Does your client have US tax ties?

A client may have US tax obligations even if they have lived in Canada for many years, have no income from US sources, or do not consider themselves American. US citizenship, a green card or substantial physical presence in the US over one or more years may result in tax and reporting obligations related to worldwide income, Canadian accounts and certain investments.

This article helps advisors identify situations in which US tax ties may affect the client’s accounts, investments or planned transactions. It outlines practical questions to ask, risk factors to identify, and situations that may require referral to a qualified cross-border tax professional.

It is particularly relevant to US citizens and dual citizens, current or former green card holders, and clients who spend extended periods in the US.

Important client details to assess

The objective is not to conduct the US tax analysis, but to recognize when specialized advice may be required.

1. Could the client have US tax ties?

US tax ties may go unrecognized, including by the client. Before recommending an account, investment or major transaction, advisors should ask a few preliminary questions to determine whether further tax review may be needed.

In this article, the term “US person” means an individual who is considered a US person for US tax purposes. This may include a US citizen, a green card holder or an individual treated as a US resident for tax purposes because of the amount of time they spend there. The following questions can support an initial assessment: 

• Is the client a US citizen or dual citizen of Canada and the US?
• Were they born in the US?
• Could they have acquired US citizenship through a parent?
• Do they hold, or have they ever held, a green card?
• Do they spend several months in the US each year?
• Do they currently file US tax returns?
• In the case of a Registered Education Savings Plan (RESP) or Registered Disability Savings Plan (RDSP), is the subscriber, holder, beneficiary or a contributor a US person?

These questions do not always provide a definitive answer. For example, extended or repeated stays in the US may, in certain situations, change the client’s tax status, while certain exceptions may also apply.

Similarly, a person born in the US may remain a US citizen even if they have lived in Canada their entire life. A person who previously held a green card may also continue to have certain US obligations if their status has not been formally resolved.

When the client’s status is unclear, raise the issue before completing the transaction.

2. Why early identification matters

US tax ties can have consequences even when the client lives in Canada and does not believe they owe any US tax. The main issues involve income reporting, the reporting of certain accounts, and the US tax treatment of Canadian accounts and investments.

Reporting worldwide income

A US person may be required to report their Canadian and other foreign income in the US, even when no US tax is ultimately payable.

Reporting accounts and assets

Certain Canadian accounts may have to be reported separately. A reporting obligation may exist even when there is no tax payable.

Different treatment of Canadian accounts

A Canadian tax advantage is not automatically recognized in the US. The Tax-Free Savings Account (TFSA) and the First Home Savings Account (FHSA) are important examples.

Passive foreign investment companies

Canadian mutual funds and certain Canadian exchange-traded funds (ETFs) may be treated as passive foreign investment companies (PFICs) for US tax purposes. This can result in unfavourable tax treatment and complex reporting requirements.

An account that is tax-advantaged in Canada should not be assumed to be tax-neutral in the US. The issue may arise from the account itself, the investments it holds, or the proposed transaction.

Even when no US tax is payable, reporting obligations may still apply.

3. Transactions that may require tax review

Certain routine transactions might have significant US tax implications. Particular attention is required in the following situations:

• Opening a TFSA, FHSA, RESP or RDSP for a person with US tax ties.
• Making a substantial contribution or changing the contribution strategy.
• Purchasing, selling or transferring Canadian mutual funds or ETFs.
• Carrying out a substantial withdrawal, liquidation or in-kind transfer.
• Changing the holder, subscriber, beneficiary or contributor.
• Converting a Registered Retirement Savings Plan (RRSP) to a Registered Retirement Income Fund (RRIF) or establishing a withdrawal schedule.
• Moving to or from the US.
• Surrendering a green card, renouncing US citizenship, or dealing with a cross-border estate.

Why review the tax implications in advance? Some US tax consequences may be difficult to correct after a sale, withdrawal, contribution or transfer has been completed.

4. Information to gather

The following information will help clarify the client’s situation and facilitate the next steps:

• Citizenship, place of birth and country of residence for tax purposes.
• Current or former green card status and, if applicable, when and how that status was relinquished.
• Number of days spent in the US over the past three years.
• Types of accounts and, for each one, role of each person connected with it: holder, owner, subscriber, beneficiary or contributor, as applicable.
• Maximum annual value, when available, and year-end statements.
• Investments held, particularly Canadian mutual funds and ETFs.
• Recent or planned contributions, withdrawals, transfers and changes.

5. Canadian accounts: issues to identify before taking action

The table below outlines the main issues by account type, the information to have on hand, and the situations to review before taking action. The account and the investments it holds must be considered separately.

*See section 6 for a description of the main US filings.

The listed forms do not apply automatically. Their application depends on the client’s situation, the account, the investments and the applicable thresholds.

6. Main US tax and reporting obligations

US obligations are not limited to filing an income tax return. Depending on the client’s situation, some Canadian accounts, assets or investments may also need to be reported separately. These are the main forms referred to in this article.

• 1040: US income tax return generally used to report worldwide income and calculate the applicable tax.
• FBAR – FinCEN 114: Separate report covering certain financial accounts held outside the US when their aggregate value exceeds US$10,000 at any time during the year.
• 8938: Report covering certain foreign financial assets when the applicable thresholds are exceeded. The thresholds vary depending on the client’s place of residence and filing status.
• 8621: Form used for PFIC reporting. Many Canadian mutual funds and certain Canadian ETFs may be treated as PFICs and require specific analysis.

This list is not exhaustive, and the forms do not apply automatically. Other obligations may arise depending on the client’s situation. Their application should be confirmed by a qualified US or cross-border tax professional.

7. What to do when US tax ties are identified

Before a major transaction, document the proposed action and gather the relevant account and client information. A qualified US or cross-border tax professional can then confirm the potential tax consequences and reporting requirements. With the client’s authorization, this information can also facilitate communication among the professionals involved.

For example, a dual citizen plans to convert their RRSP to a RRIF and establish a withdrawal schedule. Before setting up the withdrawals, it is helpful to identify the value of the plan, the proposed withdrawals, the Canadian tax to be withheld and the client’s other income in order to better coordinate the Canadian and US tax treatment of the payments.

Reviewing the issue before the conversion allows the client and their advisors to adjust the withdrawal strategy before payments begin. This approach helps the client make decisions that take their entire cross-border situation into account.