Canada – U.S. Cross-Border Tax Update PREPARED AND PRESENTED BY: Alpesh Joshi, CA, CPA (New Jersey)7676 Woodbine Avenue, Markham, Ontario L3R 2N2 Tel (905) 477-5777 Fax (416) 628-2511 www.alpeshjoshi.ca www.ustaxsolutions.ca
Thinking About Tomorrow… Today OVERVIEW •What we do? Value Added Service of AJPCA •Relevancy of Cross Border issues in Banking Industry. •Current U.S. and International Tax Issues. •Business Development and Banking Service. •Questions?
Thinking About Tomorrow… Today WHAT SERVICE WE PROVIDE… We offer corporate tax services to businesses and individuals opening cross-border branches, subsidiaries or filling tax returns for expat employees. We also provide consultation services for companies who are considering doing business in the U.S. or Canada. These Services include: US- Cross Border Tax Compliance; Canadian Tax Compliance and Planning; International Tax; Transfer Pricing; Consulting and Advisory Services.
Thinking About Tomorrow… Today Circular 230 Disclaimer Any U.S. tax advice contained herein was not intended or written to be used, and cannot be used, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. These slides are for educational purposes only and are not intended, and should not be relied upon, as accounting or tax advice.
Thinking About Tomorrow… Today WHY RELEVANT TO EVERYONE Cross Border Concerns, no longer problem of the wealthy or the multinational companies; COMMON INDIVIDUAL ISSUES: The Purchase of U.S. property, for Rental or Recreational Use; To be non-resident withholding taxes in U.S. source income or gambling winnings; To work in U.S. as an employee or contractor; Snowbirds; Dual residents and citizens.
Thinking About Tomorrow… Today WHY RELEVANT TO EVERYONE Typical Canadian Corporation Cross Border Issues: To sell Products and Services into the U.S.; To have an U.S. branch or subsidiary office; To own U.S. properties; To hire U.S. contractors or employees.
Thinking About Tomorrow… Today TREATY PROTOCOL (Guiding Document for Cross Border Taxation) Canadian- based companies doing business directly in the U.S. must pay U.S. taxes, based in the U.S. amount of income earned from their U.S. business. The Canada-U.S. Tax Treaty makes it possible for Canadian companies doing business in the U.S. to prevent the double taxation that might otherwise arise due to their U.S. tax exposure. Some recent changes to the Tax Treaty, contained in a new 5 th Protocol, will help Canadian companies conduct cross-border business; others, however, have the potential to negatively impact this business.
Thinking About Tomorrow… Today The potential impact of three of the Protocol changes 1. “Permanent establishment” definition now includes “providing services” Whether a Canadian resident is liable to tax in the U.S. is no longer limited to such criteria as having a “fixed place of business”, permanent establishment in the U.S. now includes providing services in the U.S. If anyone from a company travels into U.S. for an aggregate of 183 days or more, in any 12-month period, the company is liable to tax in U.S.
Thinking About Tomorrow… Today The potential impact of three of the Protocol changes 2. “Hybrid entities” may be subject to higher taxes “Hybrids” are entities that are regarded one way by Canadian tax law and another way by U. S. tax law. The new Protocol, a hybrid entity utilized to make an investment in the U.S. that might previously of lower Tax Treaty rates, may now be subject to a 30 percent U.S. withholding tax rate.
Thinking About Tomorrow… Today The potential impact of three of the Protocol changes 3. Eliminating withholding taxes on cross-border interest payments Under the new Protocol, withholding tax is generally being eliminated for payments between non- related parties. Guarantee fees generally will no longer be subject to withholding tax as well. This new provisions should reduce borrowing costs and have a positive impact on cross- border investment. Also, cross-border businesses have more flexibility in choosing and working with their bankers. * Important for Bankers
Thinking About Tomorrow… Today Individual Taxpayer Identification Number (ITIN) ITIN is a tax processing number issued by the Internal Revenue Service. IRS issues ITINs to individuals who are required to have a U.S. taxpayer identification number but who do not have, and are not eligible to obtain a Social Security Number (SSN) from the Social Security Administration (SSA). ITINs are issued regardless of immigration status because both resident and non-resident aliens may have a U.S. filing or reporting requirement under the Internal Revenue Code. AJPCA is a Certifying Acceptance Agent registered with the IRS to process W-7 applications for getting an ITIN. AJPCA also provides services to corporations including U.S. incorporation and obtaining an Employer Identification Number (EIN) from IRS;
Thinking About Tomorrow… Today Questions to ask your clients: Are you a US Citizen or resident that spends more then 183 days in the US? Do you own US property for recreation or business use? Do you earn any income or incur any expenses against that investment property. Does your company sell products or services into the United States? Do you plan to retire in the United States?
Thinking About Tomorrow… Today Foreign Bank and Financial Accounts Reporting (FBAR) Would require taxpayers to file FBAR form with the taxpayer’s tax return, accordingly turning the FBAR into tax return information and making it easier for the IRS to enforce FBAR filing requirements. Penalty: Equal to the lesser of $10,000 per reportable transfer or 10% of the cumulative amount or value of the unreported covered transfers. Double 20% accuracy- related penalty when an understatement arises from a transaction involving a foreign account. The statute of limitations relating to information returns for six years. Information sharing that IRS has with the CRA and with Canadian Banks have got many people nervous. There are Offshore Voluntary Disclosure Initiatives out in the Market. AJPCA has been successful at reducing or removing these penalties.
Thinking About Tomorrow… Today Revisions to Foreign Bank Account Report (Form TDF90-22.1) Who must file: U.S. persons with an interest in foreign bank account, brokerage account and financial accounts (including mutual fund and RRSP) that have aggregate balance value of these accounts exceeds $10,000 at any time during the calendar year. When to file: File by June 30 for the prior calendar year. How it is file: Information report; Consolidation basis; Not filed with a taxpayer’s income tax return, must file TDF90-22.1 Penalty for not filing the form: $10,000 (could be higher), may result in potentially civil penalties, criminal penalties or both.
Thinking About Tomorrow… Today United States Income And Sales Tax Issues (NEXUS) Nexus in general means a connection or contact, different from Permanent Establishment. The term nexus is used in tax law to describe a situation in which a business has a "nexus" or presence in a state and is thus subject to state income taxes and to sales taxes for activity within that state. Nexus describes the amount and degree of business activity that must be present before a state can tax an entitys income. If a taxpayer has nexus in a particular state, the taxpayer must pay and collect/remit taxes in that state. As Nexus is required for states to tax, it is often referred to as “jurisdiction to tax”. Nexus is determined differently for income taxes and for sales tax purposes.
Thinking About Tomorrow… Today For Income Tax Purposes In general, nexus is created for income tax purposes if an entity derives income from sources within the state, owns or leases property in the state, employs personnel in the state in activities that exceed "mere solicitation," or has capital or property in the state. For Sales Tax Purposes Nexus is determined for sales tax purposes more loosely. Here are some cases in which a business might have a sales tax nexus in a state: If the business has a physical location in the state; If there are resident employees working in the state; If the business has property (including intangible property) in the state; If there are employees who regularly solicit business in the state.
Thinking About Tomorrow… Today NEXUS Sales and Use tax is the most common US tax exposure for Canadian companies doing business in the United States. It is imposed by 45 states, 14,000 plus local jurisdictions. Rules vary from state to state; but rates range from 4 % to 10 % plus Generally applies to sales of tangible personal property to end used and may apply to certain services. Also applies to property brought into the state (Use tax), Use tax is the compliance of the purchaser. Non Compliance makes it your gross receipts tax. The terms Virtual Nexus, Attribution Nexus and Economic Nexus have also begun to develop; These are grey areas and as mentioned above, and they vary from State to State:
Thinking About Tomorrow… Today U.S. Estate Taxes- Brief U.S. estate tax applies to the fair market value of the world-wide property of a U.S. citizen, a Green Card holder and an individual resident in the U.S. at the time of their death. As well, U.S. estate tax generally applies to property situated in the U.S. that is owned by Nonresidents of the U.S. In calculating an individual’s taxable estate, deductions for debts and certain expenses are permitted. However, for Canadian residents, the permitted deductions are prorated based on the value of their U.S. gross assets over their world-wide assets.
Thinking About Tomorrow… Today U.S. Estate Taxes- Brief A Canadian who dies in 2008 owns a Florida condominium worth $600,000 U.S. and non-U.S. situs assets worth $2.4 million U.S. In this case, the net U.S. estate tax will be calculated as follows: Estate Tax on $600,000 U.S.: Tax on the first $500,000 U.S. $155,800 Tax on balance at 37% 37,000 192,800 Less: Prorated unified credit $600,000/$3,000,000 x $780,800 156,160 Net U.S. Estate Tax in 2008 $ 36,640 As you can see from this example, the Canada-U.S. tax treaty only provides partial relief where the value of a Canadian’s U.S. property is low in relation to the total value of their estate.
Thinking About Tomorrow… Today U.S. Vacation and Rental Homes The decline in value of U.S. real estate and the relative strength of the Canadian dollar compared to the U.S. dollar has recently increased the amount of investment by Canadians in U.S. real estate. Many techniques can be used to plan for potential purchase of property and limit the potential U.S. estate tax liabilities: Being Non-resident alien in U.S.; Non-recourse Mortgage; Ownership Alternatives; Canadian Discretionary Trust.
Thinking About Tomorrow… Today Non-resident alien in U.S. If a U.S. vacation property is held for personal use, a Canadian resident who is also a resident or citizen of the U.S. needs not be concerned about U.S. income taxes or the need to file U.S. income tax return, unless the property is sold during the lifetime. If the US property is used to generate rental income, the person paying the rent is obliged to withhold and remit 30% of the gross rent to the Internal Revenue service on behalf of the nonresident alien. The non-resident alien should provide a particular withholding waiver to its tenant prior to collecting any rent so as to avoid the 30% withholding above. W-8BEN, W-8ECI and other election with the tax return.
Thinking About Tomorrow… Today Non-recourse Mortgage Non-recourse Mortgage is a financing instrument where the lender’s security and collection rights are limited to the collateral posted by the borrower, who is not personally liable for any debt in excess of the value of collateral. Non-recourse Mortgage are effective Estate Tax avoidance methods because any outstanding balance of such a mortgage is deducted from the fair market value of the US property for purposes of calculating the Estate Tax liability thereon. As the fair market value of the U.S. property serves as the base upon which Estate Tax and the available Unified Credit are calculated, reducing the fair market value of the U.S. property directly reduces a decedents Estate Tax liability. For Canadian tax purposes, interest is generally deductible if the borrowed funds are used to generate income.
Thinking About Tomorrow… Today Ownership Alternatives Corporation In the past, many Canadians used a Canadian corporation (known as a “single-purpose corporation”) to hold personal-use U.S. real estate to avoid U.S. estate tax on the property. Shares of a Canadian company are not U.S.-Situs property for U.S. estate tax purposes. As long as the sole purpose of the corporation was to own the U.S. property and all expenses related to the property were paid personally by the shareholders, the Canada Revenue Agency (CRA) would not consider it The shareholders to have received a taxable benefit for the personal use of the property. However, using a corporation to hold the property can increase the total tax on any capital gain realized on the disposition of the property. Note: Renting will disqualify the corporation.
Thinking About Tomorrow… Today Ownership Alternatives Personal Ownership Personal Ownership avoids the cost and inconvenience associated with introducing new entities and reporting for them. Also, it avoids the relatively high U.S. corporate tax rates on income and capital gains from U.S. property.
Thinking About Tomorrow… Today Canadian Discretionary Trust A Canadian discretionary trust may be a useful way for a wealthy individual or couple to mitigate their Estate Tax liability. Through the trust, Estate Tax is deferred until the death of the beneficiaries of the trust. The trust uses the parent’s money to purchase the U.S. property. The parents are generally excluded as beneficiaries of the trust; rather the parents’ child or children are named. They must conduct themselves around the trust. It is generally desirable to avoid generating income and/or capital gains in the trust because various U.S. and Canadian compliance obligations, as well as potential taxable benefits.
Thinking About Tomorrow… Today Snowbirds A Canadian snowbird will be considered a resident alien if spent in United States: 183 days or more in the current year; between 31 and 182 days in the current year, he/she may meet the substantial presence test, as well. If a Canadian snowbird wants to be exempted from being considered a non resident alien–there are two possible exemptions you can claim: a) Exemption under the “Closer Connection Category” of the U.S. Internal Revenue Code; b) Exemption under the Canada-U.S. Tax Treaty.
Thinking About Tomorrow… Today Transfer pricing Transfer prices are prices that companies charge for goods, services, tangible and intangible assets they trade with subsidiaries and similar controlled entities in foreign markets. According to the tax law in Canada, United States, and other developed countries, the proper transfer price is one which two parties dealing at arms length would agree to for a certain transaction. The idea is to force the related companies to sell their goods, services, tangible and intangible assets to one another at market prices for tax purposes. From a Banking perspective this can impact Financial Statements, Covenant Requirements, have Tax Implications.
Thinking About Tomorrow… Today Regulation 105 It requires businesses to withhold 15 per cent of fees, commissions, and any other amount paid to non-resident contractors for services rendered in Canada. The amount withheld is not a final tax, a non-resident can demonstrate that the withholding is more than their potential tax liability in Canada, either due to treaty protection or income and expenses, Canada Revenue Agency may waive or reduce the withholding. If the required amount is not withheld, the company must pay (on behalf of the non-resident) the amount plus interest and applicable penalties.
Thinking About Tomorrow… Today Thin Capitalization Rules Under these rules, interest paid by Canadian corporation on loans received from non-resident shareholders that own 25 per cent or more of the shares of the corporation will not be deductible to the extent that such loans exceed increasingly the equity of the corporation. In order to be ensured the system remains effective in protecting Canada’s tax base, the Panel recommended that the current thin capitalization rules be retained, but that the maximum debt-to-equity ratio be reduced from 2:1 to 1.5:1, and that scope of the thin capitalization rules be extended to partnerships, trusts and Canadian branches of non-resident corporation. For IRS there is no definite thin capital limitation but 2:1 and 3:1 have been guidelines used in past.
Thinking About Tomorrow… Today Benefits of Cross Border Taxation to Bankers Being Aware of contemporary issues that concern your clients Making a statement that you are aware of Global needs of clients; It is important that Canadian companies take time to plan how to enter the US and global markets, tax implications will impact there bottom line. Ensuring that client is compliant in all tax filings both personal and corporation. Reduce exposure to unnecessary penalties, interest and tax costs that would hurt working capital and covenants.
Thinking About Tomorrow… Today Benefits of Cross Border Taxation to Bankers Ensure client has proper structure to reduce tax costs of international business Tax can be a large expenditure, why would a company do business planning on a pre-tax basis . Understand cross bordering structuring when it comes to PPSA and GSA, how to ensure your assets are protected. Provide Cross Border Financing solution to meet client’s needs. Provide Cross Border Banking solutions that meet client needs.