In today’s economy, investing in U.S. real estate is an exciting opportunity for Canadians. The U.S. taxation of Canadians holding U.S. real estate is complicated and should be evaluated fully before making the investment. Here are some issues to consider:
Purchasing the property has no immediate tax consequences, but how you purchase it will. For example, should you buy it through your company or personally? Should you buy it jointly or tenants-in-common with our spouse? Should you put your children on title? Will you buy it outright or hold a mortgage? How you purchase and with who will affect the tax consequences when you rent your property, sell your property or if you still hold the property on death. Generally, you will want to purchase the property in a way that will reduce your potential U.S. estate tax without complicating regular taxation in the process.
If you are purchasing your property to hold for personal use, than you will generally not have any U.S. tax consequences during the holding period. During this time, however, you should be careful and keep track of the number of days you spend in the U.S. If you spend more than 183 days in the U.S. in the last three years (using all days in current year, 1/3 days in the prior year and 1/6 days in the year before that) then, you will be considered a resident of the U.S. for tax purposes. If this happens, you should seek tax advice to ensure you are still a Canadian resident and to learn how you can keep your non-resident status in the U.S.
If you are purchasing the property to rent (whether full time or part time) then you will either have 30% of gross rents withheld and remitted to the IRS or you have to file a U.S. tax return and pay tax on net rental income. This rental income will also be included on your Canadian return with any tax you pay in the U.S. creditable on your return. Although many of the rental property tax rules are similar for Canada and the U.S., there are also important differences. For example, in the U.S. depreciation is mandatory and in Canada, it is optional. Also, the number of personal days spent using the property have different tax impacts.
When you sell your property you will usually have a capital gain. Similar to Canada, this is calculated by subtracting your cost base from your proceeds less any selling costs. As with any cross-border capital transaction, the gain itself is not translated. In fact, the cost base is translated using the exchange rate at the time of purchase and the proceeds are translated using the exchange rate at the time of selling. This can lead to bigger gains in one country than the other or even a loss in one country and a gain in the other. When you sell your U.S. property, generally you will have to remit 10% of the proceeds to the IRS right way, and then after you file a U.S. tax return you will receive any excess withholdings back depending on your final tax liability. If you hold the property for at least one year, you will have preferential tax treatment in the U.S. When you report the gain in Canada, you will have a foreign tax credit for the U.S. tax paid.
Owning real property in the U.S. upon an individual’s death will expose his or her estate to U.S. estate tax. In the U.S., estate taxes are based on the fair value of assets as opposed to in Canada where only gains are taxed. Thus, the property could actually go down in value but still be subject to U.S. estate tax. Depending on the value of your property and the value of your worldwide assets, this tax can potentially be quite significant and unexpected. Although there is a minimum asset value before any taxation occurs, it is very important to be aware of these rules, and when possible, do some tax planning in advance. Your personal situation and circumstances will play a big factor in how much planning you want to do to avoid/reduce the U.S. estate exposure. U.S. estate tax rules are very complex with a significant degree of uncertainty on how legislation will continue in the U.S.
Please your local MNP advisor or the U.S. Tax Compliance Team if you have any questions about U.S. Tax.
United States IRS Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS in Circular 230, please note that, unless otherwise expressly stated in this communication any U.S. tax advice given in this communication is not intended or written to be used, and cannot be used by any taxpayer, for the purposes of (i) avoiding penalties that may be imposed under United States federal, state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter