If you are among the one million Americans living in Canada, you’ll need to remember that you are still subject to U.S. tax law. Your income, regardless of where you earn it, needs to be reported to both the Canada Revenue Agency (CRA) as well as the Internal Revenue Service.
Americans living in other countries still need to pay taxes to the U.S., and the IRS is very good about making sure they do. A well-respected Canadian newspaper, The Globe and Mail, recently explored the responsibilities of Americans living over the northern border in the article, “Americans living in Canada: Be aware that the IRS is watching you.”
Principal place of residence. When U.S. citizens sell their principal residence in Canada, they’re not taxed on the gain by the Canada Revenue Agency (CRA). However, the IRS will tax the portion of the gain that exceeds $250,000. The problem is that if there’s no capital gains tax paid in Canada, there are no foreign tax credits available to offset tax owed in the U.S.
Foreign accounts in the aggregate of $10,000. There’s an IRS requirement that U.S. citizens file a Report of Foreign Bank and Financial Accounts (FBAR) for each year they have a financial interest in or signing authority over certain foreign financial accounts. This has a broad scope and includes accounts, such as corporate, trust and joint accounts. The penalties for not filing can be severe, so American citizens should be sure to report all applicable accounts each year.
U.S. gift and estate tax. Any U.S. citizen who makes gifts is subject to U.S. gift taxes. However, not every gift is taxable. There is also a lifetime gift tax exemption amount of $11.18M (for 2018). Using the lifetime gift tax exemption may, however, create U.S. estate tax (or death tax) liability in the future.
Life insurance. If a U.S. citizen owns a term life insurance policy upon death, the policy’s proceeds are included when calculating the value of the policyholder’s gross estate for estate tax purposes in the U.S. If those proceeds increase their estate beyond the exemption amount in the year of death, an estate tax liability may result. Another option is having a term life insurance policy in an irrevocable life insurance trust. Income earned inside a Canadian whole life policy that’s tax-exempt by the CRA might not be tax-exempt by the IRS, which means the U.S. citizen may have to pay tax to the IRS on income earned inside a Canadian whole life policy. Therefore, U.S. citizens in Canada may want to think about owning whole life insurance policies.
Renunciation. The only way to effectively end all U.S. tax responsibilities, is to renounce an American citizenship. It’s not easy to do, and it is expensive. The renunciation fee alone is $2,350, but that’s not all you have to do. You must be able to prove that you have been tax-compliant for at least five years. If you can’t prove that, you are deemed a “covered expatriate,” which means that you are subject to U.S. exit tax. If your net worth is $2 million U.S. dollars or more on the day of your renunciation, you are also a “covered expatriate.”
Speak with a cross-border attorney about issues relating to avoiding or mitigating U.S. exit tax exposure, if you are considering renouncing your status as a U.S. citizen. There may be additional issues to consider, depending on your situation.
Reference: Globe and Mail (September 19, 2018) “Americans living in Canada: Be aware that the IRS is watching you”