My name is Mark Goodfield. Welcome to The Blunt Bean Counter ™, a blog that shares my thoughts on income taxes, finance and the psychology of money. I am a Chartered Professional Accountant and a partner with a National Accounting Firm in Toronto. This blog is meant for everyone, but in particular for high net worth individuals and owners of private corporations. The views and opinions expressed in this blog are written solely in my personal capacity and cannot be attributed to the accounting firm with which I am affiliated. My posts are blunt, opinionated and even have a twist of humor/sarcasm. You've been warned.

Monday, October 12, 2015

The Income Tax Implications of Selling U.S. Real Estate

Many Canadians own U.S. real estate, especially winter vacation properties. If you own such a property, the income tax consequences can be very complex. Some people erroneously think they are subject to double tax on the sale of their U.S. property, which is not true. Today I will review some of the issues
in relation to the sale of a U.S. property.

Let’s assume you purchased your U.S. vacation property for $200,000 USD several years ago when the exchange rate was $1.10. Thus ignoring legal and other acquisition costs, your Canadian cost base of the property is $220,000 Cdn. Let’s also assume you have just sold your Miami property for $325,000 USD or approximately $420,000 Cdn.

U.S. Withholding Tax Issues


I am not a U.S. income tax specialist, so if you are selling, confirm the following with a U.S. accountant. However, as I understand the process, one of the first things you need to do is obtain a US Individual Taxpayer Identification Number (ITIN), if you don't already have an ITIN or Social Security Number. The ITIN is obtained by filing a Form W-7, and the application is generally filed concurrently with the first U.S. federal tax form you are required to file, which could be either a tax return or a withholding tax form.

If you sell your vacation property for less than $300,000 USD and the buyer intends to use the property as a “residence” for more than half of the time it is used in the 2 years after purchase, you should be able to obtain an outright exemption from any tax withholding. The buyer would simply be required to sign an affidavit as to their intended use of the property.

If you sell for more than $300,000 USD, you will generally be subject to a 10% FIRPTA withholding tax on the gross proceeds. In this example, the tax would be $32,500 USD. But this is not the final determination of tax. A 1040NR U.S. non-resident tax return should be filed to report the actual gain. You can apply the $32,500 USD withholding tax against any tax owing or if your actual U.S. tax liability is less than the amount withheld, you may be entitled to a refund.

However, there is another means to potentially reduce or eliminate the withholding tax. On or before the closing date, one can file an application for a withholding certificate via Form 8288-B. This would reduce the withholding tax from 10% of the gross proceeds to 20% of the actual capital gain (which is the theoretically maximum amount of tax that could be owing). If the certificate is not received by the closing date, the transfer agent or lawyer handling the sale would hold the 10% default tax in escrow until such time that the certificate is received from the IRS, at which point the reduced withholding (if any) would be remitted to the IRS, and the excess funds would be released to the seller.

U.S. Tax Filing Issues


You must file a U.S. 1040NR to report the disposition of your property, regardless of whether or not income tax was withheld, or whether the property was sold at a gain or a loss. Continuing with our example, you would report a capital gain of $125,000 USD ($325,000 USD proceeds less $200,000 USD cost) on the U.S. tax return. If we assume the actual U.S. income tax owing is $15,000 USD (just an assumed tax number for this example), you would receive a refund from the IRS of $17,500 USD ($32,500 USD withholding less $15,000 USD tax owing).

As noted above, many Canadian think they are double taxed. That however is not the case. Any U.S. tax paid becomes eligible for what is known as a foreign tax credit (FTC) in Canada. The final result should be you never owe double tax, but that you are taxed only once, albeit at the higher rate of the two countries.

Canadian Filing Issues


As a Canadian resident, you are taxed on your worldwide income. For Canadian tax purposes, you would have a capital gain of $200,000 Cdn ($420,000 Cdn proceeds less $220,000 Cdn cost). Let’s assume the income tax on this capital gain is $50,000 Cdn. On your Canadian return you will claim a FTC of $20,000 Cdn (rounded equivalent of $15,000 USD actual US tax) against the $50,000 Cdn and as consequence, you will owe an additional $30,000 Cdn in Canadian income tax.

If you add the US tax paid ($20,000 Cdn) to the $30,000 Cdn actual Canadian income tax, you will note that you will have paid $50,000 Cdn in combined tax to the IRS and the CRA. The $50,000 Cdn in total tax is the same amount as the capital gains tax in Canada. So you have not paid tax twice, just once at the higher Canadian tax rate.

The sale of a U.S. property is very complex; please consult a US and/or Canadian tax advisor before you sell to understand the compliance procedures and income tax consequences of your property sale.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.