonly appear on the audited statements of a property company. They cover some of the initial expenses such as bond and transfer costs. They also cover deposit and bond shortfalls. The loan can be paid back in instalments.
Many property companies run at a loss. They do this to avoid paying tax legally. Buy to let property is a good example. You can use other people’s money to buy property and deduct bank interest from the bank.
COmpany Deregistration
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). It is also your responsibility 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. You need to be aware of the requirement for submitting annual returns with the CIPC. If ignored, your company can be de-registered.”
–Riaan van Deventer, Head of Real Estate at Engel & Völkers Southern Africa
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.
The advantage of buying property under a company name in South Africa
Remember that a company is a separate entity from yourself. For this reason, it reduces your legal liability in case something terrible happens to your property. To further distance yourself from your property, some people create a trust that owns a company – but let’s first look into trusts.
Buying a property in a trust
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 who run the trust – think of them as the board of directors. Beneficiaries are people who 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.
For more info, Brendan Dale did an excellent article on properties and trusts here.
Trusts 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.
How is a trust taxed
As a legal entity, a trust needs to have its financial statements drawn up annually. If a profit is shown, you need to pay tax. All profit is taxed at 45 % (as of 2020).
Income can be distributed to beneficiaries. It will be taxed according to their individual income tax brackets. When a property is sold, capital gains tax (CGT) is payable. The CGT is based on the normal rate of the natural person. The type of tax stays the same for die individuals.
Comparing a trust vs a company for property
Trusts are taxed much more than companies. It could make sense to add your investment properties in a company. This way, you can sell the whole lot with the company. Depending if you’re planning to use Section 13sex of the tax act, it might still make sense to keep it in a trust for the time being. I do recommend getting advice from a property expert in this regard.
What if I registered the property in my own name?
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. However, on secondary (investment) properties, you will be liable to pay some taxes.
From a tax and cost perspective, it makes sense to have a property on your name if you’re:
- Planning to live forever in your current state
- Sell the property in less than 10 years
- Want your loved ones to struggle to pay transfer costs, estate duties and other fees
- Using the property for residential purposes and not anticipating this will change
- Not in a high risk profession with a risk of getting sued or liquidated
After reading this, you might think: is it a good idea to have any investment property in your personal name? If you plan to keep the investment property for a shorter period, registering it in your own name might make sense from a tax perspective.
estate planning And property registered in your own name
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.
For this reason, it makes sense doing proper estate planning. It will save your family years of fighting and resolve future legal issues. If done properly, your estate will also pay a lot less tax!
Buying property in a Trust Company structure
Minimize your liability by letting another entity own your properties. This way, you can still benefit from them. 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.
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. Indirectly, you also control the company.
Can I transfer my property to a different entity?
Section 42 Asset for Share allows you to transfer investment properties from your own name into a company. There are a few catches, however. You need to keep the shares for a minimum of three years, and it’s only available for investments that generate income. For example, you cannot transfer IP or gold into the company, as it doesn’t generate cash.
Transferring a property from a company to a trust or your own name to a trust can be a bit more complicated. You have a choice – either donate the property, which triggers donations tax, or sell it to the other entity. The second option can allow for it to pay you back what it owes you. Please check with your tax advisor, as you might be liable for capital gains tax on your rental property. You will also most definitely pay transfer and attorney fees – and possibly transfer duty.
Conclusion
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 on 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.
Happy investing!
Extra reading
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
- Should I buy investment property in a trust – //LocalMoney
