Your Complete Guide to Index Investing with Dan Bortolotti

US Investors in Canada: What to Watch For

2018-08-28T11:55:09+00:00June 18th, 2014|Categories: Foreign currency, Taxes|Tags: , |35 Comments

Index investors in the US have always had it easier than Canadians, thanks to lower costs and more choices. Unfortunately, if those investors move to Canada, their plight becomes much more difficult.

Unlike Canada (and virtually every other western country), the US requires its citizens to file an annual return and potentially pay taxes even if they live abroad. The rules may apply even if you were born in Canada and have never lived in the US, since it’s possible to inherit citizenship from US-born parents. For tax purposes, “US persons” don’t even need to be citizens: they can also be Canadian green card holders or snowbirds.

Tax implications for US persons living in Canada are complex and often controversial: if you’re in this situation, you should seek help from an advisor who specializes in cross-border issues. But here’s a heads-up on two issues that have recently come up with clients of our DIY Investor Service who had no idea they were flirting with danger.

Don’t open a TFSA or an RESP. Tax-Free Savings Accounts (TFSAs) and Registered Education Savings Plans (RESPs) offer significant tax benefits for Canadians. But the US government may consider them foreign trusts that require additional reporting. US tax filers are also obliged to report all investment gains from these accounts (interest, dividends and capital gains) on their annual returns.

As a US citizen in Canada, it’s likely not worth it to open a TFSA at all. If you do have one, you should hire a professional to make sure you’re compliant, and that expense could offset any tax savings you might get from the account. If you’re married to Canadian, remember you can give a spouse money to contribute to his or her own TFSA: this is a simple solution for couples who are not able to contribute the maximum anyway.

For RESPs, too, the situation is easier if you’re married to someone who is not a US person for tax purposes. Simply make sure your spouse is the plan’s subscriber.

Don’t hold Canadian funds in non-registered accounts. The US imposes punitive taxes on income from what are called Passive Foreign Investment Companies (PFICs). Canadian mutual funds and ETFs are considered PFICs, and US persons who hold them in a non-registered account are now required to file Form 8621 every year. (Holdings under $25,000 may be exempt.)

Reporting PFICs is an odious task (the instructions are 13 pages long) and a tax advisor will charge a significant fee to prepare the paperwork. Moreover, you may be required to obtain an annual information statement from the mutual fund or ETF provider: fortunately, some firms now provide them on their websites, but not for every fund.

Note that holdings in an RRSP don’t need to be reported as long as you have filed Form 8891, but if you ignored the advice against opening a TFSA or RESP, you would need to report holdings in these accounts.

If you’re a US citizen living in Canada, the easiest thing to do is simply avoid Canadian mutual funds and ETFs in non-registered accounts. If possible, hold any Canadian index funds and ETFs in your RRSP and use US-listed ETFs for your equity holdings in non-registered accounts. Even if you pay too much for currency conversion, the expense is likely to be far lower than the cost of complying with US tax law.

35 Comments

  1. HD June 18, 2014 at 10:28 am

    As a US person who was born in Canada but never lived in the US, can’t you just renounce your US citizenship and avoid the hassle?

    Best,

  2. Neil June 18, 2014 at 10:39 am

    This also applies if you are a Canadian who moved to the US (e.g. on an H1B like me).

    I have contacted both TD (e-series) and iShares about PFIC reporting and the customer reps seemed to suggest these PFIC information statements will be made available for 2014 tax filings.

    Apart from that I agree with your RESP and TFSA advice. Just too much hassle. The only suggestions I have for those moving to the US is a) close these things prior to your move, so you never have to report them b) transfer your RESP subscriber to a trusted relation (grandparent) prior to becoming a US resident. That way you keep the tax-free growth in Canada without the need to close it (non residents of Canada cannot receive contributions as RESP beneficiaries). Anecdotally you cannot transfer an RESP to a new subscriber if you are not a Canadian resident.

    All in all, I have found these challenges a good motivation to keep excellent records and to simplify holdings. Just filing the foreign account reporting (FBAR) is good incentive to close dormant accounts.

  3. Canadian Couch Potato June 18, 2014 at 12:23 pm

    @Neil: Thanks for sharing your experiences. Good to hear that the fund providers have said they will be generating PFIC statements.

    @HD: You can renounce US citizenship, but that’s a huge decision. I would think few people will find that preferable to simply filling out some additional paperwork and making a few relatively minor adjustments to the their investment portfolio.

  4. BC_Doc June 18, 2014 at 12:41 pm

    Thanks for the very timely article. The FATCA US-Canada IGA (which ironically comes into effect on Canada Day) and the US Treasury Department’s recent insistence on FBAR filing are guaranteed to create a big headache for Canadians with US roots and throws them into a quagmire.

    The issues related to FATCA and FBAR reporting are gaining a much higher profile as we approach July 1st. The Wall Street Journal ran a front page article yesterday on the spike in dual US citizens forced into renouncing their US citizenship due to the steep price and hassle in “complying” with the IRS.

    http://online.wsj.com/news/article_email/more-expatriate-americans-break-up-with-uncle-sam-to-escape-tax-rules-1402972439-lMyQjAxMTA0MDEwNjExNDYyWj

    Two helpful websites for Canadians who are “burdened” with dual US citizenship are isaacbrocksociety dot ca and maplesandbox dot ca

  5. Serge June 18, 2014 at 1:04 pm

    Does it mean that there can be double taxation on the same incomes or capital gains from investment? I am a European citizen living in Canada as a permanent resident but my country, well known for its huge taxation system, doesn’t require me to report or pay anything. It would be terribly unfair to pay both the CRA and IRS for the same securities. Am I wrong?

  6. Canadian Couch Potato June 18, 2014 at 1:29 pm

    @Serge: In the vast majority of cases, tax treaties between Canada and the US ensure that people are not taxed twice on the same income. Most of the burden on US persons in Canada comes from reporting, not from payment of taxes to the IRS.

  7. EH June 19, 2014 at 12:22 pm

    Thanks for the informative article. You say, “Don’t open an RESP”, but you don’t provide any alternatives. If the choices are 1. Hold US ETFs in an RESP, or 2. Hold US ETFs in a taxable account, I don’t see the disadvantage to the RESP, except for an additional IRS form to complete. Either way, the interest, dividends, and capital gains are going to be taxed, but with an RESP there is extra grant (CESG) money that is contributed. The only other choice I see is not saving for education at all, which seems worse than the filing requirements of an RESP. Thanks in advance for your input.

  8. Erick June 19, 2014 at 1:16 pm

    My wife is a Canadian resident and a US citizen. She’s been dutifully filing US taxes (incorrectly) for several years, so we’ve hired a cross-border tax specialist to sort that mess out, along with the asset holding reporting requirements.

    Any suggestions on what to do with the investments targeted by the IRS going forward?
    – maxed out TFSA
    – legal owner of a JTWROS non-registered account – Canadian and US ETFs
    – beneficial owner of a JTWROS non-registered account – Canadian ETFs

    Her RRSP is also maxed out so, we can’t move anything into that account.

    She’s open to the idea of renouncing her US citizenship, but that comes with its own set of challenges/repercussions.

    Grateful for any guidance on how to deal with this quagmire…

  9. Ben June 19, 2014 at 3:53 pm

    My suggestion for the issue of the RDSP/RESP/TFSA/non registered invesntment account earnings being considered taxable by the USA would be to report those earnings as required on the form 3520 or 8621 and 1040 and then exclude those earnings by putting them on line 23 (other foreign earned income) on the form 2555.

    I’m not a tax attorney but that’s what I’d do. It probably meets the test of making an honest attempt to be in compliance.

    IRS instructions on form 2555 say:

    Line 23. List other foreign earned
    income not included on lines 19-22. You
    can write “Various” on the dotted lines to
    the left of the entry space if you have other
    foreign earned income from multiple
    sources.

    Sounds a lot like RESP/RDSP/TFSA/Non-registered account income to me.

  10. JG June 20, 2014 at 1:11 pm

    @HD: I am a Dual Canadian/US citizen living in Canada and been filing taxes in both countries for years. Denouncing US citizenship is a process and one step is an audit. So as long as you think you are clean for the past 7 years, meaning no mistakes, etc. then go for it. But I have to agree with CCP, denouncing US citizenship to avoid paperwork is fairly extreme. The treaties are set up to avoid double taxation, you just have to do more homework than the average person to ensure you make the right decisions. Plus having US citizenship is a benefit, you have access to quite a large market if you ever want to move there for work or start a business there. You might say never, but it’s hard to predict the future. Don’t get me wrong though, I do think the US tax filing requirements on its citizens abroad is horrible and should be abolished.

  11. Mike June 20, 2014 at 5:23 pm

    @Ben: Unfortunately investment income is not earned income, so doesn’t belong on the 2555. There’s no equivalent exemption for foreign investment income.

    It’s ironic that FATCA is coming into effect in Canada just as Ottawa denounces Eritrea’s attempts to collect tax from Eritrean citizens living in Canada. Eritrea is the only other country in the world aside from the US which is arrogant enough to tax based on citizenship rather than residency.

  12. Canadian Couch Potato June 21, 2014 at 7:47 pm

    @EH: You would probably have to to the math to get a confident answer, but I would be surprised if the additional paperwork and taxes imposed by the IRS would make an RESP worthwhile. The grant has a lifetime maximum of $7,200, and if the RESP was open for 20 years or so the cost of compliance could easily be higher than that.

    One option you did not mention is saving for education in a non-registered account using products such as GICs, which would have no reporting obligations.

    @Erick: If you have hired a cross-border tax specialist, I think your questions are best directed to him or her.

  13. Erick June 21, 2014 at 8:07 pm

    @CCP: We’ll be running the investment question by the specialist, but I’m also interested in your opinion (and Justin’s, if he’s reading this).

    For those just starting out, your advice to avoid opening TFSAs/RESPs and Canadian ETFs in non-registered accounts is definitely worth heeding.

    I’m hoping you can also discuss options for those of us who have already accumulated assets that are in the IRS cross-hairs.

  14. calgary411 June 21, 2014 at 8:22 pm

    Available for your research at http://citizenshipsolutions.ca/2014/02/06/pfic-taxation-and-americans-abroad/

    This submission (to the U.S. Senate Finance Committee) is titled: “Request for PFIC Tax Rules Changes for U.S. Citizens Overseas”.

    It is intended to be a further elaboration of the “PFIC rules” component of the January 17 2014 submission made to the Senate Finance Committee by Richardson, Yates, and Kish entitled “Request for Tax Rule Changes for U.S. Citizens Overseas.”

    Our first submission provided general recommendations and analysis and included only a limited discussion on the PFIC tax rules (pages 21-24). This new submission by two of the co-authors (Mr. Yates is not part of the new submission) provides a detailed and, what we believe to be, important discussion and analysis of the PFIC rules with a specific recommendation to the committee.

    The world of PFICs is extremely complicated and confiscatory. The message for U.S. citizens abroad who have purchased mutual funds (and similar investment vehicles) in their country of residence is:

    Do NOT buy more and get professional advice for how to deal with the ones you have.

    Enjoy (to the extent that it is possible when reading about PFICs).

  15. Canadian Couch Potato June 21, 2014 at 9:58 pm

    @Erick: Neither Justin nor I are specialists in this area and it would be irresponsible of us to offer any advice. Sorry.

  16. Matt June 21, 2014 at 10:48 pm

    I’m a Canadian with a tfsa. I might become a US citizen in the coming years as my work keeps me there. Will my existing tfsa become a complicated burden at that point?

  17. Canadian Couch Potato June 22, 2014 at 10:51 am

    @Matt: It certainly could, and you don’t need to become a citizen for it to be an issue. Canadians with green cards are also considered US persons for tax purposes.

  18. Tyler June 22, 2014 at 3:00 pm

    Matt, CPP: It’s worse than that. You don’t need to be a permanent resident (green card), or even have a job in the US at all. If you’ve spent more than 30 days in a year and more than 183 days in three years (previous years count for less than a full day), you’re considered a US person (substantial presence; see http://www.irs.gov/Individuals/International-Taxpayers/Substantial-Presence-Test ). My understanding is that there is a way to be exempted from this if you can show you have a closer connection to e.g. Canada, but this also requires filing a form (with acceptable evidence of this) with the IRS.

    But certainly, if someone is working in the US (even as an alien under a TN or H1B visa), they’re going to be considered a US person.

  19. plain jane June 23, 2014 at 1:44 pm

    Erick – at my tax preparer’s recommendation I closed my TFSA. I decided to make a lump sum prepayment against my mortgage (RRSPs maxed out) with most of the cash.

    There were several “unsophisticated investor” letters to the IRS, and I didn’t have to pay any tax or penalties. There had been minimal growth in my TFSA because it was my emergency fund (high interest savings account), which may have helped.

  20. Adam June 25, 2014 at 1:02 pm

    Thanks for the information. I’m a US citizen living in Canada (permanent resident, wife and daughter are citizens). Based on this article, I’ll be deregistering my TFSA. One clarification, do I need to sell all the ETFs in my TFSA first?

    It’s mostly your recommended funds like HXT, XEF, XEC etc. Since they are all Canadian listed, do I need to sell them a us-listed equivalent?

    Appreciate your help.

  21. Canadian Couch Potato June 25, 2014 at 1:38 pm

    @Adam: I can’t advise you specifically. But if you are de-registering a TFSA it will become a non-registered account, so you would then be in the same situation as other US persons when it comes to PFICs (i.e. holding Canadian mutual funds/ETFs in a non-registered account). That would require additional reporting to the IRS.

  22. Erick June 25, 2014 at 2:07 pm

    @plain jane: Thanks for sharing your solution. Once I figure out what we’re going to do, I’ll post the details.

  23. Adam June 25, 2014 at 2:11 pm

    I’m not sure I understand, you said above: ” If possible, hold any Canadian index funds and ETFs in your RRSP and use US-listed ETFs for your equity holdings in non-registered accounts.”

    I have canadian funds in my RRSP and I would be planning to purchase US-listed funds for the non-registered account. Does that address the problem?

  24. Canadian Couch Potato June 25, 2014 at 2:31 pm

    @Adam: Yes, that would address the problem.

  25. Fred Ziffel June 28, 2014 at 4:35 pm

    Canadian Couch Potato wrote:
    “For RESPs, too, the situation is easier if you’re married to someone who is not a US person for tax purposes. Simply make sure your spouse is the plan’s subscriber.”

    Comment:
    There are grants and bonds available to low income people but only if BOTH parents are subscribers. With several children, this could add up to thousands of dollars. Poor people get the short end of the stick again!

    Question:
    Do the reporting requirement being imposed on the Canadian banks July 1 (i.e. asking about American citizenship) also apply to credit unions or, for example, in Alberta, the Alberta Treasury Branch? Could dual citizens find a safe (non-reporting) haven for their money in financial institutions under provincial jurisdiction?

  26. Fred Ziffel June 28, 2014 at 5:40 pm

    The following would seem to indicate that TFSAs and RESPs will not be reported by Canadian banks?

    From the Canadian Bankers Association website:
    http://www.cba.ca/en/consumer-information/40-banking-basics/597-fatca-and-the-canada-us-intergovernmental-agreement-iga-information-for-clients-

    Will financial institutions have to disclose information about registered plans?
    The following registered plans will be exempt from reporting:
    Registered Retirement Savings Plans (RRSPs)
    Tax Free Savings Accounts (TFSAs)
    Registered Disability Savings Plans (RDSPs)
    Registered Pension Plans (RPPs)
    Registered Retirement Income Funds (RRIFs)
    Pooled Registered Pension Plans (PRPPs)
    Registered Education Savings Plans (RESPs)
    AgriInvest Accounts
    Deferred Profit-Sharing Plans

  27. Be'en September 18, 2014 at 3:40 am

    I was granted a US green card about 10 years ago, but never moved to States to take up residency.

    I have been a permanent resident of Canada since 1994 and don’t intend to move to US.

    Since I did not move to US, is the green card deemed invalid now and I needn’t worry about reporting to IRA, or would I need to “renounce” it?

    Dan, I realise that you may not have an answer to this but am hoping that someone reading this blog might know something.

    Thanks.

  28. Be'en September 18, 2014 at 8:11 pm

    @calgary411,

    Thanks. The links are very useful. I should at the very least give up the green card. It does not serve any useful purpose for me.

  29. Ryan April 5, 2017 at 10:52 pm

    Does tfsa need to be reported on US taxes for an American living in Canada,, if they never turned it into an investing tfsa? Just saving?

  30. JG April 6, 2017 at 10:00 am

    @Ryan. Yes, savings still earns interest and one still has to pay tax on interest earned in a savings account in the US. TFSA is a special Canadian savings or investment account in which they don’t tax the interest earned. US sees this as a foreign trust and you will have to file additional paperwork and pay US tax on the interest. It does not matter how the interest was earned (savings, CDs, bonds, stocks).

  31. Neil April 6, 2017 at 10:57 am

    Even if no tax is due you have 3520 and 3520a reporting requirements. For a simple account like a cash only GIC the accounting and paperwork is involved but not complex.

  32. Ryan April 6, 2017 at 7:54 pm

    @JG Thank you for the reply.

    As someone mentioned above, can I put my small fee from interest on form 2555 on line 23?

    IRS instructions on form 2555 say:

    Line 23. List other foreign earned
    income not included on lines 19-22. You
    can write “Various” on the dotted lines to
    the left of the entry space if you have other
    foreign earned income from multiple
    sources.

  33. Ryan April 6, 2017 at 8:07 pm

    @Neil, thank you also for the reply.

    I was reading http://www.huffingtonpost.ca/cleo-hamel/taxfree-in-canada-doesnt-_b_9017062.html and at the very bottom it says:

    TFSAs can actually be detrimental to people with U.S. filing obligations depending on how the account is structured. TFSA deposits do not have to be held in savings accounts. Canadian financial institutions are offering more options to accelerate the growth of the deposits which can now own stocks, mutual funds, segregated funds or a mix of investments. If your TFSA is set up so you can own these types investments then it is considered a foreign trust requiring two forms each year – F3520 and 3520-A.

    My TFSA did not have GIC, investments, etc. It was strictly a cash account for saving. So since my account is not a considered a foreign trust, can I just put the interest earned on a Form 2555 (line 23) and not have to worry about the F3520 and 3520-A??

  34. Neil April 7, 2017 at 3:10 am

    I believe the IRS still considers it a trust, just not an exciting one. You should get advice from a good cross border accountant – Serbinski seems like a starting place.

    If you aren’t using the tax free growth part of the TFSA I would just not bother.

  35. Jeff April 7, 2017 at 3:46 pm

    @Ryan. Thanks for sharing the article, very good source of information. I found another reference:

    https://hodgen.com/canadian-tfsas-and-the-certification-test/

    I guess my personal opinion from all that I read is that it is a grey area with many different opinions and the IRS has never officially taken a stance on TFSAs. So I have personally avoided them as a dual Canadian/US citizen.

    But I imagine if all you are doing is earning a fixed interest in a TFSA, you are not paying taxes in Canada on it, but report the interest and pay taxes on it to the US, then perhaps the IRS won’t have a problem with it. But you can’t be sure, so it is a risk once decides to take or not.

    But I don’t think there is a benefit of a TFSA that you pay US tax on over a regular savings account you pay Canadian tax on. You pay tax on both, so you lost the benefit. You don’t pay more tax on the regular savings account because the Canadian taxes paid can be used as a tax credit in the US.

    So just get a normal savings account, pay CAD taxes on the interest, use these taxes as a credit in the US, and avoid the uncertainty (https://www.highinterestsavings.ca/chart/).

    The real advantage of the TFSA is that it is essentially an RRSP without the income tax deduction. So you can invest in it and have all the earnings grow tax free, unless of course you are like us and have US tax obligations.

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