Hello everyone. My name's Jose Delgado. I'm a corporate commercial attorney. We specialise in structures, tax and property, and I'm going to be talking to you guys about a couple of queries that are frequently asked by property investors or persons acquiring residential properties for themselves.
The first issue we're going to tackle today is what options do I have when I'm looking to buy property? Do I buy it in to my own name? Do I put it in a closed corporation, (If you can still get one, you can't get them anymore) Pty Limited, or do I have a Trust as an option? Which is often a mythical entity that we'll certainly debate today.
What are your short, medium and long term objectives?
Really it's a question of what are your short term, your medium term, your long term objectives? Are you buying to hold the property for your personal use? Is it a holiday home? Is it a commercial property? Are you an investor? We could elaborate and spend quite a lot of time on the different options but, essentially, there are two main points that one needs to think about and if this is a property for you personally, what risk are you exposed to? As far as we're concerned, any person who faces any risk should ideally be looking to have this property in an entity other than in their own name. Clearly, if you ever get sued or you're in business, you have exposure - buying a property is a major purchase. It's a large acquisition, lots of costs involved, so if you are in the wrong structure, it's not really easy to move the property into the appropriate structure if you made the wrong choice. Quite a lot of effort or time, or thinking must go into assessing which is the best option for you.
Buying a property in your own name
Option one is default - most people buy a property into their own name. Very simple, it's in your name. The problem is if you run into trouble you could lose your home. That's not ideal. At some point, we will die. I don't know anyone who's immortal. You're eventually going to snuff it and on your demise, you're going to have some serious issues to deal with. Property is caught up in your frozen estate. Your spouse, your dependents, other persons, children, don't have access to this asset until such time as your estate is wound up. That could take anything from about eight or nine months to one, two, three, four, five years. You're going to be creating serious hardship for whoever's going to be needing to access that property or the rentals, or whatever the case is. It's a pretty expensive exercise, to die - so try and avoid it at all costs, but your death will cost you capital gains tax. The maximum rates at this point are 13.6%. It's a fairly huge chunk that's going to be coming out of any growth of the property, so one must bear that in mind if the property's in your name, upon your demise.
On top of that, your estate - not you - will be subjected to executors fees also at a maximum legislated rate of 3.5% plus VAT, just under 4%. Again, a massive chunk. And the kicker here is for you to consider that this is a charge on the gross value, not on the net value. Quick example: property is worth R5 million. You have a mortgage of R4 million, your net is R1 million. Your executor's taking 4% of the R5 million - not the R1 million. Suddenly, that's a massive cost on a small percentage. This seems pretty harmless.
Then, of course, you are subjected to estate duty at a rate of 20% on any assets in excess of that R3.5 million. So, pretty steep. If you're buying a property in your name, just know that you have no asset protection. You're subjected to potentially massive costs on your demise. Again, if you are renting your property out, not very tax efficient if you are in the top tax bracket, because that rental income will be added to your income, further causing you tax issues or more tax to pay.
Closed corporation
Other options are closed corporation, if you could still get your hands on one, or you have one, or Pty Limited. A lot of people do consider this as an option because it is a known type of entity. SARS pretty much has settled the taxation around this, so there's some level of comfort. The problem with this is a closed corporation or company is not the ideal residential property owning entity because you will eventually pay too much tax as well, compared to a Trust, which we are going to talk about in a minute.
Pty CC, your tax rate is 28% to get the cash out of the company, or with the CC you'll be paying a further dividends tax, bringing you effectively to a tax rate of 38.8%. Also, a default position is you can have a Trust owning a company that, in turn, owns your property. You are creating extra costs which you can possibly avoid by having a more simplified structure. Not a great structure - a CC or Pty - if you are ever selling a property because you're going to end up with a huge capital gains tax problem in the company of the CC at an effective rate of 18.6%. To get your hands on the profits after tax, costs you a further dividends tax of 15%, bringing your total tax bill to just under 31%, so that's ouch. In your personal name, the tax is a little bit better, but you have exposure to creditors, you have got issues on death, you have no continuity. CC Pty is solving some of the problems, but not ideal from a tax perspective.
Trust
Then, we come to the mythical Trust, which has the odd proponents who absolutely love them, or you have the naysayers who are absolutely anti them. There's a lot of uncertainty because the taxation tends to be under the spotlight quite often with Trusts. Default position though is it's an old entity, it's been around forever, in this country almost 200 years. A Trust very simply is like a vault. I like to have people think of it as a vault. You're going to acquire your property into this entity. The tax is brilliant in this structure because you can move the income out of a Trust. Even though it is an entity with the highest tax rate at 41%, after the new budget a couple of weeks ago, the Trustees have got the election to push any rental income down to beneficiaries, who then pay at their own marginal rates. This is where you have four or five children, or you bring in your mom or your in-laws, as many beneficiaries as you'd like, to obviously then minimise your tax position. Also, capital gains tax wise, if you distribute your gain to a beneficiary, it's going to be quite tax effective.
Trusts are very handy as an estate planning tool. You will end up in a position where the assets will continue to exist in this entity. Your demise will not affect the ownership of the property because the Trust doesn't die, very simply. In our law, there's no limitations, or limitation on how long a Trust can exist, so can continue perpetuity. So, great estate planning tool. All your hard efforts and your legacies will continue to future generations. No capital gains tax on death because the Trust doesn't die. No estate duty on death because the Trust doesn't die. No executors fees. It's pretty handy.
Just to wrap up, in conclusion, the three options available to you - or four if you take a CC:
- Bind to your own name - not really tax efficient if you're at the top tax bracket, assets exposed to creditors on your demise, you've got trouble.
- CC Pty - a bit better than personal, but still not the ideal vehicle when you look at the massive capital gains tax consequences, extra costs, et cetera.
- For us, if you're looking for the whole package, then it's a Trust that you should that you should bite in to.
However, caveat - what is your strategy: short term, medium term, long term? Was it a residential commercial property, so there's no hard and fast rules, but hopefully this has given you a bit of a heads up on different options available to you, get you thinking about what's ideal for you.