DOMESTIC INCOME TAX CONSIDERATIONS WHEN IMMIGRATING TO CANADA

Transcription

1 1 DOMESTIC INCOME TAX CONSIDERATIONS WHEN IMMIGRATING TO CANADA Catherine Chan (née Craig) and Sean Glover, of Cox & Palmer (Halifax Office) SCOPE This paper is intended to be a high level overview of Canadian income tax considerations for individuals immigrating to Canada. The analysis herein is not exhaustive and should not be relied on in lieu of specific tax planning for an individual immigrating to Canada. Crossborder income tax considerations, foreign accrual property income (FAPI) as well as planning for emigration in the foreign jurisdiction, are beyond the scope of this paper. The following key taxation issues regarding immigrating to Canada are discussed below: Reference Key Taxation Issues 1. The Basis of Domestic Taxation in Canada: Residency 2. Taxation of World Wide Income 3. Deemed Disposition upon Immigration 4. Tax Treaties and Double Taxation 5. Benefits of Canadian Income Tax System 1. THE BASIS OF DOMESTIC TAXATION OF AN INDIVIDUAL: RESIDENCY (i) Residency The Canadian Income tax system is based on residency (not citizenship), by virtue of section 2(1) of the Income Tax Act (the "Act"): Tax payable by persons resident in Canada 2. (1) An income tax shall be paid, as required by this Act, on the taxable income for each taxation year of every person resident in Canada at any time in the year. The term "resident" is not defined in the Act. Subsection 250(3) of the Act provides that a reference to a person resident in Canada includes a person who was at the relevant time ordinarily resident in Canada. Admittedly, this is not all that helpful. According to jurisprudence and the administrative policy of the Canada Revenue Agency (the "CRA"),

2 2 whether a person is "ordinarily resident" is determined on case by case basis upon the facts in the particular matter. (ii) Significant Residential Ties As such, residence is determined frequently by the type and number of residential ties to a jurisdiction. The CRA generally takes the administrative position that one significant residential tie will almost always be sufficient to establish tax residency. 1 The three significant ties to Canada which are often referenced are: 2 1. Ownership of a dwelling in Canada or rental of a dwelling on a longterm basis (for example, a lease for one or more years); 2. The individual's spouse residing in Canada (except where living separate and apart due to marital breakdown); or 3. The individual's children and other dependent family members residing in Canada. Further, the CRA takes the position that where an individual entering Canada applies for and obtains landed immigrant status and provincial health coverage, these ties will usually constitute significant residential ties with Canada. 3 Consequently, the individual will normally become a tax resident of Canada on the date the individual arrives in Canada. 4 Note case law and the CRA's administrative policy that obtaining landed immigrant status or appropriate work permits in Canada alone constitutes a secondary residential tie, which taken in isolation, would not usually lead to a determination that an individual is factually resident in Canada. 5 (iii) Secondary Residential Ties The CRA takes the administrative position that secondary residential ties are of limited importance except when several secondary ties exist and are viewed collectively together. 6 Other examples of secondary residential ties to Canada are: 7 1. regularity and length of visits in the jurisdiction asserting residence; 2. permanence or otherwise of purposes of stay; 1 IT-221R3 "Determination of an individual's tax residence status" at paragraph IT-221R3 at paragraph 16, referring to paragraph 5. 3 IT-221R3 at paragraph IT-221R3 at paragraph Lee v. Canada (Minister of National Revenue M.N.R.), [1989] T.C.J. No at paragraph 18 and IT- 221R3 at paragraph 8. 6 IT-221R3 at paragraphs Lee v. Canada (Minister of National Revenue M.N.R.), [1989] T.C.J. No. 1023; IT-221R3 at paragraph 8 and 9.

3 3 3. memberships with Canadian churches or synagogues, recreational and social clubs, unions and professional organizations; 4. registration and maintenance of automobiles, boats and airplanes in Canada; 5. holding credit cards issued by Canadian financial institutions and other commercial entities including stores, car rental agencies, etc.; 6. local newspaper subscriptions sent to a Canadian address; 7. rental of Canadian safe deposit box or post office box; 8. subscriptions for life or general insurance including health insurance through a Canadian insurance company; 9. mailing address in Canada; 10. telephone listing in Canada; 11. magazine and other periodical subscriptions sent to a Canadian address; 12. Canadian bank accounts other than a non-resident bank account; 13. Active securities accounts with Canadian brokers; 14. Canadian driver's licence; 15. membership in a Canadian pension plan; 16. Will prepared in Canada; 17. legal documentation indicating Canadian residence; 18. filing a Canadian income tax return as a Canadian resident; 19. ownership of a Canadian vacation property; 20. active involvement in business activities in Canada; 21. employment in Canada; and 22. severing substantially all ties with former country of residence. (iv) Deeming Provisions There are also a number of provisions in the Act which deem an individual a tax resident of Canada regardless of residential ties to Canada. Perhaps the most notable for the purpose of immigration is the "sojourn rule" codified under paragraph 250(1)(a) of the Act. The sojourn rule provides that an individual is deemed to be a Canadian tax resident if they are

4 4 physically in Canada for 183 days or more in a one year period. This is an aggregate total of days in a calendar year and need not be consecutive days. Further note that part of a day constitutes a day. The CRA takes the administrative policy that to "sojourn" means to make a temporary stay in the sense of making a temporary residence. 8 As such, someone who lives in a US border town and commutes into Canada every day for work, but returns to the US each night would not qualify as "sojourning" on those days, but vacationing in Canada does qualify as sojourning. An individual who sojourns in Canada for a total of 183 days (or more) during a calendar year is liable for tax on his or her world wide income throughout the entire year. This can result in different taxation from an individual who is factually resident in Canada throughout the same period of time but was otherwise non-resident for the balance of the year. Specifically, an individual who is a non-resident for part of the calendar year and resident for the other part of the year is only liable to pay tax on his or her world wide income during the period he or she was a resident of Canada. (v) Resident in a Province In addition to federal income tax, an individual typically has to pay tax to the province where the individual was resident on the last day of the calendar year (or the last day the individual was a resident of Canada). 9 An analysis of provincial tax laws and inter-provincial tax planning is beyond the scope of this paper. (vi) Dual Residence in Two Countries There is potential to be taxed in two jurisdictions where an individual becomes a Canadian tax resident but also retains liability to pay income tax (on grounds of the individual's domicile, residency, citizenship or other basis) in his or her home country. If Canada has a tax treaty with that other country, the treaty will determine which jurisdiction is the individual's residence for tax purposes under the tie breaker rules. Generally, the taxing country will give a tax credit to the taxpayer in the amounts that would have been paid in the other country. Thus, if one jurisdiction has higher tax rates than the other jurisdiction, the foreign tax credit will only alleviate the amount of tax paid in the other jurisdiction and additional taxes could be paid in the second jurisdiction. Canada is currently party to 87 treaties with countries including the United States, Germany and China. 10 In Canada, each treaty entered becomes part of our domestic law. These treaties reflect the reality of the global marketplace, and generally provide for the free exchange of information between states. 8 IT 221R3 at paragraph Section 5 of the Income Tax Act (Nova Scotia) and Section 2601(1) of the Income Tax Regulations made pursuant to the Act. 10 For more information visit the Department of Finance website at

5 5 2. TAXATION OF WORLD WIDE INCOME The determination of residency has added importance because, unlike the taxation systems established in some other countries, Canadian residents are subject to Canadian income tax on their world wide income pursuant to section 3 of the Act. This means that, subject to tax treaties, regardless of where the income is earned, it is required to be reported and taxed on the resident s Canadian income tax return. By comparison, generally a non-resident of Canada is only subject to Canadian income tax on income from sources in Canada, specifically being: Employment income in Canada; 2. Income from a business carried on in Canada; and 3. Proceeds of disposing of taxable Canadian property (which includes shares of corporation resident in Canada and land situate in Canada, among other things). Hence, the timing of recognizing income in foreign jurisdictions should be planned carefully when immigration to Canada is contemplated. Other than the structures discussed in this paper, schemes aimed at holding income producing property offshore for purposes of not declaring taxable income in Canada are generally considered abusive and may subject the taxpayer to significant interest and penalties among other charges. Tax schemes which seem too good to be true are usually just that and independent tax advice should be sought before making such investments. 3. DEEMED DISPOSITION OF PROPERTY AND ESTABLISHING COST BASE FOR CANADIAN TAX PURPOSES Immediately before a taxpayer becomes resident in Canada, he or she is deemed to have disposed of each property owned by him or her (subject to certain exemptions, such as taxable Canadian property 12 ) for proceeds equal to its respective fair market value and is deemed to have acquired the property at a cost equal to that fair market value. 13 In essence, this deemed disposition creates a step-up in cost base upon immigration. Simply stated, the appreciation of property which occurred prior to becoming a Canadian tax resident will not be subject to capital gains tax in Canada if and when the resident eventually disposes of the property (by sale or otherwise). If Canada has a tax treaty with the taxpayer's home country, it is important to review the particular tax treaty to ensure the treaty permits the step-up in cost base. If permitted, this cost amount is an important record for domestic income tax purposes, given that 11 Subsection 2(3) of the Act. 12 There are certain exceptions to this rule which typically requires that property have some pre-existing connection with Canada and includes Canadian real property, shares in private Canadian corporations and assets used in a business carried on in Canada per paragraph 128(1)(b). 13 Paragraphs 128.1(1)(b) and 128.1(1)(c) of the Act.

6 6 subsequent taxation of capital property is determined by reference to the amount the proceeds at the time of the disposition exceed the cost amount. The disadvantage to this provision is that property which has declined in value since its acquisition in the foreign jurisdiction will have its cost amount reduced on the date of residency in Canada. 4. BENEFITS OF THE CANADIAN INCOME TAX SYSTEM New immigrants should also be made aware of many of the benefits of the Canadian income tax system. These benefits include claiming Scientific Research and Experimental Development credits, Canadian-controlled private corporations small business deduction, Universal Child Care Benefits, the Canada Tax Child Benefit and the GST/HST Credit. Note these provisions apply to Canadian taxpayers generally, and are not unique to new immigrants to Canada. Further, useful information on personal credits is provided in the CRA's Guide T4055, "Newcomers to Canada" Easily accessed online by searching "T4055" on Online: