Non-Resident Tax Implications
Tax Implications for Non-Resident Sellers of Canadian Real Estate
With the expected turn around in the British Columbia economy it is anticipated that non-resident vendors will realize substantial gains on the disposition of their Canadian real property. Accordingly, non-resident vendors will be required to pay tax on any excess of taxable capital gains over allowable capital losses from the disposition of their Canadian real property. It will be important to discuss the tax implications associated with disposing of real property in Canada with non-resident vendor clients well before the scheduled closing for the transaction in order for the clients to plan for any taxes that may be payable.
Some Points to Bear in Mind
To ensure that a non-resident vendor pays Canadian tax owing on the gain resulting from the disposition of “taxable Canadian property,” section 116 of the Canadian Income Tax Act requires a non-resident vendor to report the disposition to the Canadian Customs and Revenue Agency (the “CCRA”), and to make a prepayment on account of the tax payable equal to 25% of the difference between the “selling price” and the “adjusted cost base” of the property. This percentage is increased to 50% if the property is “depreciable property” and/or the non-resident vendor is a “trader of land”.
Usually in most residential transactions, the 50% amount is not held back since those two criteria do not apply. Once this is done the CCRA will issue a certificate of compliance. When there is more than one non-resident vendor, each one must file a separate form with the CCRA indicating his or her interest in the property.
“Taxable Canadian property” is described in section 115(1) of the ITA and includes Canadian real estate. Section 248(1) describes in detail the properties included in the term “taxable Canadian property,” which also includes an interest therein or an option in respect thereof, whether or not such property is in existence. Therefore, a non-resident vendor who holds Canadian real estate through a Canadian corporation, partnership or trust may be subject to Canadian income tax when his or her interest in the partnership, trust, or corporation is disposed of. However, interests in foreign trusts or shares of foreign corporations owning Canadian real property may be excluded.
Once the CCRA is notified of a disposition, it will only issue a certificate of compliance if it is in receipt of either a prepayment on account of the taxes owing or appropriate security for the prepayment. The CCRA will credit any prepayments or security made by the vendor to the vendor’s tax account, and a final settlement of tax will be made when the vendor’s income tax return for the year is filed and assessed.
Until a non-resident vendor obtains a certificate of compliance, the purchaser is obligated to hold back an amount equal to 25% of the purchase price, or risk becoming obligated to pay the taxes owing by the vendor as a result of the disposition. It is in the vendor’s best interest to apply for and obtain a certificate of compliance as early as possible, since the amount payable to obtain the certificate of compliance will likely be significantly less than what the purchaser is required to hold back. Failure by the vendor to obtain a clearance certificate may expose the purchaser to a tax of 25% of the purchase price. The purchaser must remit this amount within thirty (30) days after the end of the month in which the property is acquired.
In most circumstances the proceeds from the sale of the “taxable Canadian property” will be used to make the prepayment and thus obtain the certificate of compliance. It is common practice for the vendor’s lawyers to arrange, through undertakings with the purchaser’s lawyers, a hold back amount equal to 25% of the selling price of the property to be used toward making the payment to obtain the certificate of compliance.
Make Sure to Plan Accordingly
Currently, the CCRA is estimating a 12-week turnaround period for it to assess and process certificate of compliance applications. Therefore, an application should be made as soon as possible. An application for a certificate of compliance must be filed within 10 days following completion of the transaction. In practice, because of the lengthy delays in obtaining a certificate of compliance from the CCRA, the vendor’s lawyer may request an extension from the CCRA which allows the hold back funds to be held past thirty (30) days after the end of the month in which the property was acquired. Extensions are almost always granted.
When filing their Canadian Income Tax Return non-residents are able to deduct from the gain the transactional costs of the sale of the property including the real estate commission and legal fees. As a result of a tax treaty between Canada and the United States, the United States is required to provide a tax credit for the amount of tax a non-resident has paid in Canada. Residents of the United States should be advised to discuss this issue with their accountant before filing their United States tax return.