Tax Considerations for Canadians Buying U.S. Real Estate

Purchasing a home in the United States as a Canadian or even other foreign national can be daunting, especially if you are unfamiliar with the US real estate industry. If you’re wanting to buy a home in the United States, whether as a newbie on an H1-B, L-1, or other visas or as a non-resident foreign investor, this comprehensive guide will walk you through the different taxReal Estate considerations if you intend to purchase a US real estate.

Withholding tax on sale

The Foreign Investment in Real Property Tax Act (FIRPTA) requires the purchaser to withhold 15% of the total selling price at the time of sale and remit it to the IRS as a federal withholding tax. This federal withholding tax could be lowered to 10%. (depending on the selling price and the intention of the purchaser for occupancy). 

If the seller obtains a withholding tax certificate prior to the sale’s closing date, the withholding tax demand may be substantially reduced or perhaps eliminated entirely. When the seller can show that their final U.S. tax liability from the sale of the property is less than 15% or 10% of the selling price, certificates may be awarded.

 Furthermore, several states have their own withholding tax (California and Hawaii are notable examples).

Sale of the U.S. property

Likewise, when you or your Canadian entity sells a U.S. property, you must report it on a federal income tax return in the United States (as well as a state income tax return if the state where the property is located levies income tax) and a Canadian income tax return, with a foreign exchange adjustment. 

For example, if you bought a US house for US$500,000 in 2010 and sold it today for US$600,000, the gain is US$100000 (ignoring selling expenses). However, you will declare a gain of around CDN$300,000 on your Canadian income tax return. 

The greater sum represents the foreign exchange adjustment, as the exchange rate in 2010 was about 1.00 and is now 1.32 (i.e., 1 US dollar = 1.32 Canadian dollars). To prevent double taxation, Canada will normally provide a foreign tax credit for taxes paid in the United States on rental income or gains from the sale of real estate in the United States.

Individual taxpayer identification number (ITIN)

If you are a non-resident of the United States getting income from a U.S. property or selling U.S. real estate and do not have or cannot obtain a U.S. social security number, you must obtain an Individual Taxpayer Identification Number (ITIN).

 An ITIN is a tax identification number issued by the Internal Revenue Service (IRS) for the exclusive purpose of assisting individuals in complying with United States tax regulations. While obtaining an ITIN is not difficult, the application process and paperwork required to accompany the application can be perplexing. Our IDM team can help non-residents obtain their ITIN number in the United States.

Earning rental income

If you expect to earn rental income from your U.S. real estate, the rental income will be subject to U.S. income tax. In this case, you have two options: (1) withhold and send 30 percent of gross rental income to the IRS (i.e. no deduction for expenditures); or (2) file a non-resident U.S. tax return and pay tax at graduated rates on net rental income (deduction for expenses allowed).

 It’s worth noting that, as a Canadian resident, your rental income is reportable and taxable in Canada, with a foreign exchange adjustment.

Ownership structure

The function of the property will determine how you arrange your ownership. Will it be solely for personal use, an investment that will create rental revenue, or a combination of the two? How long do you plan to keep the house? Is it your goal to leave a legacy that will be passed on to future generations?

Many Canadians want to have their property registered in their own names. This is the most straightforward choice, and the tax treatment upon sale may be preferable to other ownership structures. Other alternatives include forming a corporation, forming a partnership, or forming a trust. Many south of the border consultants, as well as certain online sources, propose holding U.S. real estate through a Limited Liability Company (LLC). As a resident of Canada, this is often not the greatest option because it might result in double taxation, with income tax rates of up to 70%.

Regardless of why you’re buying real estate in the United States, you should seek competent tax and legal guidance before making a purchase, as restructuring afterward can be costly.

U.S. estate tax implications

One big downside of directly possessing U.S. real estate is the possibility of being subject to the U.S. estate tax. The United States retains the power to collect an estate tax on Canadians who own “U.S. situs assets” in the United States at the time of their death. Real estate in the United States, stock in United States firms, and tangible property in the United States are all examples of U.S. situs assets.

Concerning the U.S. estate tax, properly structuring the purchase of U.S. real estate will be critical. Non-residents in the United States are entitled to a basic exemption of US$60,000 under domestic law. The Canada-US Income Tax Treaty, on the other hand, provides Canadians with an exemption comparable to that of US citizens (US$11.7 million). As a result, if Canadians hold U.S. situs assets and their worldwide assets surpass US$11.7 million, they may be subject to US estate tax.

We are here to help if you have questions on Tax considerations when you intend to purchase or have already purchased, real estate located in the U.S. Contact IDM Professional Corporation CPA.

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