Is it Worth Investing in Real Estate Thru RE Funds?
Dr. Nóra Rácz, Partner, Senior Consultant, LeitnerLeitner
A company engaged in real estate development and the sale and purchase of it is subject to numerous taxes, such as VAT, transfer, corporate income, local business, and land and building taxes. Real estate funds, however, offer an attractive opportunity for investors since they can reach several tax allowances. Therefore, after discussing the legal provisions and possibilities, funding a real estate fund could be a good solution for those considering property management or development. Alternatively, since this is undeniably challenging, involving their project companies in an existing RE fund could also be an option.
A real estate fund is a special investment fund, a pool of assets jointly owned by investors and created and managed by a sub-fund manager (with the assistance of other institutions). It is an instrument that allows investors to place their savings in a simple, secure, and cost-effective way, sharing the risks in the real estate market and thereby capitalizing on favorable market trends. However, there are negative aspects to its establishment as well, such as high capital requirements and legal approval difficulties.
RE funds can be open-ended, primarily offering a good investment opportunity for small investors since they don’t require as much capital as would be needed to purchase, maintain, manage, sell, or rent out a property individually to make their investment profitable. At the same time, these smaller investments can provide a source of funding for the fund’s owners to develop and sell properties. Closed-end RE funds don’t raise capital for development but are created from the more substantial capital of a select group of investors, allowing them to finance their projects but with more favorable tax conditions.
So, how different is the taxation of real estate funds from that of the management of a traditional real estate business?
Unlike traditional businesses, RE funds are not subject to either corporate income tax or local business tax. Furthermore, the RE funds can also get credit from real estate transfer tax. Real estate purchases, in general, are subject to a transfer tax of 4% of the market value of the property. If the market value of the property is above HUF 1 billion, the tax will be only 2%, but the tax may not exceed the HUF 200 million limit per real estate. Nevertheless, if a licensed real estate fund purchases the real estate, the tax on the acquisition of the property is 2% of its market value, net of any encumbrances and without the HUF 200 million upper limit.
But there is no difference in liability of paying building and land tax between RE funds and other business forms. The owners of a property or part of the property on the first day of the calendar year have to pay the tax to the local authorities.
There is a duality about the rules concerning VAT payment: they partly conform to general regulations, but, in certain aspects, RE funds receive exemptions as well. The real estate fund is subject to value-added tax, which means that it must pay VAT and can deduct it in the same way as if it were not selling or buying the property as a real estate fund. For second-hand property, the rate is 27%, but taxpayers are entitled to a 5% tax reduction on the sale of new residential property. However, there is a special rule for investment funds, as the management of these and venture capital funds, including RE funds, are exempt from VAT.
Last but not least, individual investors have an allowance in social contribution tax. As a general rule, the owners of investment certificates must pay a 15% personal income tax (interest tax) on the profit generated from their sale and, from the summer of 2023, a 13% social contribution tax. However, investment certificates of RE funds are exempt from this new tax.
You may rely on LeitnerLeitner’s specialized full-scope tax incentive service package. Leitner Leitner is one of Central Europe’s most influential full-scope (tax, accounting, payroll audit and legal) consulting companies, with global coverage through the Taxand and Praxity networks.
This article was first published in the Budapest Business Journal print issue of October 20, 2023.
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