Navigating the taxation landscape as a U.S. citizen living in Canada can be complex and challenging. The tax systems in both countries have their own unique requirements and deadlines, and understanding them is crucial to ensure accurate reporting and prevent penalties. This blog post aims to provide a comprehensive overview of common errors on U.S. expat tax returns, the inclusion of Canadian mutual funds, a Canadian TFSA, or a Canadian RESP on U.S. tax returns, tax filing obligations and the deadlines for both U.S. and Canadian tax returns. Whether you’re a U.S. citizen residing in Canada or a tax professional assisting such individuals, the information shared here will be of great value.
Do I Have to File U.S. Taxes if I Live in Canada?
American citizens residing in Canada are still obligated to file U.S. income tax returns every year if they meet the U.S. tax filing requirements and thresholds. They must report all income from all global sources on their U.S. return. Additionally, U.S. citizens living in Canada may also be required to file a Foreign Bank and Financial Accounts Report (FBAR) if they have more than $10,000 in financial accounts outside the U.S at any time during the year. Furthermore, they are also potentially eligible to claim the Foreign Earned Income Exclusion (FEIE), which can exclude a part of foreign earned income from U.S. tax. However, to claim the FEIE, taxpayers must file their U.S. tax return. Lastly, due to tax treaties between Canada and the U.S., usually, they can claim a foreign tax credit on their U.S. return for Canadian income taxes they paid, avoiding being double taxed.
Basics of Canadian Taxes for U.S. citizens
In Canada, individuals need to file a T1 General tax return annually if they receive income during the year. This return covers common types of income including employment income, investment income, and government benefits. For self-employed individuals or those who have business income, they also report this on the T1 General tax return filing once. Additionally, individuals residing in Quebec are required to file a separate provincial tax return due to its unique tax laws. It’s important to note that the tax year in Canada, like the U.S., is from January 1 to December 31, and the deadline for filing is typically April 30 of the following year.
Foreign Asset Reporting for Canadians
Canadian residents with foreign income or property may be required to file Form T1135, Foreign Income Verification Statement, with their annual tax return. This form must be filled out by individuals who own foreign property with a total cost of more than CAD $100,000 at any point during the tax year. The form asks for detailed information about each foreign property, including the country where it’s located, any income it produced, and its maximum cost during the year. It’s crucial for Canadians with foreign property to understand their obligations, as penalties for non-compliance can be severe.
Foreign Asset Reporting for Americans
Americans residing abroad have the responsibility to report their foreign income and assets through various tax forms. Generally, they must file a U.S. Individual Income Tax Return (Form 1040), even if they owe no tax because of the Foreign Earned Income Exclusion or claiming foreign tax credits. If their foreign bank and financial account balances exceed $10,000 at any time during the year, they will also need to submit a Foreign Bank Account Report (FBAR, FinCEN Form 114). For those with specified foreign financial assets that meet a certain threshold, a Statement of Specified Foreign Financial Assets (Form 8938) is also required under the Foreign Account Tax Compliance Act (FATCA). Similarly, if foreign taxes were paid, a Foreign Tax Credit (Form 1116) may be filed to avoid double taxation. Ensure to consult with a tax professional or the IRS for specific filing requirements as they can vary based on individual circumstances.
Common U.S. Tax Forms and Schedules Required for Expats
U.S. expatriates generally file various tax forms to accurately report their income and assets to tax residents. These forms include:
Form 1040: The standard U.S. Individual Income Tax Return, where all types of income, deductions, and credits are reported.
Schedule A: This form is used to itemize deductions and includes medical and dental expenses, taxes paid, interest paid, gifts to charity, casualty and theft losses, and other miscellaneous deductions.
Schedule B: Expats use this form to report interest and ordinary dividends.
Schedule C: This is used to report income or loss from a business you operated or a profession you practiced as a sole proprietor.
Schedule D: Used to report capital gains and losses from the sale of assets.
Schedule E: This form is for reporting supplemental income and loss, such as rental real estate, royalties, and income from partnerships, S corporations, estates, and trusts.
Schedule F: U.S. citizens with farm income use this form to report their profit or loss.
Schedule SE: Self-Employment Tax is reported on this form.
Form 1116: This form is used by U.S. citizens living abroad to avoid double taxation. It enables them to claim the Foreign Tax Credit for income taxes paid to a foreign country.
Each of these forms requires different information and pertains to different types of income, deductions, and credits. Therefore, U.S. citizens living abroad should take the time to understand each form and its unique requirements. Consider seeking professional tax advice to ensure accurate and complete tax reporting.
Other U.S. Tax Forms and Schedules Required for Expats
Apart from the aforementioned forms, American individuals might also need to file additional IRS forms based on their specific circumstances. For instance:
Form 2555: For claiming the Foreign Earned Income Exclusion, this form is for U.S. citizens who meet certain requirements and want to exclude foreign earned income from their U.S. taxable income.
Form 8960: Titled Net Investment Income Tax— is used by individuals to calculate Net Investment Income Tax.
Form 6251: Individuals Alternative Minimum Tax— Individuals is used to calculate the alternative minimum tax. It is primarily meant for higher income individuals who claim certain deductions and credits that can significantly reduce their regular tax.
Form 5329: Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts. This form is used to report additional taxes on the distributions from traditional IRAs or other tax-favored accounts.
Form 8938: Statement of Specified Foreign Financial Assets. Required by the Foreign Account Tax Compliance Act (FATCA), this form is used to report specified foreign financial assets if the total value exceeds the appropriate reporting threshold.
These forms serve unique purposes and cater to specific financial circumstances. Therefore, understanding their individual requirements is crucial. As always, consulting with a tax advisor or professional is highly recommended to ensure accurate tax reporting.
Common Canadian Tax Forms and Schedules
Canadian individuals, like their American counterparts, must also appropriately file a variety of tax forms based on their income sources, deductions, and credits. The key form is the T1 General Return, which is used to report various types of income, deductions, and tax credits.
Schedule 1: This form is used to calculate federal tax and encompasses details of income from different sources, along with deductions applicable.
Schedule 2: Individuals who need to pay provincial or territorial taxes use this form, except for residents of Quebec, who must submit a separate provincial return due to Quebec’s unique tax laws.
Schedule 3: This form is for reporting capital gains or losses from the sale of assets.
Schedule 4: This is used to list investment income and expenses, such as dividends, interest, and carrying charges.
Schedule 5: Details of dependent spouses or common-law partners, and dependent children are documented in this form.
Schedule 7: This form is for RRSP, and HBP or LLP Activities, which involve retirement savings plans.
Schedule 9: Donations and Gifts are listed on this form to claim a tax credit.
Form T1135: This form is required for Canadian residents who own foreign property with a total cost of more than CAD $100,000 at any point during the year. The form reports detailed information about each foreign property.
Each of these forms has unique requirements and pertains to different types of income and deductions. Therefore, Canadian residents should ensure they understand the requirements of each form. Consulting each filing form with a tax professional is highly recommended to ensure accurate tax reporting.
Understanding IRS Form 1116 and Its Completion for Canadians
Form 1116 is an IRS (Internal Revenue Service) document used by U.S. citizens or residents who paid foreign income taxes to a foreign government due to the income they earned in that foreign country. It is primarily used to claim the Foreign Tax Credit (FTC) to offset the U.S. tax liability, preventing double taxation. For Canadians, here’s how to complete Form 1116:
Prepare Necessary Documentation: Gather all necessary financial documents that show your foreign-earned income and the amount of Canadian income tax paid.
Identify the Category of Income: On Form 1116, classify the type of income for which you are claiming the credit. Income can be classified as passive (such as interest, dividends, royalties), general category income (wages, salaries, self-employment), or other specific categories.
Enter Foreign Source Income and Taxes Paid: Fill in the total amount of foreign income earned and the taxes paid to Canada. This information should be converted to U.S. dollars using the yearly average exchange rate.
Calculate the FTC: The credit is the lower of the Canadian tax paid or the U.S. tax liability on the foreign income. Enter this amount in the credit calculation section of the form.
Carryover or Carryback: If the credit calculated exceeds the U.S. tax liability, you can carry back one year and carry over the excess credit for ten years.
Attach to Form 1040: Once completed, attach Form 1116 to your Form 1040 when filing your U.S. tax return.
Due to the complexities associated with international tax law and potential errors in completing Form 1116, it is highly recommended to seek professional tax advice when claiming the Foreign Tax Credit.
Common Errors on U.S. Expat Returns
Common errors on U.S. expat tax returns can lead to complications ranging from penalties to audits. One of the most common mistakes made regarding tax residency by U.S. expats is failing to file a return, thinking they’re exempt due to residing abroad. However, the U.S. operates on a citizen-based taxation system, meaning all U.S. citizens are required to file a tax return, regardless of where they live.
Another common error is failing to report all sources of income, including foreign-earned income and income from foreign investments. Even if this income is taxed in the foreign country, it must still be reported on the U.S. tax return.
Misunderstanding the Foreign Earned Income Exclusion (FEIE) is another pitfall. This provision allows qualifying taxpayers to exclude a certain amount of foreign earnings from U.S. taxation but expats often make the mistake of incorrectly claiming this exclusion.
Failure to file FATCA (Form 8938) or FBAR (Report of Foreign Bank and Financial Accounts) can also be problematic. These forms are required for U.S. persons who have foreign financial assets or foreign bank accounts meeting certain thresholds.
Finally, additional errors can occur due to the complexity of the tax code and the difficulty of accurately translating and converting foreign income and taxes into U.S. dollars. These errors underline the importance of consulting with a tax professional when preparing a U.S. expat tax return.
Are Canadian mutual funds, a Canadian TFSA, or a Canadian RESP Earnings Included on a my U.S. tax return?
Yes, as a U.S. citizen living in Canada, it’s essential to understand that you are required to report your worldwide income to the IRS, which includes income from Canadian mutual funds, a Tax-Free Savings Account (TFSA), and a Registered Education Savings Plan (RESP).
Canadian Mutual Funds: These are considered as Passive Foreign Investment Companies (PFICs) by the IRS, and income from these funds must be reported on Form 8621. These can be quite complex to deal with in terms of U.S. tax due to special tax and reporting rules.
TFSA: The IRS does not recognize the tax-free status of TFSAs, and as such, income earned in a TFSA is taxable on your U.S. tax return.
RESP: While Canadian tax law allows tax-deferred growth within RESPs and tax-free withdrawals when the funds are used for education, the IRS does not recognize these tax benefits. Consequently, earnings within the RESP are subject to U.S. tax in the year they are recognized and contributions to the RESP may be subject to additional U.S. tax and reporting requirements.
Remember, it’s always advisable to seek professional tax advice when dealing with these matters to ensure accurate reporting and compliance with all U.S. tax laws.
Benefits of the Canada-US Income Tax Treaty for Americans in Canada
The Canada-US Tax Treaty, formally known as the Convention Between the United States of America and Canada with Respect to Taxes on Income and on Capital, provides several benefits for American citizens residing in Canada.
Elimination of Double Taxation: The primary goal of the treaty is to prevent double taxation, where an individual would have to pay taxes in both the US and Canada on the same income. This is achieved through the Foreign Tax Credit, which allows US citizens to offset taxes paid to Canada on their US tax return.
Tax Deferral for Retirement Savings: The treaty allows US citizens in Canada to defer tax on income contributed to Canadian Registered Retirement Savings Plans (RRSPs) until it is withdrawn, similar to an IRA in the US.
Estate Taxes: For Americans living in Canada, the treaty provides relief from double taxation in the event of death. The estate, inheritance, and gift taxes imposed by one country may be credited against the tax levied by the other country.
Reduced Withholding Taxes: The treaty reduces the rate of withholding tax on cross-border interest, dividends, and royalty payments.
Protections for Social Security Benefits: Under the treaty, US Social Security benefits and Canadian Social Security (CPP and OAS) benefits are only taxable in the recipient’s country of residence.
Remember, the interpretation and application of the tax rules and treaties can be complex, and it’s always advisable to consult a tax professional to understand how these rules apply to your specific situation.
Deadline for U.S. Tax Returns
The annual deadline for filing individual tax returns with the Internal Revenue Service (IRS) in the United States is typically April 15. However, when this date falls on a weekend or a holiday, the filing deadline often is extended to the next business day. For U.S. citizens living abroad, including those in Canada, an automatic two-month extension to June 15 is available. Nevertheless, any owed taxes are still due by April 15, and interest will accrue on any payment made after this date. It’s essential to stay informed about these deadlines to avoid any penalties or late fees.
Deadline for Canadian Tax Returns
In Canada, the deadline for individual tax returns is generally April 30 each year. However, if this date falls on a weekend, the Canada Revenue Agency (CRA) extends the general filing deadline to the next business day. It’s crucial to be aware of this date to avoid penalties for late filing. If you or your spouse or common-law partner are self-employed, the deadline to file your taxes is June 15. However, if you owe taxes, they are still due by April 30. As with U.S. tax deadlines, it is advisable to consult with a tax professional to ensure accuracy and compliance with all tax laws.
In conclusion, navigating tax obligations as a U.S. citizen living in Canada can be complex and daunting due to the intricate nature of both the U.S. and Canadian tax systems. It’s crucial to keep in mind the requirement of reporting worldwide income to both the IRS and CRA. Moreover, understanding the unique aspects of each system, such as the tax treatment of Canadian mutual funds, TFSAs, and RESPs by the IRS, is critical. Deadlines for filing tax returns differ slightly in both countries, so it’s essential to stay informed to avoid penalties or late fees. Due to the complexity and potential for errors, it is highly recommended to seek guidance from a tax professional to ensure accurate reporting and full compliance with tax laws in both countries.
Submitting U.S. Tax Filings from Canada
Submitting U.S. tax filings from Canada can be easily done through electronic filing, also known as e-filing. Here’s how to go about it:
Prepare Your Tax Documents: Gather all necessary documents, including W-2s, 1099s, and any documents related to foreign income or taxes paid. For foreign income, you’ll need statements from Canadian banks or financial institutions, as well as proof of any Canadian taxes you paid.
Choose an IRS-Approved E-File Provider: Make sure the provider supports the forms you need to file, including Form 1040 and Form 1116 for claiming the Foreign Tax Credit.
Complete Your Tax Return: Input your income information, deductions, and credits into the provider’s software. Be sure to include any Canadian income and taxes paid in the foreign income sections.
Submit Your Tax Return: Once you’ve completed your tax return, you can submit it directly to the IRS through the e-file provider. You’ll receive a confirmation once it’s been accepted.
Pay Any Owed Taxes: If you owe taxes, you can pay them online through the IRS’s Direct Pay system or by setting up an installment agreement if you’re unable to pay in full.
Keep a Copy of Your Submission: Be sure to save a copy of your filed tax return and all associated documents for your records.
Remember, international taxation can be complex, and mistakes can lead to penalties. Consider consulting with a tax professional experienced in U.S. expatriate taxes to ensure accurate and timely tax filing throughout.
Mailing U.S. Tax Returns That Cannot Be E-Filed from Canada
In some cases, taxpayers might not be able to e-file their U.S. tax returns. When this occurs, mailing in the tax returns becomes necessary. Here’s how to do it:
Prepare Your Tax Return: Complete your tax return as you would for e-filing, ensuring that all necessary forms, schedules, and documentation are included. Sign and date your return.
Make Copies for Your Records: It’s essential to keep a copy of all documents you’re sending to the IRS for your personal records.
Address the Envelope: Depending on where you live, the IRS has different mailing addresses for receiving paper tax returns. For taxpayers in Canada who are not enclosing a payment to the IRS, the mailing address is Department of the Treasury, Internal Revenue Service, Austin, TX 73301-0215 USA.
Always consult a tax professional to ensure you’re correctly preparing and mailing your tax return. This helps avoid any potential errors or delays in processing.
Making a Payment to the IRS
If you owe taxes to the Internal Revenue Service (IRS), there are several methods available to make a payment, even from abroad. Here’s how you can do it:
Direct Pay: The IRS Direct Pay service allows you to pay directly from your checking or savings account at no cost. You can use this service to pay your individual tax bill or estimated tax payment. After confirming your identity, input the payment details, including the amount and the date you want the payment to be made.
Electronic Federal Tax Payment System (EFTPS): EFTPS is a free service from the U.S. Department of the Treasury. To use EFTPS, you must first enroll in the system, which can take five to seven business days. Once enrolled, you can schedule payments from your checking or savings account. EFTPS also allows you to schedule payments up to 365 days in advance.
Debit or Credit Card Payments: The IRS uses third-party payment processors to process debit and credit card payments. Note that these processors charge a fee. Once you select a payment processor, you’ll be prompted for payment information and confirmation.
Pay by Check or Money Order: If you wish to mail a payment, you can send a check or money order payable to the U.S. Treasury. Ensure that your name, address, Social Security number, and phone number are written on your check. Include a Form 1040-V, which is a payment voucher, but don’t attach the check to the voucher.
Wire Transfer: If you’re abroad, you also have the option to pay by wire transfer. You can ask your bank or financial institution to make a same-day wire payment on your behalf.
Please remember that it’s essential to make payments on time to avoid any penalties or additional interest. Consider consulting with a tax professional if you need advice on making a tax payment to the IRS.
Making a Payment to the Canada Revenue Agency (CRA)
If you owe taxes to the Canada Revenue Agency (CRA), there are multiple methods available to make a payment, even from abroad. Here are the steps you can follow:
My Payment: The CRA’s My Payment service is an electronic payment service that lets individuals and businesses make payments directly to the CRA from their online banking account. Use this service to pay your individual, business, or GST/HST taxes.
Financial Institutions: You can pay your taxes through your financial institution’s telephone or Internet banking services. Most Canadian financial institutions offer this service.
Debit Card: You can pay your taxes using Visa Debit, Debit MasterCard, or Interac Online. Choose the “Pay by Debit Card” option when you check out.
Pre-Authorized Debit: Pre-authorized Debit is a secure, online self-service payment option for individuals and businesses. This option lets you set the payment amount you authorize the CRA to withdraw from your Canadian bank account to pay your taxes on a specified date.
Remember, it’s crucial to make payments on time to avoid any penalties or additional interest. Consider consulting with a tax professional if you need advice on making a tax payment to the CRA.
This blog post provides comprehensive guidance on the process of filing U.S. tax returns from Canada, handling situations where e-filing may not be possible, and the options available for making payments to both the Internal Revenue Service (IRS) and the Canada Revenue Agency (CRA). It underscores the importance of meticulous preparation, retaining copies of all documents, and consulting with a tax professional to avoid errors and penalties. The post emphasizes the convenience of various online payment methods, including Direct Pay and the Electronic Federal Tax Payment System for the IRS, and My Payment service for the CRA, while also accommodating traditional methods such as checks or money orders. The importance of making payments on time to eschew penalties or additional interest is reiterated throughout.
Need Help from a Cross-Border Tax Accountant in Toronto or Oakville, Ontario?
Contact Contact Cross-Border Financial Professional Corporation – When Perspectives Matter!
Karlene J. Mulraine, EA, CPA, CA, CPA (NH) is the President of Cross-Border Financial Professional Corporation. Follow us on Linkedin and Twitter, or hang out on Facebook.
The views expressed in this article are those of the author and should not be relied on to make decisions. Consider discussing your specific circumstances with an appropriate specialist.