Use of Holding Companies for Real Estate Management

A holding company is very often used for real estate management as it offers a number of advantages for this business. After all, this is a tool that allows you to solve a number of important business tasks: ensure asset protection, optimize costs (in particular, the tax burden), and enhance the quality of property management.

However, if you intend to set up a business structure where a holding company will own real estate, you will need to take into account all the nuances of tax and corporate legislation. Those who venture to establish a holding structure on their own often lack the knowledge and business experience required to do it properly, which may ultimately result in the loss of property and personal funds. Therefore, we strongly recommend using the services of business professionals in such cases. It’s like a house – you need an architect to make sure the structure will endure the load.

Real Estate Holding Company: What is it?

Can a holding company own real estate? Of course. A real estate holding company is a business entity created specifically to protect its owners from the risks associated with investment property possession. 

In most cases, real estate holding companies take the form of a Limited Liability Company (LLC). They are not closely engaged in business operations and mainly serve as the owner of various assets. The purpose and objectives of such a business structure consist in limiting the personal liability of real estate owners, which may arise through debts or other obligations assumed by the company.

The holding companies were first used as corporate owners of real estate back in the 1970s, but it was not a widespread business practice until about 2015. At present, they often serve as a tool that helps reduce legal and monetary risks associated with the owner’s identity. Also, ownership of investment property through a holding company gives access to a number of tax benefits and simplifies the management of facilities.

Who Needs a Real Estate Holding Company?

A real estate holding company is usually an excellent choice for short-term and long-term investors. Any real estate investor can ensure the protection of personal assets from any business liability and reasonably separate his income from real estate and personal income. The establishment of holding companies is relatively inexpensive, and the benefits tend to outweigh the costs of business administration and maintenance. 

All investors who can profitably use a real estate holding company can be roughly divided into the following categories:

• Fix-and-flip investors who buy a piece of real estate, have it repaired, and then sell it at a profit
• Passive investors that buy residential real estate for the purpose of further lease
• Investors that deal with commercial real estate only. This group of investors is interested only in commercial objects, such as warehouses, logistics hubs, shops, industrial buildings, etc.

Real Estate Holding Company Structure

The standard structure of real estate ownership with the help of a holding company looks as follows: there is a corporation or an LLC at the top, and it has a number of subordinated subsidiaries. In the real estate market, subsidiaries are usually created separately for each object of investment. 

The holding company itself is not directly involved in the day-to-day operations related to each house, apartment or villa, but plays the role of the parent company. As a result, the real owner of the real estate item exercises control over the property, while all liability to creditors rests with the subsidiaries. 

The result of all real estate objects management can be clearly seen in the holding company’s financial statements which reflect the total business operating income, liabilities, and ROI. If necessary, you can transfer part of the income from a more profitable object to a loss-making one and thereby reduce the fiscal burden on the entire business group.

Why Would a Holding Company Buy a House?

The answer is obvious: it helps to ensure better asset management and reduce maintenance costs. 

Here is a simple example: a holding company can be used to buy a house and reduce the tax base. If you pay for real estate maintenance using your personal funds, it will not affect your fiscal burden. However, if the house is owned by a holding company, everything changes for the better: it pays the costs of its maintenance and thus reduces its tax base, so you pay less taxes.

Second, you will benefit from buying a house through a holding company as it will limit the investor’s personal liability. If the latter owns several pieces of real estate around the world, the risks may be considerably diversified if you create a subsidiary for each of them. In case of trouble, the subsidiary’s liability to creditors will be limited to its assets, that is, only one real estate item it owns. Thus, the investor will be able to lose one property and keep the rest of the real estate intact.

Shared responsibility is yet another reason to set up a real estate holding company. Real estate is often acquired by several persons who make a joint investment, which results in attracting more capital to the business and making a purchase on more favorable terms. However, this requires reliable protection of each investor’s personal finances, and the structure of the holding company with multiple subsidiaries copes with this task in the best possible way. First of all, LLCs limit the owners’ personal liability when it comes to potential property-related lawsuits.

Last but not least, a real estate holding company can be used to reduce taxes. Individuals are traditionally taxed at higher rates than business entities: for example, the corporate income tax in the UK amounts to 19%, while the personal income tax is withheld at a rate of 20% or higher.

Advantages of Flow-Through Taxation of Holding Companies that Own Real Estate

Investors often create holding companies in the form of LLCs to optimize taxation.

The 1988 court decision allowed property owners to avoid double taxation by acquiring real estate through LLCs. The Internal Revenue Service (IRS) treats a single-owner real estate holding company as an individual enterprise, also referred to as a “disregarded entity.” Accordingly, any income and capital gains derived from the business will belong to the owner. The latter is further obliged to pay taxes on the profits received from the business, but only as an individual. At the same time, the owner remains protected from personal liability.

Since the establishment of an LLC is not subject to a separate tax, business owners can avoid double taxation. Neither the rental income received from the property nor the increase in value upon sale will entail tax penalties for the business. In addition, single-member LLC owners may deduct mortgage interest and thus reduce the tax base.

However, real estate companies owned by more than one person are treated differently by the IRS. These business entities, also known as “multimember” LLCs, are taxed similarly to partnerships. But at the same time, LLCs with several members also enjoy the benefits of flow-through taxation as this legal form provides for the transfer of profits or losses to its members. As a result, each respective business owner is responsible for filing tax returns on his or her share of profits (or losses) and fulfilling fiscal obligations.

Other Advantages of Real Estate Holding Companies

The main advantages of the holding company that operates in the real estate sector include the protection of investors from personal liability, flow-through taxation, and more efficient business management. However, these structures allow for solving the following problems:

• protection of business owners from debts and liabilities related to their property
• prevention of double taxation
• simplified management of your property
• lower business administration costs
• more flexibility in the distribution of profits
• the possibility to buy and manage real estate in different countries
• simplified procedure for the transfer of real estate
• reduction of inheritance tax

The business owner can also calculate the time of dividends payment for maximum tax efficiency or distribute them to his family members if their income does not exceed the established basic limits and is taxed at a lower rate — or simply leave profits inside the company to purchase the next property.

Strengths of Different Legal Forms of a Real Estate Holding Company

Real estate holding companies and their subsidiaries may be organized as an LLC, a corporation, a partnership, or a sole proprietorship. Each of these forms of business has its own benefits that we are going to discuss below.

Strengths of an LLC

An LLC is the most popular form of a holding company set up for the purchase of housing, commercial and other real estate, and this is explained by its impressive characteristics:

• easy to manage: this business structure makes it very easy to delegate managerial responsibilities and positions. While a corporation is required to have officers and directors by corporate law, an LLC can be freely managed by its owners or even by a third party
• low cost: state registration and administration fees are lower for LLCs
• flexibility: an LLC provides real estate investors with incredible flexibility in distributing profits. Unlike an S Corporation, an LLC is not required to distribute them on an equal basis, and company members may allocate them wherever they need
• easy transfer of ownership: a holding company in the form of an LLC greatly simplifies the procedure for transferring business ownership. Real estate can be permanently donated to heirs (the frequency of this action is subject to restrictions imposed by corporate law), which also helps to optimize the taxes and expenses that arise when an individual purchases real estate.
• Increased privacy: some business owners wish to remain anonymous, and they can set up an anonymous LLC where the owner is not recorded in any state documents.

Advantages of C Corporation Holding Structures

This company form is an independent business entity that protects its owners from personal liability for corporate debts and obligations. However, a C Corporation is usually taxed at several levels (corporate tax and income tax). 

Here are the advantages of this business form:

• its owners are personally liable only within the limits of their investments in the company
• its owners may have the status of an active manager or a passive investor
• there are no restrictions on the number of shareholders
• a simple procedure of business ownership transfer: all that an owner will need to do is sell the shares
• corporations last longer than their owners: the owner may no longer be there, but the corporation will continue to exist.

Real Estate Holding Company Organized as an S Corporation

An S Corporation is established in the same way as a C Corporation – but, unlike the latter, it is regarded as a flow-through business entity for tax purposes. Moreover, S Corporations are not subject to double taxation because of their transit structure. 

Advantages of an S Corporation:

• It possesses all the advantages listed in the C Corporations section
• S Corporations prevent double taxation thanks to their structure.

Holding Company as a Sole Proprietorship 

Under corporate law, an individual enterprise is not considered a separate legal entity. This is the simplest form of doing business, which, in fact, attracts many people. However, it should be borne in mind that a sole proprietorship does not share personal and business liabilities.

This business form has a number of advantages, though:

• It requires a minimum package of documents for registration
• It has the lowest cost of business establishment
• Its administration is as simple as it can possibly be: there is no need to fill in additional tax returns since all the profits and losses are indicated in the owner’s tax return
• All business operations depend on one person, the real estate owner.

Do Real Estate Holding Companies Pay Taxes?

Of course, they do. However, their amount varies depending on the organizational and legal structure. 

For example, a holding company with one owner is considered an individual entrepreneur, which means that the enterprise itself has no obligation to submit documents to the IRS and pay taxes: these obligations are imposed on the business owners.

On the other hand, an LLC with two members is regarded as a partnership, and it means that each business owner is personally liable for paying taxes on his or her share of income.

Finally, if a real estate holding company is set up in the form of a C Corporation, it is required to submit tax reports and pay taxes.

As you see, the taxation of holding companies can be organized in different ways. As this is a key feature that will have a considerable influence on your future profits, we strongly recommend making an informed decision with the help of a specialist. Send us your contact details at info@offshore-pro.info and our experts will get in touch with you shortly to discuss the establishment of a future holding structure to be used for real estate management.