If you are considering permanently moving or accepting a short-term assignment
to the US, there are a number of important tax considerations in both
Canada and the US that should be addressed to ensure that that the move
goes smoothly for tax purposes.
Residency
A resident of Canada is subject to Canadian income tax on
global income. To avoid double taxation, Canada grants a
foreign tax credit for foreign income taxes paid on income
earned in that foreign country. The credit is subject to
a limitation based on the Canadian tax on the foreign source
income. A non-resident is subject to tax on income from Canadian
sources, such as bonuses and deferred compensation previously
earned in Canada.
Similarly, a resident of the US is subject to US income
tax on global income. The US also grants a foreign tax credit
for foreign income taxes paid on foreign source income. A
non-resident of the US is subject to US federal income tax
on income from US sources.
Since residence has a significant bearing on your global
tax liability, it is important to understand what determines
residence in both the US and Canada.
Canadian
An
individual’s Canadian residency status for tax
purposes is a question of fact and must be determined based
on all of the particular facts and circumstances. It is not
determined solely by the individual’s citizenship status
(as may be the case in other jurisdictions) or physical location.
An individual’s Canadian residence status will depend
on the amount of residential ties he or she maintains in
Canada. Examples of factors considered include the permanence
and purpose of your stay in the country, whether your
spouse and dependents accompany you, and the retention of
personal property and/or economic and social ties (e.g.,
club memberships).
A person is also considered a deemed resident of Canada
if the person is not otherwise a Canadian resident and he
or she is present in Canada for 183 days or more in a tax
year.
It is important to choose a date that the individual plans
to terminate Canadian residence and establish a plan that
will demonstrate the change of residence.
US
An
individual will be considered a resident of the US if he or
she meets
one of two tests: the “green card” test
or the “substantial presence” test. Under the “green
card” test, an individual who is a lawful permanent
resident (under immigration laws) will be considered a US
resident. Resident status begins on the first day that the
individual is physically present in the US as a lawful permanent
resident.
Under the substantial presence test, an individual will
establish US residence by being present in the US for 183
days or more over a three year period (an average of 122
days per year) computed under the following formula:
Number of days in the US in the current year
+ 1/3 number of days in the US in the prior year
+ 1/6 number of days in the US in the second prior year.
If the individual does not meet this test, he or she can
elect to be a US resident in the first year of presence in
the US if he or she is considered a resident under the substantial
presence test in the following year and meets the following
test: He or she is present in the US for 31 consecutive days
and from the beginning of the 31-day period until the end
of the year, is present in the US for at least 75 percent
of the time. A consecutive day includes any day in which
the person is present in the US for any part of a day. Consequently,
if you fly from the US to Canada on Saturday morning and
return to the US on Sunday evening, both Saturday and Sunday
are considered US days and do not break the consecutive day
period. The election will cause the individual to be a resident
of the US on the first day of the 31 day period.
US-Canada Treaty
It
is possible for an individual to be considered a resident
of both Canada and the US at the same time. In these circumstances,
the Canada-US tax treaty provides residency “tie-breaker” rules
so that the individual will be considered a resident of only
one country. Under the treaty, the following tests are applied,
in order, until affirmative for one country and negative
for the other:
- Permanent
home available
- Personal
and economic relations (centre of vital interests)
- Habitual
abode
- Citizenship.
If residence has not been broken to one country under these
tests, then the competent authorities of the two countries
will make a determination.
Canadian Departure Tax
Individuals ceasing Canadian residency are deemed to have
disposed of all their property immediately before ceasing
residency for its fair market value at that time. This deemed
disposition applies to most property and the resulting tax
is commonly referred to as departure tax. Some property is
excluded from being deemed disposed, including RRSPs, retirement
plans, stock options and Canadian real estate.
Where
the deemed disposition results in a taxable gain, the CRA
currently permits the individual to either pay the
tax or defer payment until the property is actually disposed
of, provided that “adequate security” is given
to CRA. No security is required for the first C$100,000 of
gain. Additionally, should the fair market value of the assets
be greater than C$25,000, CRA will require additional disclosure
on your tax return.
US tax law taxes a resident individual on capital gains
based on the difference between sales price and cost basis.
Cost basis is based on historical cost. Consequently, a departure
tax paid in Canada will not increase cost basis for US tax
purposes. To avoid double taxation, Canadian tax law allows
the individual to amend the Canadian departure-year tax return
to claim a credit for the US taxes paid on selling an asset
that was previously subject to Canadian departure tax. If
the individual does not wish to postpone Canadian departure
tax, he or she may consider selling the assets before establishing
US residence and repurchasing the same assets or other assets.
This will provide a new cost basis for US tax purposes, which
will avoid the need to amend previously filed Canadian return.
Canadian Registered Retirement Savings Plan
Canadian Registered Retirement Savings Plans (RRSPs) are
exempt from departure tax when an individual ceases Canadian
residency and are not required to be withdrawn before departure.
If an individual withdraws funds from an RRSP during non-residency,
the distribution will be taxed at a rate of 25%. The rate
can be reduced to 15% if paid as periodic pension payments
to a resident of the US.
As a resident of the United States who maintains RRSPs,
the individual needs to provide disclosure of accounts and
balances to the Internal Revenue Service as part of the tax
return. If proper elections are made, the United States will
not tax income earned in an RRSP until funds are withdrawn.
Other US Tax Issues:
- Purchase
of a US home
- Mortgage
interest expense is deductible for federal income tax
purposes for financing used to acquire
or improve a
primary or secondary residence. The mortgage limit for acquisition
indebtedness is US$1 million. An individual can also
obtain home equity financing of up to US$100,000.
A person must
be a US resident to claim this deduction. Prepaid
finance charges (“points”) on a mortgage
on the acquisition of a principal residence are deductible
in the year paid,
if incurred when a resident of the US. Otherwise,
the points are deductible on a pro-rata basis of the
life of the mortgage.
- Property
taxes are deductible if the individual is a US resident
when paid.
- Itemized
deductions (including state income taxes, mortgage interest
expense, property taxes, charitable
contributions,
etc) are reduced by 3% for each dollar earned in
excess of a threshold amount.
- The
gain from the sale of a principal residence is excluded
from US taxable income to the extent
of US$250,000.
If
the individual is married filing jointly, the
exclusion is US$500,000.
The individual must have owned and used the
home as a principal residence for at least two
years
out of
the
prior five
years before the date of sale. There are certain
exceptions to
the two-year rule if one is required to move
due to employment, health or unforeseen circumstances.
If
the exceptions
apply, a pro-rata portion of the exclusion
is allowed.
- Canadian
mutual funds
- A
US citizen or resident individual should avoid holding
Canadian mutual funds outside a registered
plan. Investments in foreign investment companies that meet the definition
of a “passive foreign investment company” may
result in adverse US tax consequences.
Short-term Assignments
As an alternative to a permanent move, individuals considering
working in the US may consider a short-term assignment. Employees
who are neither citizens nor residents of the US are subject
to US taxation if they work even one day in the US unless
they work for a non-US entity, the earnings allocated to
US work does not exceed US$3,000, and they spend no more
than 90 days in the US during the calendar year.
Canadian residents working in the US can take advantage
of two provisions in the US-Canada tax treaty to avoid the
US tax net:
- If
the Canadian employee earns less than US$10,000 from
an employer in the US during a tax year, such income
will be exempt from US income tax, or
- If
the Canadian employee is present in the US for no more
than 183 days during a calendar year and the remuneration
is not borne by a US employer nor by a taxable branch
(permanent establishment) of a foreign employer, such
income is exempt
from US taxation, regardless of the amount of US source
compensation.
Unfortunately, avoiding the US tax net may provide little
benefit if the individual remains subject to the higher Canadian
resident tax rates.
Totalization Agreement
Social
security taxes payable in Canada are significantly lower
than the social security taxes payable in the US on
the same level of compensation. The Agreement on Social Security
between the US and Canada (the “totalization agreement”)
may allow Canadian employees temporarily transferred to the
US to continue to be covered by the Canadian system and avoid
the higher US contributions.
Employees working in the United States during 2006 are subject
to US Social Security tax of 6.2% of the first US$94,200
of taxable compensation or a maximum of US$5,840.40. In addition,
the employee is subject to Medicare tax of 1.45% of total
compensation. The employer must pay a matching US Social
Security tax and the Medicare tax. The wage base is adjusted
upward each year. It is readily apparent that the US Social
Security and Medicare taxes far exceed the CPP liability
on equivalent income. The maximum CPP amount paid by an employee
for 2006 is Cdn$1,910.70.
Under the totalization agreement, an employee sent by his
or her Canadian employer to work in the US can continue to
be covered by CPP for assignments up to 60 months. During
that period, the employee would be exempt from US Social
Security and Medicare tax on the same income. This can result
in significant savings to both the employee and employer.
Generally, an employer cannot contribute to CPP on behalf
of a non-resident employee. However, a Canadian employer
can apply to cover non-resident employees located outside
of Canada if the employment would be pensionable employment
if it were in Canada and the employee was hired by the employer
when the employee was present in and resident in Canada.
The election will allow the employee to utilize the benefits
of the totalization agreement and avoid the higher US contributions.
To establish
an exemption from US social security and Medicare taxes,
the Canadian employer should file CRA form CPT56 to
request a Certificate of Coverage from the Department of
National Revenue, Taxation in Ottawa. The approved certificate
should be maintained by the US payroll agent. The Canadian
employer should file a T4 each year indicating the CPP contributions.
A footnote on the T4 should read “Filed for purposes
of the Canada-US Totalization Agreement”.
Disclaimer
|
"The
information contained herein is of a general nature and
is not intended to address the circumstances of any particular individual
or entity. Although we endeavor to provide accurate and
timely information, there can be no guarantee that such information
is accurate as of the date it is received or that it
will continue to be accurate in the future. No one should act on such information
without appropriate professional advice after a thorough
examination
of the particular situation.
KPMG and the KPMG logo are registered trademarks of KPMG
International, a Swiss cooperative.
© 2006 KPMG LLP, the
Canadian member firm of KPMG International,
a Swiss cooperative. All rights
reserved."
|
|
|
