After a couple of visits to the Algarve this past fall, we began looking at real estate opportunities as we are considering a full-time move to Europe and the Algarve really has a lot to offer, at least for our lifestyle. It did not take us long to find a few properties we liked, two that were in the same development near Carvoeiro.
We soon discovered that many of the titles for the homes (not so much the condominiums) in this region are not held by individuals but by an off-shore company. Looking into further it seems this is the way things have been done here for quite a long time, and for some good reasons.
- Inheritance Taxes. Up until recently, inheritance taxes were horrible in Portugal. There was, so I’m told, potential inheritance taxes if the property was just passing from husband to wife, let alone to the children. So having the title held in the name of a company, which wouldn’t change when someone within the company died, solved that problem.
- Available Financing. Financing, in the past, was difficult to obtain for foreigners looking to buy real estate in Portugal. A solution to this was to have the title held offshore at a bank, which then would lend to the company using the property as collateral. This allowed many Brits to buy in the Algarve with financing from a British bank, something they would not have been able to obtain otherwise. It really helped the Algarve real estate market boom.
- Easy and Quick Closing. Because it is just a transfer of shares, closing then and today is easier and less expensive.
- Anonymity. When it is held offshore, no one knows that you are the owner of the property. There are reasons, some legal and some not, why people look for this type of ownership anonymity (although today the amount of anonymity available, especially with FATFA and other global regulations, is becoming increasingly more difficult to obtain).
- Saving on the Property Transfer Tax (IMT) at closing. As Portugal doesn’t know the property has actually been sold, they can’t charge the Property Transfer Tax. It was a savings back then and it’s a savings today. But does that make it right? Why should one owner get a benefit that another owner doesn’t? And I’m sure the Portuguese government would love to be receiving these funds.
- Capital Gains Taxes. Something else it did, which is a little more sinister, is that it allowed people to avoid paying capital gains taxes. When they wanted to sell the property, they would just sell the shares of the company. Portugal would never know this, that there were new owners, as the name on the title (the offshore held company), would remain the same.
Today in Portugal, inheritance taxes and available financing are not considered problems. Searching for anonymity can create more problems than it solves. And trying to avoid paying taxes, well, that has always been a game that can come with inherent risks, risks one needs to be fully informed as to what potential future ramifications could be.
Avoiding capital gains only works as long as the laws regarding real estate and capital gains do not change. But they can and they have. They did in 2003-2004 in Portugal, which sent many people with a property title held by company domiciled in a blacklisted off-shore country (and now no longer acceptable nor legal), hastily looking for another solution to their “bending-0f-the-rules” problem.
After living in Mexico for 30 years and being quite involved in the real estate industry, watching it grow, progress and see how the government can catch-up to how things are done, I learned that when you try to beat or get around the system, using a loop-hole that is questionable or just a short-term fix, you are playing with fire for sooner or later it can catch up to you. It is like the handling of a hot potato, when it’s called out will you be the one caught holding it?
In my opinion, it is gambling. If you do so, you are potentially on the line for any capital gains taxes that may be outstanding. Many of the homes in Portugal were built in the 90s when the market was “hot”. Since then real estate has certainly appreciated. If a home that was built for $100,000 back then and is now selling for $500,000, no matter how many owners there have been in between, no capital gains taxes have been paid. So if you are the buyer, you are, in essence, taking on a potential tax liability for as much as $100,000. That $500,000 home would now cost you $600,000. Who wants to take that inherent risk?
And it is a very real and potential risk. Governments are coming down hard on off-shore countries. Governments are getting better and better at collecting taxes. There is a strong demand for transparency, and if taxes are due, they should be paid, not avoided. They may already be considering changes, implied in this story
Already new laws regarding anti-money laundering and the financing of terrorism, have created a vast array of new obligations for all those involved in the setting up of corporate structures, ranging from lawyers, civil servants (notaries), financial advisers to bank employees. It is now mandatory that the ‘beneficiary’ of such structures such as an offshore company, be disclosed and clearly identified. And the direction governments are going, together, is towards even more transparency.
British solicitor Ronald Swyer writes when asked if there are any reasons not to consider corporate ownership, “you should keep in mind that corporate ownership of a property would always imply that there is usually a built in capital gains tax liability should you be forced to sell the asset and this amount can usually be calculated before you buy. You should also consider whether the value of the property is enough to justify the long term costs of running the company and whether you intend to keep it or sell it in the short term. Purchasing property owned by a company does require a certain knowledge of the company law applicable to the particular jurisdiction in which the company happens to be registered. It also requires a full knowledge of the Portuguese conveyancing system and property laws to ensure that the house or villa you are buying is fully legal.”
Although I haven’t been able to confirm this (looking for a legal opinion), from what I have gathered so far it is not even legal in Portugal to recommend establishing a new offshore company to hold real estate. But it is to use an existing one?
Unfortunately, close to 60% of the homes in the Algarve are still held in companies off-shore. This means that if you are looking for a home and you don’t want deal with the potential risks of this type of ownership, the number of homes available to you has just been seriously diminished. That said, of these 60%, 85% are held in a Delaware type trust. What are the chances that Portugal is going to go up against Delaware (and therefore the USA), in order to correct this problem? Probably very slim. So if you are going to by a home within a trust outside of Portugal, probably best that it is a held in Delaware.
From my short time in the Algarve I’ve come to conclude that the market is being held back by such a large inventory of property titles held in offshore companies. The real estate market is most likely going to increasingly see the number of people willing to take on such a property diminishing. So at sometime owners of these properties are either going to have to face reality and move the title to Portugal, or, discount their price for a purchaser by taking into consideration what the capital gains may or should have been paid up until that point in time. A day of reckoning is coming, it is just a matter of when it will happen. But the again, how will Portugal handle going up against a Delaware trust?
Looking online at real estate brokerage sites, or most website available that explain these two forms of ownership, you wouldn’t think there’s a problem. But that could very well be because most of them make a living from selling real estate in this region and if it is seen as a problem, they’d sell less real estate. Over in Spain, they seem to have already seen the writing on the wall, and real estate professionals and lawyers are now quite hesitant to recommend the use of an offshore company. It is actually quite amazing to see in print on many Algarve real estate websites, praising of the benefits of corporate ownership because they can avoid paying Portuguese taxes!
If you go to online Algarve forums where individuals homeowners talk about the problem, many of them talk of being “caught” and highly recommend staying away from properties where the title is held by a off-shore company. So far, I’m taking their advice.