Build up a pension pot by investing in real estate? That can be very clever, but then you have to make sure that you do not get a tax assessment when selling your properties. What about that?
If you have a sole proprietorship or participate in a partnership or general partnership, you may have built up your retirement provision by investing in rented property. In the past, the buildings were recognised in the balance sheet of the company, regardless of the tax consequences. In the meantime, these have risen sharply in value. As you approach retirement and want to sell your real estate, you will still be faced with the unpleasant tax consequences. After all, you have to pay for the realised added value. Or not?
Normal asset management versus corporate profit
First of all, it must be determined whether the exploitation of the immovable property qualifies as normal asset management or profit from an enterprise. In the case of normal asset management and if the buildings form part of the compulsory private assets, the book profit on the buildings remains untaxed, despite the fact that you have included it in your company’s balance sheet. I will explain this in more detail below.
Purchase and sale in the light of a foreseeable advantage
If you have special information at the time of purchase as a result of which you have bought the properties at an exceptionally low price, the book profit on sale is taxed.
This science should be based on an information advantage. This is not the case if you base your decision on a generally known (market) circumstance. It is speculation that is at stake.
Under normal circumstances, this criterion does not allow the benefit obtained from sales to be considered as company profits.
Acts take precedence over normal asset management
1. Scope of work performed
If you carry out real estate activities that go beyond normal asset management, the book profit on sale is also subject to tax.
What matters is the amount of time you have spent on the exploitation of the real estate in relation to the capital invested and the expected return. If the expected return is higher than in normal asset management, this is an indication of the presence of company profits.
2.Creation of added value after purchase
The main characteristic of activities going beyond normal asset management is that a capital gain is created only after the immovable property has been purchased, which is reflected in the amount of the operating or selling income.
If your work in connection with the letting is limited to minor maintenance, the collection of rent, the cleaning of common areas and the keeping of records, then this is in any case normal asset management.
In summary, the exploitation of leased real estate should generally be considered as normal asset management.
It then has to be determined whether or not the properties, even if their exploitation qualifies as normal asset management, were rightly included in the company’s capital. In this context, it is important to distinguish three categories of assets:
1. Mandatory business assets;
2. Mandatory private assets;
3. The ability to make choices.
If the immovable property belongs to the first or second category, it must form part of the company’s or private assets respectively. As far as the third category is concerned, you have the choice between treating the immovable property entirely as an enterprise asset or entirely as a private asset. The limits of this freedom of choice are indicated by reasonableness and fairness.
If no link can be established with the other activities of the company, either in the acquisition or in the operation of the immovable property, they do not form part of the capital base. In that case, private assets are required.
You will then have exceeded the limits of reasonableness and fairness by including the immovable property in your business assets. The buildings can therefore be transferred to private use with retroactive effect to the time of purchase, on the basis of the so-called ‘error theory’. In that case, the book profit on sale remains untaxed.
It is clear that this path is met with resistance from the tax administration and requires intensive fiscal guidance. Do you recognize yourself in this situation, please contact your tax advisor to sell house fast San Antonio.