Dealing with clients who hold U.S. citizenship or own assets south of the border has always been a tricky proposition for Canadian financial advisors.

“The planning issues become a lot more difficult, and you can make a lot more mistakes,” says Brian Wruk, a certified financial planner and partner with Transition Financial Advisors Group Inc., based in Calgary and Phoenix.

There are several common pitfalls that can waylay an advisor whose client has a cross-border connection. However, the biggest pitfall is failing to ask the right questions to identify which of your clients have these connections.

“You need to ask your client where he or she was born, if he or she holds U.S. citizenship or a green card, if he or she owns U.S. assets and if his or her spouse or children are U.S. tax residents,” explains Terry Ritchie, a CFP and partner with Transition Financial.

Ritchie and Wruk are co-authors of The Canadian Snowbird in America (ECW Press, 2007) and two other books on cross-border issues.

Regardless of whether U.S. citizens work or own assets in the U.S., U.S. citizens and green-card holders are subject to U.S. income, gift and estate taxes on their worldwide assets — no matter where they reside. That means that a U.S. citizen or green-card holder resident in Canada must continue to file a U.S. income tax return every year and keep in compliance with other U.S. tax-filing requirements.

Even a Canadian who is not a U.S. citizen or green-card holder, and otherwise has no other connection to the U.S., may find him- or herself subject to U.S. estate taxes if he or she owns more than $60,000 worth of U.S.-based real estate or securities and if his or her worldwide estate is valued at more than US$3.5 million at the time of death. The estate tax would be levied on the portion of the estate that was U.S.-based. Here are a number of other potential pitfalls:

> Life Insurance. The value of proceeds from any Canadian life insurance policy held by a U.S. citizen or green-card holder is included in the calculation determining the value of an estate for U.S. estate tax purposes. This is also true for Canadians in determining the value of their worldwide estate for non-resident estate tax purposes. A solution to this could be arranging for the policy to be held in an irrevocable life insurance trust, which will keep the value of the proceeds out of the policyholder’s estate.

> Wills. Will planning is the most effective way to limit your client’s exposure to U.S. estate taxes, experts say.

Strategies differ, depending on whether a U.S. citizen client is married to another U.S. citizen or to a non-U.S. citizen, or if the client is a Canadian married to a U.S. citizen. Most strategies involve the use of trusts. For instance, a Canadian spouse may want to set up a spousal trust to keep his or her assets out of the U.S. citizen spouse’s estate, should the Canadian die first.

One common estate-planning pitfall can occur in situations in which one or both of a Canadian resident couple who hold U.S. citizenship or a green card elect to hold assets in joint accounts in order to avoid the probate fees that are levied in some Canadian provinces. The problem with this approach is that if the deceased’s estate passes to the surviving spouse through joint ownership, the opportunity to make use of the advantages provided by setting up the trusts essentially are lost.

> Estate Freezes allow a business owner or individual to “freeze” the value, in the hands of the individual at disposition or death, of his or her business or investment portfolio — and, therefore, the tax liability on the appreciation of that business or portfolio — while all future growth of that business or portfolio, including the tax liability on that growth, belongs to the heirs.

However, as the U.S. Internal Revenue Service does not recognize a Canadian estate freeze, disadvantageous tax consequences can arise if the business owner or one of the heirs is a U.S. citizen. For instance, if the business owner is a U.S. citizen, U.S. gift taxes may be applicable to the exchange of shares involved in the estate freeze. If the heir is a U.S. citizen, shares of the business or portfolio may form part of the estate. Other estate-planning strategies — a family limited partnership, for instance — can be used by U.S. citizens to achieve some of the same goals as an estate freeze does.

@page_break@> Gift Taxes. If a U.S. resident receives a gift valued at more than US$100,000 from a non-U.S. resident, he or she must file a U.S. IRS Form 3520 to declare the gift. Failure to file may result in significant penalties. When Canadian parents leave an inheritance or make a significant gift to children who have moved to the U.S., this cross-border tax-planning trap can arise. “We’re seeing more and more of this,” says Prashant Patel, vice president of high net-worth planning services with Royal Bank of Canada’s wealth-management services division in Toronto. “It should be a red flag for advisors.”

> Canadian Accounts. U.S. citizens or green-card holders who have more than a total of US$10,000 in non-U.S. banks or other financial institutions must declare those assets annually by filing U.S. TD Form TDF 90-22.1 by June 30 of the next year. Failure to do so could lead to significant fines.

> RRSPs. U.S. residents who hold RRSPs must file a U.S. IRS Form 8891 each year, for each RRSP, in order for the IRS to recognize the tax-deferred status of the income generated in the plans.

> RESPs and TFSAs. U.S. authorities do not recognize the tax-deferred status of either the RESP or the tax-free savings account. That means U.S. citizens or green-card holders must declare all income generated in those plans on their U.S. tax returns. They must also file a U.S. IRS Form 3520 declaring the ownership of any RESPs or TFSAs, which the U.S. tax authorities consider non-resident foreign trusts. Failure to do so could generate fines. IE