“Financial Checkup” is an ongoing series that discusses financial planning options. In this issue, Investment Executive speaks with two advisors knowledgeable about Canada/U.S. cross-border financial issues. Terry Ritchie, partner with Transition Financial Advisors Group Inc. , works out of the firm’s Calgary and Gilbert, Ariz., offices. He is a registered financial planner in Canada and a certified financial planner in the U.S.; he also is an enrolled agent allowed to practise before the U.S. Internal Revenue Service and has his trust and estate practitioner designation. Dan Walkow is a CFA, chartered market technician and managing director with Seabank Capital Management Inc. in White Rock, B.C. Both advisors are licensed to trade in Canada and the U.S.



The Scenario: Sandra and Chris moved to Arizona from Canada three years ago. Sandra, a doctor, now makes almost US$500,000 a year. Chris is an engineer who still works for his former employer as a consultant, doing contract work from his Arizona home and earning about $65,000 a year.

When the couple left Canada in late 2008, they filed an “exit return” with the Canada Revenue Agency and received a notice of assessment, so they assume everything is fine.

Chris still has a non-registered account in Canada, for which he uses his father’s mailing address. It has about $300,000 in it and is actively traded. It mainly has oil and gas stocks that have not done well, so the account has capital losses. Chris and his financial advisor believe that these stocks will recover.

Sandra and Chris each have RRSPs in Canada with the same advisor, which hold assets of $350,000 and $175,000, respectively.

Chris receives T3 and T5 slips for his non-registered account and a T4 for the consulting he does. He files a non-resident Canadian tax return for his Canadian consulting income but not his investment income.

Sandra uses an accountant recommended by one of her colleagues, who includes only Sandra’s income on the joint return filed by the couple.

Sandra and Chris are concerned their tax matters in the U.S. and Canada have not been handled properly. They are also worried about their accounts in Canada as they don’t live here anymore.



The Recommendations: Both Ritchie and Walkow say Sandra and Chris are right to be worried. Their income tax returns have not been filed correctly, other required forms concerning their RRSPs and other financial accounts in Canada have not been filed and, as a non-resident, Chris should not have a non-registered account that is still being managed in Canada.

Sandra and Chris need to:

> Tax Returns. The couple need to amend their joint filed U.S. returns to include Chris’s Canadian employment and investment income. As this will increase their income, they will have to pay additional U.S. taxes plus interest — and possibly penalties for underreporting income and filing late. The late filing penalty is 0.5% of the taxes owed for each full or partial month after the due date, with a maximum penalty of 25% of the taxes due.

Chris then needs to adjust his Canadian tax returns, exempting his employment income from Canadian taxes by utilizing provisions under the Canada/U.S. Tax Treaty that allow this if the income is generated by an individual who is not resident in Canada and who has not performed the work in Canada.

To make things transparent in the future, Ritchie suggests Chris submit invoices from his U.S. address for consulting work done for his former employer. Under the tax treaty, this will make it clear that this income is not taxable in Canada — only in the U.S.

The U.S. requires that American citizens and residents report their worldwide income on their tax returns, Ritchie says. So, when Sandra and/or Chris start withdrawing from their RRSPs and collecting any Canada Pension Plan and old-age security benefits to which they might be entitled, this income will have to be included on their U.S. tax returns.@page_break@> Chris’s Non-Registered Account In Canada. Chris’s advisor in Canada must be informed that Chris is a non-resident. The account will then be frozen and the firm that manages the account will withhold 15% of his Canadian dividend income for 2011 — as required under the tax treaty. This tax is required for all non-residents, says Ritchie, who adds that there is no withholding tax on investment interest earned in Canada.

Chris then needs to file a Part XIII letter to the CRA that acknowledges he is a non-resident of Canada and the custodian of his account(s) had failed to remit withholding taxes on dividends earned in the account, Ritchie says. The letter should be accompanied by payment of the withholding taxes due on any dividends Chris has received since becoming a non-resident.

Chris must then find an advisor, whether Canadian or American, who is registered to trade in Arizona. This advisor will look at the portfolio holdings and advise what stocks should be kept.

“It’s usually simplest to liquidate all the holdings and start over,” says Walkow, explaining that when Canadians move to the U.S., their non-registered financial assets in Canada are deemed to have been sold. Taxes on capital gains should be paid at that time, but capital losses can be used for U.S. tax purposes.

Many Canada-based companies’ shares are listed in the U.S., so those can be repurchased. However, there may be some Canadian stocks not listed in the U.S. that the advisor will suggest keeping because of the particular exposure they provide.

> RRSPs And Other Canadian Assets. The couple must file Form 8891 (detailing their Canadian RRSPs) and Form TDF 90-22.1 (detailing any other non-U.S. accounts, including bank accounts) with the IRS. Form 8891 is included with the U.S. tax return. Form TDF 90-22.1 needs to be filed by June 30 each year.

Unless the IRS Offshore Volun-tary Disclosure Initiative Program, which was reintroduced in February and expired Aug. 31, is extended, Sandra and Chris could be subject to substantial penalties for not having disclosed their accounts in Canada. Penalties are assessed as a percentage of the highest value in the accounts during the previous eight years — and can be as high as 25%.

Chris and Sandra must make sure that the firm that manages their RRSPs is prepared to continue to provide this service now that the couple are non-residents; if not, they must find a firm that will do so. Walkow notes that there is no need to sell anything in the RRSPs as they will not be collapsed and the securities will roll over on a tax-free basis. Once transferred to non-resident status, Chris and Sandra will have the same flexibility in managing their accounts as if they were Canadian residents.

Neither Sandra nor Chris can contribute to their RRSPs while residing in the U.S. This is not a negative. Sandra can set up a limited liability corporation, known as an “S-Corp,” through which she can run all her income and expenses and within which she can set up what’s known as a “Solo 401(k) plan.” She can contribute a lot more money this way than is allowed for RRSPs.

As a consultant, Chris can set up a “single-member LLC” and also contribute to a similar plan. Given that the couple primarily live off Sandra’s income, Chris can contribute a large chunk of his consulting income to his plan on a tax-deductible basis.

Canadians moving to the U.S. who have RRSPs need to check whether the state in which they will be living recognizes the tax deferral of RRSPs, says Walkow. Arizona does, but some other states don’t. If a state doesn’t recognize RRSPs’ tax deferral, the owner of the account is required to provide details of the income earned in the account each year and will be taxed on it. This is particularly difficult if mutual funds are involved; so, anyone living in a state that doesn’t recognize RRSP tax deferral should sell their mutual funds before leaving Canada.

It’s also worth noting that no U.S. states recognize the tax shelters associated with TFSAs and RESPs.

IE