Clients returning to work in Canada after a stint in the U.S. or American executives moving to Canada to work may have U.S. retirement accounts, such as 401(k) plans or individual retirement accounts. Generally speaking, these can be rolled into a RRSP without limit. But there can be tax implications in both countries, so following the rules carefully is important.

Helping clients move assets to Canada represents a huge opportunity for advisors, says Jamie Golombek, vice president of tax and estate planning at AIM Funds Management Inc. in Toronto. He believes, given the right set of circumstances, advisors can play a proactive role. By telling clients about the opportunities to move assets to Canada, advisors can increase their assets under management while doing a better job of asset allocation for clients, he says.

“From a client-centred point of view,” Golombek says, “if the client has money elsewhere, how can you, as the advisor, do a complete asset-allocation model? How can you give the best advice if you don’t manage that portion of that client’s portfolio?”

Many individuals who have worked in the U.S. have 401(k) plans, named after the section of the U.S. Internal Revenue Service code that created them. These are defined-contribution pension plans to which both employer and employee may contribute, with contributions being tax-deductible and funds growing tax-free until withdrawn.

The Canada Revenue Agency considers a 401(k) to be a U.S. pension plan. As a result, Golombek explains, the gross amount (before any U.S. non-resident withholding taxes) paid to a Canadian resident who decides to repatriate the plan would be fully taxable in Canada. But the income inclusion can be offset by a deduction if the amount received from the 401(k) plan is contributed to an RRSP within the usual RRSP deadline of 60 days after the end of the year.

The amount must be a lump sum attributable to services rendered by the individual (or his or her spouse or common-law partner) during the period in which the individual was not resident in Canada. As well, Golombek notes, the amount transferred to the RRSP must be specifically designated as a transfer on Schedule 7 of the personal income tax return for the year of the transfer.

A client may also have funds in an IRA, which functions like a Canadian RRSP with tax-deductible contributions and earnings accumulating on a tax-deferred basis until withdrawn. Under Canadian tax law, Golombek says, an IRA is considered a “foreign retirement arrangement” and the gross amount paid out of the IRA would be fully taxable in the year of receipt. But these funds can also be rolled over into a Canadian RRSP in the same way as funds from a 401(k) plan. The transfer must be by way of a lump sum and the eligible amount for such a transfer may not include amounts contributed to the plan by the individual’s employer.

Gena Katz, a principal with Ernst & Young LLP’s national tax practice in Toronto, cautions there is a U.S. withholding tax of 30% on lump-sum withdrawals from an IRA or a 401(k) plan, but the client may be able to claim a foreign tax credit to offset this when filing his or her Canadian income tax return.

According to Katz, the foreign tax credit is equal to the lesser of the U.S. taxes paid and
the Canadian taxes payable on the U.S. income. However, the individual may not be able to make full use of the credit.

Katz warns there may also be tax penalties in the U.S. for early withdrawals from an IRA. Any U.S. penalty tax is not eligible for the foreign tax credit, she says. An IRA could also be left in place in the U.S., but there will be a 15% U.S. withholding tax on periodic payments when the individual eventually starts taking out funds in the form of retirement income.

If your client has a Roth individual retirement account, a rollover into an RRSP could be disadvantageous, even if it were possible. Golombek says these plans are similar to the tax prepaid savings plans being discussed in Canada. With prepaid plans, there are no taxes when funds are withdrawn, but there are no deductions given for contributions.
Any distributions, including earnings, are not included in income when funds are withdrawn, he notes.

@page_break@It’s critical to direct the client to an expert who can advise on the U.S. tax implications
before transferring funds to Canada. Golombek suggests forming a relationship with an
accountant specializing in cross-border transfers. IE