The best legal structure to hold commercial property in
Commercial property investors often ask what the best way to structure their commercial property holdings is?
According to commercial dealmakers, Bales Delaporte, while each investor obviously has their own circumstances, there is one way that has found favour with many of the astute and experienced property investors - the Company Trust Combo.
"In this generally preferred structure, your discretionary family trust owns the shares in a private company that, in turns, owns the commercial property."
The question is, what are the benefits of this compared to simply holding the property in your own name or in a trust?
Ben Strauss, from Hofmeyrs attorneys advises the following: "The entity or company owning the property pays income tax at a rate of 29%. If the company declares revenue profits - such as rental - as dividends, there is also secondary tax on companies (STC). Which pushes the effective income tax rate to about 37%. This still compares very favourably with the 40% income tax rate of trusts and individuals (at the highest marginal rate)."
"As for capital gains tax (CGT), the company pays a maximum rate of 14,5% which is better than the 20% paid by trusts and not too far off the individual rate of 10%. Nowadays, companies also pay STC on capital profits," says Strauss. "So, if the company declares the capital profits, its effective capital gains tax rate goes up to about 24%. For commercial property, companies should be registered for VAT as most commercial properties would deem turnovers above the required threshold."
It is clear from this, therefore, that from a tax perspective, a company that reinvests its profits, and hence pays no STC, is in a very good position.
According to Strauss, under the Company Trust Combo, the trust that owns the shares in the company earns tax-free dividends.
"The Minister of Finance announced in his recent Budget Speech that STC would be reduced to 10% on 1 October 2007. He also said that, in due course, STC would be replaced with a dividends tax. However, the proposed changes should not have a material impact on the principles discussed above."
"Further benefits," advises Strauss, "is that as the trust owns the shares in the company, when you die your estate pays no estate duty or CGT. The Company Trust Combo also gives you other benefits such as protecting the property from your creditors."
"If you lend money to the company to pay for the property, the only asset in your estate is the loan account. You can use the loan account to draw funds from the company if you need it and you can reduce the loan account over time by donating funds to the trust to repay the loan amount."
Compared to simply owning the property in a trust, Strauss says that there are other benefits to a Company Trust Combo.
"When a person makes an interest-free or low-interest loan to a trust, the under-charging of interest is sometimes seen as a donation under tax laws. In this case, some of the income of the trust may be attributed to the lender and taxed in the hands of the lender. But under the Company Trust Combo the loan is made to a company, not a trust, and the attribution principle does not apply."
"Additionally, if a trust owns the property directly it is difficult to bring in other investors and this invariably means selling off a part of the property or changing the trust deed. However, where the trust owns the shares in a property company, the trust could simply sell shares in the company to the other investors."
However, Strauss cautions that a disadvantage of the Company Trust Combo is that it adds an additional layer of administration and expenses such as audit fees.
"The Company Trust Combo may also not be suitable for holding residential property that you live in. In this case it may be better to hold such property in your own name to save transfer duty when buying and to qualify for the R1,5 million CGT primary residence rebate when selling."
Strauss concludes that it is essential that one gets professional advice before structuring the holding of your commercial property in order to ensure nothing goes wrong.
For more information please contact Bales Delaporte on 0861 332 562 or visit www.balesdelaporte.co.za
Article by: Bales Delaporte - www.balesdelaporte.co.za