Canadians Owning or Investing In US Real Property

US Tax Implications of Canadians Owning US Real Property

Canadians Owning or Investing In US Real Property: Investing into the United States Real Estate Market is a wonderful opportunity for Canadian non-residents seeking cross-border portfolio expansion opportunities. Depending on the specific type of ownership, along with the resident status of the taxpayer will help determine the benefits (and detriments) for owning US Real Estate. Oftentimes, Taxpayers do not take into consideration the potential IRS tax implications of owning US real estate or other property — until further in the process — when it can become difficult, timely, and costly for the unsuspecting Canadian investor. Let’s go through the basics of six important tips for Canadians owning or investing in US Real Property.

FIRPTA & Canadians Investing in US Real Property

FIRPTA refers to the Foreign Investment in Real Property Tax Act. The most important takeaway for Canadians owning or investing in US real property is that while some US Capital Gains will escape US tax — real estate is not excluded from capital gains income. Therefore, when a Canadian sells their US real property they may be subject to FIRPTA — which may result in a 15% withholding of the sale price (not the gain) at the time they sell the property — unless they obtain or withholding exemption certificate (IRS Form 8288-B).

Renter’s Insurance

If the nonresident Canadian seeks to use the real estate property as a rental property, it is important that they obtain US-based insurance. In order to obtain insurance, some insurance companies may require that the Nonresident Alien create a US based LLC or other entity to hold the property — which may result in certain unforeseen tax implications which the Canadian will want to look into before forming the LLC or other entity.

How is Rental Income Taxed to Canadians Investing in US Real Property

Rental income is taxable and for a nonresident alien it is considered FDAP — and the renter is supposed to withhold 30% of each payment and submitted to the IRS. Of course, one of the main benefits of owning rental income is that the taxpayer is able to take several deductions such as mortgage interest and depreciation. The nonresident Canadian can still take these deductions as long as they make an election for their rental property income to be treated as ECI and not FDAP.

Transfer Gift Tax Consequences for Canadians Investing in US Real Property

When a nonresident alien transfers US real estate, there is an immediate potential gift tax implication. Typically, the Transferor can still deduct the annual exclusion — but then there is a gift tax on the transfer.

Substantial Presence Test for Canadian Non-Citizen/Non-Permanent Resident

If the Canadian real estate investor is a nonresident alien and resides in the United states on a visa or otherwise, for a sufficient time to meet the substantial presence test, then they may become subject to U.S. tax on their worldwide income — and an avalanche of different reporting requirements such as FBAR and FATCA. It is important that the nonresident Canadian assess the pros and cons of becoming a US Person for tax purposes before they end up inadvertently increasing their tax liability if they are unintentionally deemed a US Resident for tax purposes.

Treaty – ARTICLE VI Income from Real Property

• • • 1. Income derived by a resident of a Contracting State from real property (including from agriculture or forestry) situated in the other Contracting State may be taxed in that other State.

    • 2. For the purposes of this Convention, the term “real property” shall have the meaning which it has under the taxation laws of the Contracting State in which the property in question is situated and shall include any option or similar right in respect thereof. The term shall in any case include usufruct of real property and rights to explore for or to exploit mineral deposits, sources and other natural resources; ships and aircraft shall not be regarded as real property.

    • 3. The provisions of paragraph 1 shall apply to income derived from the direct use, letting or use in any other form of real property and to income from the alienation of such property.

What does this Mean?

When it comes to income derived from real property, the treaty provides that if a person resides in one state (Canada) earns income in the other state (US) – then the other state (US) may tax that income as well. It further goes on to clarify that the income includes letting or alienation of the property as well — and it is not excluded from Saving Clause.

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