Let's get started. Robert, what are some of the most prevalent myths about the U.S. as tax haven for Canadians?
The most common myths for Canadians looking to the US for a tax haven are primarily that there is a large exit tax that Canadians have to pay before they movedto the US, the second major obstacle is that sometimes Canadians could be subject to US estate tax and the third major myth is that the IRS is a terrible organization to have to deal with if you move to the US. All of these are myths and are easily planned around and actually the planning can result in some very large tax savings for Canadians.
Let's take some questions from readers.
Generally speaking, depending on your total worldwide net worth, it is better to have the title of your Arizona rental property in the name of a Limited Liability Partnership or similar entity, this provides you with some liability protection from tenants who may get injured on your property and it organizes your affairs in the US better for both tax reporting to the IRS and to the CRA. I do hope you are filing tax returns with the IRS on form 1040 NR each year.
This is a great question that really requires a detailed analysis and a lengthy recommendation. However, generally speaking the type of income that one can earn as a US resident that will use up foreign tax credits are foreign (from a US perspective ) nterest,, rental income, royalties and dividends. It is quite important that you use professional advice to assist you with this because there are a lot of potential pitfalls where things can go wrong and the credits not be useful to you but if you can work it so that you recover all of the withholding tax paid on your RRSP from Canada you have essentially retrieved your RRSP out of Canada with the zero net tax after all tax credits are recovered.
We have a follow-up question from jenny:
That's good to hear that you are filing a US tax return and hopefully also reporting income and expenses on your Canadian return on the rental schedule. It is not too late to transfer it to the LLP particularly if there has been no appreciation in the property since you purchased it. It is indeed transferred to the partnership at your cost or fair market value whichever is h greater . If there has been appreciation then for Canadian purposes you may be subject to capital gains tax on the gain from the transfer to the partnership, there are planning ways to deal with this but it can get complex depending on all of the details, professional help is recommended for this calculation.
There are a lot of factors that go into planning from both the Canadian estate and the US estate tax perspective into how property is going to be best titled including what your personal preferences are and who are the beneficiaries of your estate. Generally speaking the title that works best for you is one in which you avoid probate and any exposure to US non-resident estate tax. The way you avoid probate is either having other persons on the title with you with joint with right of survivorship, having the property held in a trust or other entity that does not die with you and that the beneficiaries receive directly. For most Canadians unless their estate is greater than $10 million worldwide they will never be subject to US estate tax under current rules because of the provisions of Canada/US Tax Treaty. Probate is usually not a big issue as it is the process by which the local authorities can transfer title from your estate to the new owners, sometimes it can be onerous and expensive so it is generally recommended that it be avoided. Selling before you die is certainly one way to avoid probate and to avoid US estate taxes but unless you have special connection with the man above we generally don't know when we are going to die so it is difficult to plan for this.
A big question many readers are asking: What exactly makes the U.S. an advantageous tax haven for Canadians?
One of the big advantages of the US being a tax haven for Canadians is that on virtually every kind of income that one would receive in retirement either from investment, a Canadian business, Canadian investments or pensions etc. will be taxed at a much lower rate in the US to the extent that in general their income taxes can be cut by up to two thirds or more with proper planning. This frees up a lot of after-tax income to be able to spend on things that may enhance lifestyle. In addition the US generally has a lower cost-of-living things like housing, food, clothing and consumer goods. The US is also very easy to get to with numerous nonstop flights from every major can median city to just about every major US city daily or Canadians can drive to a place like Florida or Arizona to get out of the Canadian winters and have year-round golfing or boating. Also because of the Canada/US tax treaty Canadians can still travel back to Canada just about any time they want without fear of the CRA trying to tax them fully as if they were still residents of Canada.
For Canadian residents earning US dividends outside of an RRSP, generally there will be a non-resident withholding tax held by the US payor of 15%, this is the rate specified under the US/Canada Tax Treaty. Inside of an RRSP or other registered plan there technically should be no withholding on the US dividends earned. However, often the US payer doesn't understand the treaty mechanism and still withholds 15%. If that happens the Canadian can apply to the payer to reduce the withholding tax on the US dividend for their RRSPs to zero.
Unless otherwise determined, the fact that you were born in the US means that you are a US citizen and are potentially subject to US tax rules. The rules with principal residences from the IRS perspective is that you have a $250,000 capital gains exemption on your principal residence so if you own your home with your spouse and you sell it and the gain is in excess of $500,000 you may have to pay some US capital gains tax on any amount over your half of the gain. If you do have to pay tax in the US there are many planning items you can do in advance to reduce or eliminate that tax if you are indeed potentially subject to it. As a US citizen in Canada you should be filing regular US returns annually and often there are numerous tax credits carried forward each year that you could use to offset taxes on any gains you may have from your principal residence so it is important that you have a tax professional help you prepare your US returns with this in mind because it can mean a great deal of tax savings to you. The US citizen living in Canada needs special planning to make sure that they don't get in a situation where they are taxed in Canada and not get credit in the US or vice versa.
Under current IRS and The Canada/US Tax Treaty rules individual Canadians are entitled to the full US estate tax exemption of $5,120,000. Therefore anybody with a worldwide estate less than that amount will not be subject to US nonresident estate tax by owning property or investments in the US. Married couples can simply double that amount. The US estate tax rules are scheduled to changed at the end of 2012 so this exemption may change one way or the other depending on which US political party is elected in the US presidential and congressional election in November.
In the 10th edition of one of my books, The Border Guide, I give at least 10 reasons why it is generally not a good idea for a Canadian living in the US to maintain their RRSP in Canada. The main reason why it is generally not to your advantage is you can pay a lower rate of tax if you get it out of Canada at either the 15% or 25% treaty withholding rate and then put it into US tax-free or tax-advantaged investments. If you do the number crunching by the time you need to use those funds for retirement you will have a much larger after-tax pool of funds to be able to contribute towards your retirement income. There are multiple other reasons including the fact that generally speaking your portfolio will be easier to manage if it is in the US and can be managed at a much lower cost more in line with the goals of being a US resident. As long as you maintain your RRSP in Canada you have multiple problems with the regulatory people, tax reporting to the IRS is onerous and often penalizing to you because your US tax preparer does not kno how to report them correctly. I would recommend that you seek some help to do an analysis of how this what is going to be best for you in your situation as it depends on many factors including your age, marital status, income tax bracket, the size of your RRSP, the types of investments, your estate plan etc.
My general philosophy is that I don't like the tax tail wag the investment dog so I would generally recommend that you pick the best investment in line with your goals and objectives first and then tax advantages secondly. As a Canadian resident maxing out the RRSP and the TFSA are great, the other things you can do is invest in growth investments that generally do not pay dividends and can be sold for capital gains at some point in the future. Unless you are thinking of moving to the US there are no other tax free or tax-deferred current that work for you in Canada. there are many options in the US for both tax-free and tax-deferred and low taxed investments but they are only available for US residents and Canadians will get no tax advantages investing in them. Some Cdn advisors sell cash value life insurance as an investment but currently at the lower levels of interest that are available in the market place these policies have be come quite impractical to use effectively as a tax deferment vehicle.
That’s all we have time for today. Thanks to Robert Keats for sharing his expertise, and thanks to everyone who submitted questions.
Thank you all, I look forward to answering more questions at sometime in the future.