Today many Canadians own vacation properties in the U.S. If you have one and you think you do not have to worry about the tax then you are wrong. This doesn’t mean that it’s outside the reach of the tax authorities. U.S. vacation property owners in Canada look forward to winter when they can spend time in their sunny second homes.
The Covid-19 pandemic has changed plans drastically for those who are not prepared to put themselves and their families at risk by moving to the U.S. Some are prepared to sit and wait while some may not visit their property and decide to sell their beloved U.S. real estate.
The owners need to know how the U.S and Canada will tax their sale. If you will fail to comply with their tax policies then it may result in frustration and unnecessary costs arising from U.S tax rules on the sale of U.S real property by Canadians and other nonresident citizens of the United States.
Canadian resident individuals are subject to the U.S.’s Foreign Investment in Real Property Tax Act (FIRPTA). The highest federal long-term capital gains tax rate in the United States is 20 per cent, and persons subject to low marginal tax rates can pay a lower capital gains rate.
If you owned the property for more than a year before it was sold, you will have to pay the long-term capital gains tax rate. For anyone who owns a property for 1 year or less, U.S federal income tax rates would apply to short term capital gains. Also, state taxes may be applied as well.
Those who are nonresidents and own a property in California and Hawaii then these two states will levy withholding taxes on the sales of real property. In the U.S., the purchaser is generally required to withhold 15% of the gross proceeds when the seller is Canadian.
A maximum U.S. federal income tax rate of 20 percent is subject to Canadians owning U.S. real estate for more than one year.
In California, state income tax rates can vary from 0% (Alaska, Florida, Nevada, South Dakota, Texas, and Washington, Wyoming) to 13.3%. The top marginal income tax rate for Arizona is 4.5 percent.
The seller is expected to file a U.S. federal and, if necessary, state income tax return to disclose the sale of their U.S. real estate, irrespective of whether U.S. federal or state taxes are withheld at closing.
The seller would need to have a U.S. taxpayer identification number to file the U.S. tax return(s), which could be either a U.S. Social Security Number or Identification Number of Individual Taxpayer (ITIN), something that sellers do not have. To close the sale of U.S. real property, an ITIN is not necessary and can be obtained while filing the annual U.S. federal income tax return.
For Canadians who sell their U.S property for a profit, 50 percent of the capital gain is included in taxable income in Canada. Everything from profit to loss will be calculated in Canadian currency only. Whatever will be the cost of the property at the time of purchase was will be converted into Canadian dollars. Similarly, the proceeds of disposal at the time of sale are the Canadian dollar equivalent.
To decrease or remove the taxable capital gain, you will be entitled to assert the principal residence exemption (PRE). The PRE for one home, including a U.S. holiday home, can be claimed by each family unit. Anyone who has more than one house during a year has to determine which should benefit from the PRE. If they claim the PRE for all years of ownership there will be no taxable capital gains on the property.
Canada’s maximum capital gains tax rates range between 24 per cent to 27 per cent and it depends on the seller’s province of residence.
When you sell your property and you sell it at price more than you paid for it then you have to pay the tax on the difference, minus some expenses (generally known as capital gains tax). Also, it is a must for you to remember that when you sell your vacation home in the United States, your tax obligation falls to the U.S. government first — even as a Canadian resident.
You are subject to income tax on your global income as a Canadian citizen, so the selling of your U.S. land, and any gains or losses sustained, must be registered in Canada as well as in the U.S.
Luckily, there is a Canada- U.S tax treaty and it has been set up to avoid double taxation. Although the United States has the right to tax the capital gain first, that U.S. tax liability can be claimed as a foreign tax credit against your Canadian and provincial tax. Also, you should pay your U.S takes if you want to qualify for the foreign tax credit.
If you are a Canadian citizen and selling real estate in the U.S., you are subject to the Foreign Investment in Real Property Tax Act withholding laws (FIRPTA). These regulations mandate that, at the time of the transaction, 15 percent of the sale price be transferred to the IRS. That is a whopping $75,000 for the selling of a $500,000 house. Actually, it is not a tax but a withholding against capital gains tax.
If you wish not to sell your US property and choose to rent it out then your tenant will withhold 30 percent of the total rent and submit it to the IRS.