Moving from Canada to the United States or another country in pursuit of opportunities is a major life transition. However, it’s important to be aware of the intricate tax implications that come with it. These tax considerations require thoughtful analysis and planning.
In this article, we will explore the tax implications for Canadians departing to the U.S. We’ll cover important topics like tax residency, managing Canadian investment accounts and properties, assets and investments, and the necessary obligations prior to leaving. Explore the key Canadian tax considerations when moving to the U.S. to ensure a seamless transition.
TAX CONSEQUENCES OF DEPARTING FROM CANADA.
Tax Residency: A Key Determinant
Your tax residency status will determine how Canadian tax laws apply to your particular situation. Upon leaving Canada, your residency status may undergo changes that could affect your tax obligations. It is imperative to determine your tax residency status prior to departure and make appropriate plans.
In general, individuals are considered residents of Canada for tax purposes if they have significant primary and secondary residential ties to the country, including a home, family, or economic interests.
They cease to be regarded as Canadian residents for tax purposes when they sever those residential ties to Canada and give up numerous benefits of living there upon their departure from Canada. As a result, they are considered as non-residents of Canada for tax purposes.
Residence is a question of fact, and in certain instances, some uncertainty arises regarding if and when an individual has ceased to be resident in Canada. The CRA generally considers an individual to cease to be resident in Canada on the date when they sever all residential ties with Canada, which in the CRA’sview usually coincides with the latest of the dates when:
- the individualleaves Canada;
- the individual’s spouse and/or dependentsleave Canada; or
- the individual becomes a resident of the country to which he or she is immigrating.
An individual may consider requesting a determination of residency status from the CRA when departing Canada by completing Form NR73. However, it is generally not necessary to do so, and unless there are exceptional circ*mstances, seeking such a determination is generally discouraged by most practitioners.
Taxation of Income Upon Departure From Canada
An individual who is a resident of Canada for tax purposes, is liable for Canadian income tax on their worldwide income in accordance with the ITA of Canada.
In the year of departure, an individual will be taxed as a resident of Canada on their worldwide income earned until the date when they cease to be resident in Canada. Subsequently, they will be taxed as a non-resident of Canada on income earned after date of departure specifically derived from Canadian sources.
Deemed Disposition & Departure Tax
In Canada, a departure tax is imposed on deemed disposition of certain assets by residents on the date they depart from Canada.
Individuals are deemed to dispose of their assets (with certain exceptions) at fair market value (FMV) on the date they cease to be residents of Canada for tax purposes. Fifty percent of any net gains resulting from the deemed disposition are included as income and subject to taxation at regular marginal rates.
This ensures that Canada effectively collects taxes on the portion of the gain that was accrued while the individual resided in Canada for tax purposes.
Investments and Pensions
Non-Registered Investment Accounts
Deemed disposition rules apply to non-registered investment accounts and generate a capital gain or loss as a result of deemed disposition of investments at fair market value (FMV) on date of departure.
Post emigration investment income will be subject to withholding tax in Canada based on country of residence for tax purposes.
If an individual is relocating to the United States, they can receive a bump up in basis of investments for US tax purposes by filing an election outlined in paragraph 7 of Articles XIII of the Canada-US Tax Convention (1980). According to this treaty, Individuals who have moved to the US will be subject to:
- 5%/15% withholding tax on dividends income from private and public companies
- 0% withholding tax on interest income
- Capital gains or losses will be re-sourced to the US by the treaty as long as at-least 10% tax is paid on them in the U.S.
Canadian Employee Stock Options
Canadian employee stock options obtained through employment services in Canada are classified as excluded rights or interests and are not subject to a deemed disposition upon emigration.
Once exercised, the stock options will generate a taxable stock option benefit in Canada. This will be the case even after emigration, as the stock options were granted as compensation for employment duties performed in Canada.
To report this taxable stock option benefit, an individual must file a T1 return and may be eligible for a stock option benefit deduction if the specified criteria are met.
Shares of a CCPC
Upon emigration from Canada, individuals are subject to a deemed disposition of Canadian controlled private corporation (“CCPC”) shares they own at fair market value (FMV).
If the shares qualify as shares of a qualified small business corporation (QSBC) at the time of emigration, individuals can take advantage of the lifetime capital gains exemption (LCGE) to offset the gain on the deemed disposition.
Any taxable capital gain that remains will be subject to taxation on the emigration return. An individual has the option to defer the tax payment by submitting form T1244. Nevertheless, if the tax amount exceeds $16,500, the CRA will require appropriate security to cover the tax liability.
There will be a deemed fiscal year end for the corporation on date of departure from Canada and its CCPC status ceases to exist.
Dividends paid by the corporation to non-residents of Canada are subject to a 25% withholding tax under Part XIII, which may be reduced by an applicable treaty rate. If the taxpayer holds more than 10% of the shares and is a resident of the United States, the rate may be reduced to 5% in accordance with the Canada-US Tax Treaty.
TFSAs
Tax-Free Savings Accounts (TFSAs) are classified as excluded rights or interests and are not subject to a deemed disposition upon emigration.
An individual has the option to retain the TFSA even if they become a non-resident of Canada. However, it’s important to note that investment income earned in a TFSA may not remain tax-free (e.g. upon relocating to the US) after emigrating from Canada.
As a non-resident of Canada, individuals will no longer accrue additional TFSA contribution room. Contributions made to a TFSA while being a non-resident are subject to a penalty of 1% for each month the contribution remains in the account.
The optimal approach is to recognize all accrued gains on investments held in the TFSA and withdraw the proceeds tax-free while residing in Canada. This prevents the potential transfer of accrued gains on investments to the new country of residence, such as the US.
There is a potential risk that the Internal Revenue Service (IRS) of the United States may consider the TFSA as a foreign trust, possibly necessitating the filing of forms 3520/3520A.
RESPs
Registered Education Savings Accounts (RESPs) are classified as excluded rights or interests and are not subject to a deemed disposition upon emigration.
An individual has the option to retain the RESP even if they become a non-resident of Canada. However, it’s important to note that investment income earned in a RESP may not remain tax-free (e.g., upon relocating to the US) after emigrating from Canada.
As a non-resident of Canada, individuals will no longer be permitted to make contributions to a RESP. Contributions made to a RESP while being a non-resident are subject to a penalty of 1% for each month the contribution remains in the account.
Withdrawals from RESP after emigration are subject to a Canadian withholding tax rate of 25%.
RRSPs
Registered Retirement Savings Plan (RRSPs) being an interest in registered plan are not subject to a deemed disposition upon emigration.
An individual has the option to retain the RRSP even if they become a non-resident of Canada but will no longer accumulate RRSP contribution room.
If individuals have a significant amount of RRSP contribution room, they can utilize it to make contributions, subject to the normal limitations for the year of emigration, which could potentially reduce departure tax.
If an individual is relocating to the United States, they can take advantage of the election outlined in paragraph 7 of Articles XVIII of the Canada-US Treaty. This election allows their Registered Retirement Savings Plans (RRSPs) to continue earning income tax-free while they are resident in the US. However, this election will result in taxable withdrawals upon becoming a resident of the U.S., and the corresponding US tax can be mitigated by claiming a foreign tax credit for the Canadian taxes paid.
In the absence of an election, the investment income generated in the RRSPs will be subject to taxation on current basis while residing in the US.
Accrued gains on investments held within the RRSPs will be taxable in the U.S. unless they are realized in Canada prior to emigration. A portion of the contributions and realized investment income within the RRSPs will be regarded as a return of capital for US tax purposes upon withdrawal while residing in the US.
RRSP withdrawals after emigration will be subject to a Canadian withholding tax of 25%. However, this tax can be reduced to 15% if structured as a distribution that qualifies as a periodic pension payment under a tax treaty, such as paragraph 2 Article XVIII(2) of the Canada US tax treaty. The definition of a periodic pension payment can be found in the Income Tax Convention Interpretations Act.
HBP
If an individual has withdrawn funds from their RRSP as part of the Home Buyers’ Plan (HBP), the outstanding balance becomes payable at the earliest of the following two dates:
- Prior to the date of filing an income tax return for the year in which they become a non-resident;
- 60 days after departing from Canada.
Individuals have the option to repay their HBP balance by making RRSP contributions prior to their departure from Canada. Failure to do so will result in the HBP balance being included in their taxable income in the year of departure.
Canadian CPP & OAS
Canadian Pension Plan (CPP) and Old Age Security (OAS) are classified as excluded rights or interests and are not subject to a deemed disposition upon emigration.
If an individual is eligible to receive benefits from the CPP or OAS, these benefits may still be available even if they leave Canada. However, there might be withholding tax applicable to these benefits based on country of residence for tax purposes. It is important to notify Service Canada about any changes in your status.
Individuals who have moved to the US are exempt from withholding tax, as CPP and OAS are only taxed in the US (country of residence for tax purpose) according to the Canada-U.S. Tax Convention (1980).
RPPs
Registered Pension Plan (RPPs) being an interest in registered plan are not subject to a deemed disposition upon emigration. If an individual is eligible to receive benefits from the RPP, these benefits may still be available even if they leave Canada.
Individuals who have moved to the US will be subject to a 15% withholding tax on withdrawals from RPP according to the Canada-U.S. Tax Convention (1980).
Real Property Located in Canada
Deemed disposition rule does not apply to real property located in Canada.
An individual has an option to claim a principal residence exemption on the sale of their Canadian home even after they left Canada. The exemption amount is restricted to the years in which they resided in Canada, with an additional year included. Essentially, the “plus one” rule provides the ability to offset the gain accrued in the year following emigration through the principal residence exemption.
If the sale happens after emigration, they will be required to submit form T2062 to apply for a certificate of compliance as per the Act, and also to file a T1 return for the year of disposition.
Individuals can elect to report the elect to dispose of real property and business property which would not otherwise be subject to deemed disposition by completing the form T2061A.
Individuals who intend to rent out their primary residence after leaving Canada can apply for a principal residence exemption by completing form T2091 on their emigration tax return.
Upon emigrating from Canada, individuals will be liable to non-resident taxation in Canada on rental income generated from a Canadian property after the date of departure. A 25% non-resident tax on gross rental income will be withheld by an agent on a monthly basis and remitted to the CRA. The agent is responsible for preparing and filing Form NR4. Additionally, Form NR6 can be filed to withhold non-resident tax on net rental income instead of gross rental income, providing a more nuanced approach.
Filing Requirements
Canadian T1 Emigration (Date of Exit) Income Tax Return
An individual who is leaving Canada must submit the T1 final (date of departure) income tax return and report the date of departure from Canada, as well as their worldwide income, on their final part-year Canadian resident tax return covering the period from January 1 to the date of departure. Individuals are required to mail their paper T1 emigration return to the CRA.
Due date for filing the T1 date of exit return is April 30th of the following year or June 15th of the following year for self-employed individuals.
Keys forms that may be required in the year of emigration from Canada:
T1161 – This is a disclosure form that provides a comprehensive list of properties owned by the emigrant at the time of departure from Canada. It is mandatory for emigrants who owned reportable property valued at over $25,000.
- This form includes assets that are not subject to deemed disposition, such as Canadian real estate, but it is important to note that it is not an exhaustive list. Certain exclusions apply, such as cash, RRSPs, RRIFs, TFSAs, and personal property valued at less than $10,000. These exclusions are clearly outlined at the top of the form.
- Failure to file Form T1161 by the due date incurs a penalty of $25 for each day it is late, with a minimum penalty of $100 and a maximum penalty of $2,500.
T1243 – This form is used to list properties subject to deemed disposition and calculate the resulting income inclusion. The amounts recorded on this form are then transferred to schedule 3 for inclusion in income.
T1244 – This form allows emigrants to elect to defer the payment of tax on income arose from the deemed disposition of property.
T2061A – This form allows the emigrant to elect to dispose of real property and business property that would not otherwise be subject to deemed disposition.
Canadian T1159 Income Tax Return for Electing Under Section 216
A non-resident has the option to elect under section 216 to file a Canadian income tax return to report rental income from real property in the year. This return is separate from any other required filings and permits the non-resident to pay taxes on the net rental income earned, rather than on the gross rental income received. Additionally, if the amount of taxes withheld during the year exceeds the calculated amount based on section 216, the excess will be refunded to the non-resident.
Due date for filing the Section 216 return is June 30th of the following year, provided that the form NR6 filed by the non-resident individual is approved by the CRA
Nevertheless, it is possible to file late Section 216 returns if the conditions outlined in the CRA late filing policy are met. In such cases, the CRA grants non-resident individuals an opportunity to rectify withholding and filing deficiencies. It is important to note that late Section 216 returns must still be filed within two years from the end of the tax year.
Canadian T4145 Income Tax Return For Electing Under Section 217
As a non-resident of Canada, an individual has the option to elect under section 217 of the Act, to file a Canadian income tax return and report income known as “Canadian Benefits” received during the year. This income encompasses:
- Payments from RRSPs
- Payments from RRIFs
- Benefits from the Canada Pension Plan (CPP) and Old Age Security (OAS)
Each individual has the option to file a T1 return, reporting the Canadian Benefits that will be subject to graduated tax rates. Non-refundable tax credits can be claimed based on the proportionate value of Canadian Benefits in relation to worldwide income.
In general, this elective return is advantageous when the effective tax rate is lower than the Canadian withholding tax (25% or 15%), as it allows for a partial refund of the Canadian withholding tax paid during the year.
Due date for filing the Section 217 return is June 30th of the subsequent year. Failure to file the return on time may result in the Canada Revenue Agency not processing the refund.
It is recommended that Individuals leaving Canada to the United States shouldconsultwith a tax professional who is familiar with the tax laws in both Canada and the US includingthe US-Canada Tax Treatyto ensure that all filing requirements are met and to take advantage of any available tax planning opportunities.
Raj Pandheris a qualifiedCPA(cross border tax accountant), an associate member ofSociety of Trust and Estate Practitioners (STEP) Canadaand aCertified Executor Advisor (CEA)who assists the individuals leaving or entering Canada with their U.S. Canada cross border income tax return filing including foreign information return reporting.
