Wait, don’t run away screaming because the posts title states “Taxation”. This one is interesting (for the Dutch at least)! As you might be aware, we currently have all our Real Estate being taxed in Box 3, to benefit from the most favourable taxation option. However, if you would to purely FIRE on Real Estate in the Netherlands, which taxation options is best? Our post today will try to shed some light on this. We present to you Dutch Real Estate: Taxation Options.
Disclaimer: we are not tax professionals and this is only our interpretation of the tax code. Consult a specialist if you want to make sure the tax approach is best your situation!
If you read this post in the past (prior to 27 september 2019), you will notice some changes. Errors have been removed from previous calculations and calculations were modified due to new insights into the tax system.
Real Estate Taxation Options Introduction
As noted before, the Dutch tax system is quite complicated, but also gives you various options to manage the taxation of your Real Estate. It all depends on what you want to achieve and how actively you want to participate in your Real Estate. For today we will look at 3 taxation options:
- Taxation of Real Estate income in Box 1:
- Taxation on Real Estate when incorporated, with Box 2; and,
- Taxation of your wealth in Real Estate in Box 3.
Let’s have a more detailed look at that the different options would entail. Note that the general deduction (Algemene Heffingskortingen) should be the same for Box 2 and 3 options. It is subject to your income for Box 1 and therefore varies.
Box 1 Real Estate Income Option
First off, in principle the government almost always sees your Real Estate as wealth under Box 3. However, and this is where the tax law gets a bit fuzzy, when your Real Estate ventures (buying, sell, renting out) start to resemble “an active business”, the income is taxed as if you “work”. In this case your Real Estate income would be considered under Box 1. For the Dutch among you, this is a good post with some clarifications.
However, for this assessment we assume you actively manage your properties (assumed as long-term rentals). The taxation in this case is based on the net income you make from the property. You will have to report 100% of this net income, over which you will pay income taxes and social insurance premiums.
Box 2 Real Estate Dividend Option
Another option to deal with your Real Estate is to incorporate into a business. In this case you can manage the properties anyway you please. You can also use the depreciation of the buildings and pretty much all other costs to limit your profit (and thus taxes). On this profit you will have to pay 20% tax (flat rate). Whatever is left, you can pay to yourself as dividend, which is taxed at another 25% (flat rate). In short, your net profits are effectively taxed with 40%.
We have actually incorporated before when we were still living abroad, because at that time it was an interesting option to limit our overall tax burden. However, you have to be very careful with this option. Here is why. There is a “ter beschikking stellen” clause in the dutch tax code. This means that if you loan money to your own business, you have to report income on this loan under income taxes (Box 1). If you already have paid employment, this taxation could be as high as 52% (2017)!
The interest rate your company pays on your loan also has to be conforming to market rates. You are not permitted to charge excessively high interest rates or no interest at all. In the later case the tax man will assume an interest rate for you and will tax you on it…..so be warned. Considering market conforming rates are currently in the order of 3-6% (-isch), you would only net 1.5-3% on this loaned money after taxes. Not very appealing!
Box 3 Real Estate Wealth Option
As noted in the introduction, and as also explained here and here, Box 3 taxation is based on your wealth. For Real Estate purposes this wealth is calculated as the government assess property value (WOZ) times a factor that is based on the rental income. If you have a profitable property, this percentage is usually 85%. Next, you deduct all your mortgagee and loans, which leaves you with your net “wealth” for tax purposes.
Depending on your wealth, various taxation percentages apply. Note that, in order to be qualified for Box 3 taxation, you will need a property manager that takes care of the rental property for you, as this investment has to be “passive” (read: no “work” required).
Now, let’s compare the 3 taxation options to see which one is best to FIRE purely on Real Estate only in the Netherlands.
We have assumed the following for a single person:
- Property market value (4 units) €500.000
- Properties WOZ value (4 units) €450.000
- Yearly rental income (gross) €50.000
- Insurances: €1.500
- Maintenance (3% market value): €15.000 (assumed primarily done by external parties; equal amount spend each year)
- Property Taxes, sewage, garbage, etc.: €2.500
- Marketing Costs (€50/month): €600
- Property Management (tenant selection): €1.600
- Property Management (monthly fees): €3.000
- Yearly business expenses (year end statement, accountant, etc.) €1.000
- Box 1, 2 and 3 taxes as per 2017
- General Tax credit (Algemene heffingskorting): €2.254 (pro rated as required)
- Labour Tax credit (Arbeidskorting): €3.223 (pro rated as required)
For this example no mortgages are taken into consideration. If you want to see how this work for you, include the interest as an expense for the Box 1 and Box 2 options. For Box 3, correct your wealth for the mortgage value. Simple as that.
Tax rates and social insurance premiums for 2017 are used for the calculations. Utilities are assumed to be paid by the tenants. We have kept costs for insurances, property taxes and maintenance the same for all options.
Box 1 Tax Results
For this assessment we have assumed we need about €600 per year in marketing costs for the various units when they become available on the market. You may find this higher or lower depending on what you do and which platform you use.
Based on the assumptions above, the Net Income is about €23.824. This could be improved a bit if you do some of your own maintenance. Do realise that for every euro reduction in expenses, you only earn about €0,6 back in net income due to taxes and social insurance premiums (and change in tax credits).
Box 2 Tax Results
We have had several people question why we don’t incorporate. This is why! The net income you can withdraw from a company (in the form of dividends), after paying profit and Box 2 dividend taxes, is lower then if you manage the property yourself (at least for this scenario). The total net income comes to only €19.894.
There are some other reasons to incorporate obviously, of which a big one is the ability to limit personal liability. Incorporation might still be appealing for certain people and situations, but you really need to do your homework here.
Note: you still have to perform work at the company as you actively manage the properties. If you work for the company you also need to pay yourself income (which comes in Box 1 for tax purposes). However, for simplicity reasons, this has not been taken into consideration. If you would, the profit, and thus the available dividend, becomes smaller. You would get some of this lost income back via Box 1 income. We are also assuming you don’t pay yourself the minimum Major Shareholder amount (which is €45.000 per year), obviously.
Box 3 Tax Results
This leads us to Box 3 Real Estate investments, which is the winner with the lowest taxation and thus the highest net income at €24.110. Even with the additional costs for a property manager (in terms of both selection fees and monthly fees), you are still better of from a net income perspective.
This is a double bonus, as you don’t do any of the work and still get more at the end compared to Box 1 and Box 2 investing. How good is that?
Discussion and Notes
We did some more calculations for higher incomes too. We made the same calculations for a €1M Real Estate portfolio for a single person. This showed exactly the same results; with Box 3 investments outperforming both Box 1 and 2 by a (healthy) margin. If you are a couple and you have a €1M Real Estate portfolio, you can even benefit more as you can split the income or wealth and limit your taxes that way.
Now, the above is simplified obviously, as it is rather difficult to compare the three options due to all the requirements and options/limitations. Have a look at your personal situation to find out what works best for you!
Box 3 is also a lot more interesting when you still have a job, otherwise any income from your real estate could be heavily taxed and you miss out on the benefits of the various tax credits.
Based on the above assessments and assumptions, you are best off getting a property manager and maintain all your Real Estate investments in Box 3 for tax purposes. Best of luck!
Does this provide new insight to you? Have I missed anything critical? Did I make an error somewhere, please do share!