If you’re investing south of the border, the U.S. revenue agency will want to know what you’re up to. Read on to find out to deal with the IRS (Internal Revenue Service).
Knowing that the U.S. revenue agency will have an interest in you
You are probably quite familiar with paying taxes to — and dealing with — the Canada Revenue Agency (CRA). However, a number of individuals who live in Canada also have the pleasure of filing an income tax return with the U.S. Internal Revenue Service — better known as the IRS.
Not to ruin the party, but if you die owning U.S. assets you can be subject to U.S. estate tax. Yikes! You must file an income tax return with the IRS when you fit into one of the following categories:
You’re a U.S. citizen: U.S. citizens are required to file a U.S. income tax return (IRS form 1040), report their worldwide income on the return, and pay U.S. federal income tax no matter what country they live in.
Credit: "Filing Taxes," © 2012 Phillip Taylor PT, used under a Creative Commons Attribution 2.0 Generic license: http://creativecommons.org/licenses/by/2.0/legalcodeCanada’s income tax treaty with the U.S. and the Canadian and U.S. foreign tax credit mechanisms are designed to avoid having taxpayers taxed twice on the same income. So, reporting the same income on your Canadian and U.S. income tax returns (adjusted for the different currencies, of course) does not mean you’ll be subject to double tax. The CRA and IRS aren’t that unfair.
You’re a “green card” holder — or the holder of a U.S. Permanent Resident Card These folks have the same U.S. tax filing rules as a U.S. citizen. (By the way, the card is no longer green.)
You’re a Canadian resident considered by the U.S. to be a “resident alien” or “non-resident alien”
Figuring out your residency status
Determining whether you’re a resident or non-resident alien of the U.S. is not as straightforward as you might think!
Resident alien
You’re considered a resident alien of the U.S. if you meet the “substantial presence test” because of frequent stays in the U.S. and cannot claim the “closer connection exception” regarding your ties to Canada. You may find you’re a resident alien if you’ve moved to the U.S. on a temporary basis for work. Resident aliens are taxed in the U.S. on their worldwide income and must file a U.S. income return (IRS form 1040) — just like a U.S. citizen.
Substantial presence test
This test is based on your physical presence in the U.S. over the last three years. You’re considered substantially present in the U.S. when you were present during the current and past two years for at least 183 days. To determine the total days you were in the U.S., get out your calculator and add up the following (including partial days):
Each day this year counts as a full day
Each day last year counts as one-third day
Each day two years ago counts as one-sixth day
If you were in the U.S. for fewer than 31 days this year you will not meet the substantial presence test.
Closer connection exception
If due to frequent vacationing in the U.S. you do meet the substantial presence test, then you’ll be considered resident and required to file a U.S. tax return that reports your worldwide income.
However, you can avoid this tax filing if you’re able to claim you were more closely connected with Canada than with the U.S. because of your significant personal (home, family, assets, social, political, church, driver’s licence) and business ties to Canada. A closer connection exception is available if you, as the alien
Were present in the U.S. for fewer than 183 days this year,
Maintained a permanent place of residence in Canada throughout the year, and
Complete and file IRS form 8840, “Closer Connection Exception Statement for Aliens,” with the IRS by the deadline (June 15).
Non-resident alien
You’re considered a non-resident alien of the U.S. when you don’t meet the “substantial presence” test or you do meet the substantial presence test but can claim an exception due to having a closer connection to Canada. This includes a large number of Canadians, often referred to as “snowbirds,” who spend a great deal of time in the U.S. to avoid harsh Canadian winters.
A non-resident alien must file a non-resident U.S. income tax return (IRS form 1040NR) when the individual
Has U.S. employment income.
Has a tax liability on U.S. source income including employment income, interest, dividends, and royalties.
Is engaged in business that can produce income “connected” (the IRS’s word) with the U.S. For example, renting out your condo in Boca Raton, Florida or your vacation home in Tempe, Arizona. You may earn income from renting the property or you may have a capital gain on sale.
Even though the Canada–U.S. tax treaty is designed to avoid you being taxed in both countries, the U.S. has the first right to tax rental income and capital gains regarding real estate located in the United States. A U.S. income tax return filing would be necessary and any U.S. tax paid would qualify for a foreign tax credit when completing your Canadian income tax return.
If you are Canadian with U.S. portfolio investments such as mutual funds with U.S. exposure or U.S. stocks or bonds, you will probably notice that U.S. withholding taxes will be taken off your U.S. source investment income such as dividends or interest. If you don’t meet the above tests requiring you to file a U.S. tax return, your obligation to the U.S. ends there. Remember to claim the taxes withheld as a foreign tax credit on your Canadian tax return to ensure you are not double taxed.
Filing U.S. tax returns on time
Individuals are taxed based on a calendar year, just as in Canada. The key dates to remember are:
April 15 (not April 30!):
Due date for previous year’s income tax owing
Due date for filing IRS form 1040 income tax return (U.S. citizens, green card holders living in the U.S., and resident aliens)
Due date for filing form IRS 1040NR for non-resident aliens with income subject to withholding tax (i.e., employment income)
June 15:
Due date for filing IRS form 1040 income tax return for U.S. citizens living in Canada
Due date for filing form IRS 1040NR for non-resident aliens with income not subject to withholding tax
Due date for filing IRS form 8840 for the closer connection exception
Don’t forget about state, county, and city taxes
Own property in the U.S.? If you’re considered a resident alien, you may be required to file a state, county, or city tax return for the area in which you own property. For further information, go to the State and Local Government Website Directory.