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April 1, 2021

US Tax Traps

If you have US property, look out for these three red flags

As a Canadian, there are few luxuries more appreciated than having a warm place to escape the winter. Whether that means a condo in Palm Beach or Naples, a bungalow in Oahu, or a ranch in Austin, owning real estate in the US can come with a few financial complexities that you should know about.

At Cumberland, financial planning around US assets is part of what we do for our clients. Often, this involves collaborating with estate, tax and trust experts to ensure that your strategy is sound.

One such expert is Hadielia Yassiri of Green Marker Wealth Continuity Advisory, who recently presented a webinar for our clients. If you’re wondering whether you could fall into a US tax trap, here are three red flags she recommends looking out for.

1. You have a “substantial presence” in the US

If you have a “substantial presence” in the US, you could be considered a US resident for tax purposes. That means you may be forced to pay the IRS tax on your worldwide income.

The Substantial Presence Test is a formula based on your time spent in the US. Add all the days you’ve spent in the US in the current calendar year, 1/3 of the days in the last calendar year, and 1/6 of the days from the year before that. If the total is 183 days or more, you could be considered a US resident for tax purposes.

There are two potential solutions, depending on the specifics of your situation. One might be the Closer Connection Exception, which requires you to prove that you have closer ties to Canada. The other might be to apply for an exemption under the Canada-US tax treaty.

2. You own real estate in the US

As we all know, the US is a different jurisdiction than Canada with its own set of rules.

Joint property rules are different. For example, in the US, if a couple owns a property in joint name and one partner becomes incapacitated due to illness, the healthy partner may be blocked from selling or refinancing the property until either their spouse passes away or they spend tens of thousands of dollars in state court applying to act as their spouse’s attorney.

Capital gains taxes are also different. If you sell your US property at a gain, you will have to pay capital gains tax in the US and report the sale in Canada as well. You will be paying additional Canadian capital gains tax but your US tax liability can be claimed as a foreign credit against your Canadian taxes so you can avoid double taxation. You may also be subject to US withholding based on the total sale price of the property under the Foreign Investment in Real Property Tax Act (FIRPTA).

And, of course, the US is famously more litigious than Canada. If you rent out your US property and somebody slips and falls by your pool, they could sue you for millions, and that litigation could follow you all the way back home.

In short, if you own US real estate, it is wise to review your planning around income tax, capital gains tax, estate tax, incapacity and creditor protection to make sure you won’t be facing any surprises.

3. You surpass the US lifetime gift and estate tax exclusion amount

If you pass away while meeting the current US estate tax threshold of owning US assets worth more than US $60,000 and a worldwide estate greater than US $11,580,000, you could be subject to US federal estate taxes and state probate. These taxes may be significant – for example, the combined estate and probate taxes on a property in Florida can be as much as 44%.

In 2017, the threshold for triggering US estate taxes was raised from the previous level of about US $5.8 million, and it is now widely believed that it could again return to that lower level. If you are in the danger zone, it makes sense to review how you are using vehicles such as corporations and trusts to potentially reduce the impact of US taxes on your worldwide estate.

Despite the relative complexity of owning US property, most would agree it’s still worth the effort. As a client of Cumberland, we will facilitate the planning and advice you need to help minimize the risks and maximize the pleasure of those balmy winter days.