Investing With Friends: Should You Form a Corporation?

Incorporating with friends to invest: What to know

You have a promising idea, Gael. Bringing together a group to invest in real estate and run small businesses can work well, but it raises several legal, tax and practical issues you should understand before committing funds.

Below I outline key areas to consider when creating a corporation or holding company with multiple unrelated owners, plus alternative structures and the trade-offs involved.

Alternatives to using a corporation

There’s no legal requirement to use a corporation to hold real estate or operate small businesses. Multiple owners can hold property directly as joint owners, or form other business structures depending on goals and relationships.

If only one person is involved, a sole proprietorship is simplest. With partners, a partnership is often more straightforward and cheaper to establish and maintain than a corporation. Partnerships avoid some of the formal corporate requirements and typically have lower up-front legal and accounting costs, and income flows directly to partners’ personal tax returns.

However, with a large group of unrelated investors and multiple asset types—rental property plus vending machines and ATMs—incorporation may make sense to centralize ownership, simplify management, and limit individual liability. A corporation can also make future transfers or sale transactions cleaner when many owners are involved.

Setting up a corporation: costs and complexity

Incorporating can be done yourself, but do-it-yourself incorporations often lead to mistakes in structure, share issuance, and governance documents. For a group of ten unrelated shareholders, working with a corporate lawyer is strongly recommended to set up the company correctly from the start.

Expect up-front legal fees to draft incorporation documents, shareholder agreements and any purchase or financing paperwork, plus annual costs to maintain corporate records and a minute book. Corporate accounting is also more involved than personal or partnership tax filings; most groups retain a professional accountant to prepare corporate tax returns and financial statements.

Because your venture will combine real estate and operating activities, you should budget for initial professional advice—legal, tax and insurance—and plan for ongoing accounting and compliance costs. These expenses can amount to a few thousand dollars initially and recur each year.

What is a holding company?

A holding company, often called a holdco, is a corporation that owns assets—cash, investments, real estate, or shares in operating businesses. An operating company, or opco, conducts active business operations like running vending machines or ATMs.

Some groups use two corporations: an opco to run the business and a holdco to own the assets. Separating operating risks from valuable assets can protect those assets from lawsuits, creditors or operational failures. Separating entities can also preserve tax or estate planning options if an operating business is sold in the future.

For a small, straightforward arrangement you might keep real estate and operating activities inside one corporation, but there are trade-offs in liability, tax planning and administrative complexity. Discuss these choices with legal and tax advisors to determine the most appropriate structure for your goals.

Shareholder agreements and governance

A detailed shareholder agreement is essential when many unrelated people own a company together. A lawyer should draft an agreement that covers what happens if a shareholder becomes incapacitated, divorces, dies, or wants to sell their shares. It should also set out how major decisions are made—renovations, sale of property, additional capital calls—and how disputes will be resolved.

Practical provisions to include are decision-making thresholds, buy-sell mechanisms, rights of first refusal, valuation methods for departing shareholders, and procedures for capital calls to cover repairs, vacancies or unexpected costs. Clear governance reduces the chance of costly disagreements and protects the investment for all participants.

Financing, mortgages and property purchase considerations

With a $150,000 down payment from the group, you will likely need a mortgage to finance the balance of a property purchase. Talk to mortgage professionals about financing a property owned by a corporation with multiple shareholders. Lenders will consider the corporate structure, the creditworthiness of the corporation and possibly personal guarantees from shareholders.

You might also consider holding the real estate in the corporation while operating the vending and ATM businesses either inside the same corporation or separately under individual ownership. Each approach has insurance, tax and liability implications, so obtain advice tailored to your situation.

Should you form a corporation for alternative investments?

Before creating a corporation with friends, consider other personal financial priorities: paying down high-interest debt, contributing to registered retirement savings (RRSPs) and tax-free savings accounts (TFSAs), and ensuring adequate disability and life insurance coverage. The venture you describe is relatively illiquid—your capital may be tied up for years—and shareholders should be prepared for possible capital calls to cover repairs, vacancies or cash-flow shortfalls.

Use money that you won’t need on short notice and ensure every participant obtains independent legal and tax advice so they understand risks, tax consequences and their ongoing obligations as shareholders.

Further reading on income, corporations and real estate:

• Is transferring your principal residence to a corporation a good idea?
• Owner withdrawals from a corporation: what’s involved
• Incorporated business owners: should you pay yourself a salary?
• Investing inside a corporation: what you need to know
• Should you buy real estate through a corporation?