Treaty-based returns and disclosures
The Canada-U.S. Income Tax Convention (Treaty) generally provides various mechanisms to prevent double taxation for taxpayers operating in both jurisdictions. The benefits of the Treaty however are not automatic and taxpayers have an obligation to disclose their Treaty-based positions on various forms and schedules. As a specific example, Canadian companies who sell goods and services to U.S. customers, properly take the position that they are not subject to U.S. federal income tax if the company does not have a permanent establishment in the U.S. pursuant to Article V of the Treaty. In order to claim such a position, the company will need to file a U.S. Treaty-based return annually to disclose this position or face a possible penalty of $10,000 USD.
Federal Treaty Positions may not apply to the States
Consider the company above which properly takes the position above, that it is not subject to federal tax due to its reliance on the Treaty. Often the company will assume that it is not subject to state income taxation. This assumption may be erroneous as approximately half of the states do not follow the Treaty. Furthermore, each of the states having differing rules and as a result, taxpayers and their advisors should review specific state rules to ensure compliance in the states in which they operate.
Timely file or face civil penalties
U.S. tax rules typically provide for the ability to extend the due date for filing various tax returns. In situations where returns are filed after the regular or extended due date, the IRS routinely levies civil penalties of $10,000 USD (increased to $25,000 USD under recent tax reform) for numerous foreign disclosure filings. It is difficult to have these penalties waived and taxpayers should ensure that their returns are filed on a timely basis in order to avoid this exposure.
Canadian businesses with a branch or U.S. subsidiary need to ensure they are interacting with their related parties on an arms’ length basis. In order to meet these requirements, contemporaneous transfer pricing documentation should be prepared and maintained by the related companies in order to justify the revenue sharing and cross charges occurring between the entities.
If you are a U.S. Citizen or Green Card holder are you current with your U.S. tax filing obligations?
U.S. citizens and green card holders are required to file U.S. tax returns on their worldwide income. The IRS has had various programs in place with significantly reduced penalties to allow for “catch-up” filings for individuals who are delinquent with respect to their prior U.S. tax returns. One of these programs, the Offshore Voluntary Disclosure Initiative, is ending shortly. There is concern the IRS Streamline program will be unavailable in the future as it will be difficult for U.S. citizens to assert in good faith that they were unaware of their requirements to file these returns in light of these programs and the considerable press these programs have received. Therefore, non-compliant U.S. citizens and green card holders should take advantage of these programs promptly in order to avoid exposure to significant penalties.
Don’t ignore foreign corporation repatriation tax and GILTI tax rules
As part of recent tax reform, U.S. citizens or green card holders who own foreign corporations may be required to the accumulated earnings and profits of the foreign corporation as of December 31, 2017. This will result in a tax levy of 8% or 15.5% which may be paid over 8 years provided that an election is made. Unless planning is done for Canadian tax purposes, this repatriation tax may result in double taxation to the shareholder.
The Global Intangible Low Tax Income (GILTI) regime was implemented as part of U.S. tax reform and is effective in 2018 for calendar-year taxpayers. This regime will apply to U.S. citizens and green card holders who own certain foreign corporations. Under these rules, if the corporation earns income in excess on a minimum return, the shareholder may incur a U.S. tax liability which may create double taxation.
The U.S. imposes an estate tax on its citizens and no estate tax is generally imposed in situations where the decedent’s estate is less than $11,000,000 USD. Canadian citizens (non-U.S. persons) are often surprised to learn that they may have a U.S. estate tax requirement. While a Canadian citizen may take comfort that he/she will generally not have a U.S. estate tax liability if his/her estate is less than $11,000,000 USD, there may be a U.S. estate filing requirement. The Canadian citizen will be required to file a U.S. estate tax return if the decedent owned U.S.-situs property (e.g. U.S. stocks, U.S. real property, and other items). After the estate tax return is filed, the estate will generally be required to obtain a U.S. estate tax clearance certificate in order for it to effectuate the sale or transfer of the U.S.-situs property.
Consider renunciation of U.S. Citizenship
Although not palatable or practicable for all U.S. citizens, renunciation of U.S. citizenship can resolve a number of the issues set forth above. Under current rules, a U.S. citizen must pay the U.S. $2,350 USD in order to renounce his/her citizenship. In addition, the renunciation may create a U.S. exit tax burden if the individual is a covered expatriate.
State Sales Tax rules are changing
In previous years, most Canadian businesses have taken the supportable position that their sales to U.S. customers are not subject to U.S. state sales tax so long as the Canadian business did not have a physical presence in the state in which the customer resided. In early 2018, the U.S. Supreme Court issued its Wayfair opinion. Canadian businesses should monitor the fallout from this case as it will likely lead to additional state sales (and possibly state income) tax if the Canadian business has economic nexus within a specific state. The end result is that Canadian business will likely have future requirements to collect and remit state sales taxes. Learn more here
2017 corporate tax reform
Late last year, the U.S. enacted wide-sweeping tax reform. As a result of these changes, federal corporate income tax rates have dropped precipitously from 35% to 21%. This change provides an opportunity to examine a businesses current structure and adapt to take advantage of the revised rate structure in order to optimize their overall tax position.
The information contained herein is of a general nature and current as of the date of publication. Each client’s specific fact pattern may require differing planning. We would be pleased to assist you with addressing these matters.