Canada and the United States share the longest land border in the world. As a result, our economies are intertwined, and individuals frequently move between the two countries for work or family reasons. United States citizens living in Canada need to be aware of many tax and financial considerations to avoid any issues in the future.
The United States is one of only two countries in the world that has a citizenship-based tax system. This means that all US citizens or green card holders must file an annual income tax return regardless of where they reside during the year. This differs from Canada and most countries which utilize a residency-based tax system. Residency-based tax systems only require you to file a return if you reside in the country during the year, or if you earn certain types of income from sources within the country.
Many US citizens are unaware of the requirement to file an annual tax return, and many are not even aware that they are citizens. Generally, you are a US citizen if you were born in the country. You may also be a citizen if you were born outside the country to US citizen parents. It is common for individuals to be born in the country and leave soon after birth. These individuals are often unaware that they should have been filing an income tax return each year during their adult life. Fortunately, there are options available to rectify this issue which will be discussed below.
Due to the different tax systems, US citizens living in Canada must file an income tax return in both countries every year. This does not mean that you will be subject to double taxation. For the most part, foreign tax credits can be claimed for taxes paid to the other country on income earned from sources within that country. For example, you may be living in Canada and earn employment from Canada, but also earn investment income from a US portfolio. Foreign tax credits can be claimed on your US return for the Canadian taxes paid on employment income, and foreign tax credits can be claimed on your Canadian return for the US taxes paid on the investment income.
While foreign tax credits can be claimed to eliminate double taxation in many situations, there are a few notable situations in which the US may impose taxes on amounts that are not taxable in Canada:
Tax-Free Savings Accounts—the US does not recognize TFSA accounts. Therefore, income earned within these accounts must be reported on your US income tax return. As a result, it is generally not beneficial for US citizens to maintain these accounts.
Principal Residence Exemption—in Canada, a capital gain on the sale of a principal residence is not taxable. However, there is no similar exemption in the US. You may be able to exclude up to $250,000 USD (up to $500,000 for spouses filing a joint return) of the capital gain in the US if certain criteria are met.
Capital Gains Exemption—Canadian taxpayers may have access to a lifetime capital gains exemption on the sale of certain properties, such as shares of a qualifying small business corporation. While the gain may not be subject to tax in Canada, it will be taxable on the US return.
Capital Dividend Account—private corporations in Canada may have access to a Capital Dividend Account. This account allows for payment of capital dividends which are not taxable on the Canadian income tax return of the shareholders. However, these capital dividends will be taxable on the US income tax return. It is advisable to only pay capital dividends to non-US shareholders.
There are also many forms which may be required to submit in the US each year depending on your personal situation. The penalties for not submitting these forms can be substantial, often $10,000 to $25,000 per year, or more. These penalties can also apply if a form that is submitted is inaccurate or incomplete. Some common examples include:
Financial account disclosures—if the aggregate value of your non-US financial accounts exceeds $10,000 USD, you must file a Report of Foreign Bank and Financial Accounts (FBAR) each year. The FBAR is a separate filing from your income tax return. If the aggregate value of your non-US financial accounts exceeds $200,000 USD at the end of the year, or $300,000 USD at any point during the year, you may also be required to file Form 8938 Statement of Specified Foreign Financial Assets with your income tax return.
Passive Foreign Investment Company (PFIC)—a PFIC is a non-US corporation that primarily derives its income from passive sources, such as dividends, interest, rents, royalties, etc. If you own shares of a PFIC, you must file Form 8621 Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund on an annual basis for each PFIC that you own. Most non-US mutual funds are considered PFICs. As these forms can be very time consuming and costly to complete, it may be advisable to avoid ownership of these securities.
Controlled Foreign Corporations (CFC)—a CFC is a non-US corporation in which US citizens own greater than 50% of the voting shares. There are annual reporting requirements to report certain information regarding your ownership of the CFC. Furthermore, you may be subject to the Global Intangible Low-Taxed Income (GILTI) on the earnings within the corporation. Without proper planning, this tax could lead to double taxation.
Foreign trusts—owners or beneficiaries of non-US trusts may be required to report certain information with respect to transactions with the trust and activity within the trust during the year.
Taxpayers who have not been compliant with any of the above obligations may be eligible to make a submission under the streamlined filing compliance procedures. This program is available to taxpayers who were not compliant due to non-willful conduct, such as being unaware of their filing obligations. You must submit the prior three years of income tax returns and six years of FBARs as part of this submission. Submissions accepted under this program will generally not be subject to penalties.
There are many additional issues to consider other than those discussed above. Cross-border tax issues always require careful analysis and consideration to ensure you are compliant with your obligations on each side of the border.
For more information, please contact firstname.lastname@example.org or 1 844-GYTD-CPA