The T1134 and T1135 are a sample of Canadian foreign information returns like the U.S. 8938, 5471 or 8865.

A number of Canadians are investing in the U.S. real estate market with a U.S. limited partnership whose limited partners are solely Canadian residents and the general partner is a U.S. C corporation whose shareholders are also Canadian residents.

For those who want limited liability protection, this type of investment vehicle is often proposed because the conventional U.S. LLC does not work or is not treaty- friendly for an in-bound investment into the United States, from the Canadian perspective. This route has become the norm in recent years as opposed to the Canadian investor investing into the U.S. directly or indirectly through a Canadian corporation and/or a U.S. C corporation which work, however may raise repatriation tax issues and additional compliance fees. These type of investment have arisen in recent years due to the widespread Canadian investment in depressed U.S. real estate.

Likely Case Situation

Mr. X, a Canadian (non-resident alien for U.S. tax purposes), sets up the U.S. LP, usually Mr. X and family members are limited partners and the general partner is a U.S. C corporation wholly-owned by Mr. X or related members. For the C corporation, it would be a foreign affiliate of the Canadian shareholders and in most cases, it would be a controlled foreign affiliate of the taxpayer requiring the filing of CRA Form T1134 (due 15 months after then end of the taxation year of the taxpayer).

In addition to not filing the T1134, should the general partner be a controlled foreign affiliate (“CFA”), FAPI (“foreign accrual property income”), to the extent of the Canadian investor’s share of the CFA must be included in their tax return with a corresponding increase in basis of the share investment in the CFA.

Think of this a similar to the U.S. CFC or PFIC rules with a QEF election in place.

On the computation net rental or FAPI, net rental income should be determined under the Canadian Income Tax Act. Therefore, one needs the underlying basis of the property to determine capital cost allowance as opposed to taking the net rental from the IRS Form K-1. This information is required to report the correct net rental income on the Canadian tax returns for the limited partners.

Hopefully you will have that information available to you or even the IRS 1065 partnership tax return. Different results will occur, especially if the U.S. LP happens to own Canadian real estate which when sold, will require applications for clearance T2062/T2062A. For Canadian clearance, they often ask for supporting documentation, so hopefully information reported in prior years has been done correctly.

The instructions to Form T1134 state that the form is not required where the foreign affiliate is inactive or dormant. The administrative policy threshold for the filing of the T1134 is a function gross receipts of the foreign affiliate as well as the taxpayer’s share investment in the foreign affiliate and the value of property owned by the foreign affiliate. Where gross receipts are under $25KCdn. and the share investment is under $100KCdn. and the fair market value of the underlying assets of the CFA or FA are not over $1MCdn., then there is no requirement to file the form for the particular taxation year, however there still could be a FAPI issue. Therefore, one may have to file for some years and not others.

It has recently come to my attention that although not written in the instructions to the T1134 form nor written in the legislation, a 2012 Windows on Canadian tax document, released on July 8, 2013 issued by CRA indicates that where there is a foreign affiliate who is a general partner, total gross receipts of the partnership are taken into account and not the general partner’s share. Based on this interpretation, is is more than likely that CRA Form T1134 will be required annually.

The T1135 is a required filing by the U.S. partnership because the partnership is regarded as a “Canadian specified entity” by virtue of its holding U.S. situs property with a cost amount greater than $100KCdn. and more than 90% of its members are not non-residents of Canada. If the T1135 is not required by the U.S. LP, it may be required by the Canadian partner, if their basis in the partnership is over $100KCdn.The T1135 is due 3 months after the end of the taxation year of the U.S. partnership.

Both T1134 and T1135 have no filing extensions available. The minimum penalties not filing for each annual form is $2,500 per year with higher penalties for gross negligence. A number of taxpayers are using the Canadian voluntary disclosure program to submit forms that are past-due of at least one year to waive penalties. The program allows one to go back 10 years. CRA Information Circular Ic00-1R4 outlines the criteria for the program with CRA Form RC199 being the voluntary disclosure application.

Last fall the IRS announced the increase in the expensing limit with respect to the safe harbor limit contained in Regulation 1.263(a)-1(f) from $500 to $2,500 per substantiated invoice. The increase commences in 2016. The election basically allows taxpayers without an AFS (applicable financial statement) audited by a CPA, to expense items that would otherwise be required to be capitalized and depreciated. There is no change to the $5,000 limit where an AFS is available.

As previously outlined in IRS announcements, taxpayers may still deduct items in excess of the safe harbor limit the would otherwise be classified as a repair or maintenance expenditure. Details may be found in IRS Notice 2015-82.

The safe harbor election increase is welcome by small taxpayers. The benefit of the election is that the taxpayer receives audit protection with regards to expenditures inherent in the election.

For Canadians filing U.S. tax returns such as the U.S. 1040NR, reporting net rental income from U.S. situs properties, the safe harbor election is critical as in most files for rental properties were not acquired as new units, or that are a few years old, there will be annual capital or repairs incurred.

Without the election, a carpet replacement, a window or a furnace repair or even an air conditioner may have to be capitalized under the tangible property regulations of the IRS Code. Of course, one may say how can such individual expenditures with the labour component to supply/install be under $2,500. Well $2,500 is better than $500. Maybe in the future, Treasury will increase the limit to $5,000 to reflect the current or realistic cost of such an item.

The regulations do allow if one has a written accounting policy to say expense items over a particular threshold would suffice. I would consider being conservative in this approach as the regulations on UOP (unit of property) could override or the threshold could be considered excessive.

FINCEN114 due June 30th for the 2015 taxation year, reporting beneficial interest or signature authority in non-U.S. financial accounts where the annual aggregate highest balance is greater than $10K U.S., may have to be filed by Canadian taxpayers.

Those who meet the substantial presence test for residency in the U.S., regardless of a claim under Article IV of the Canada/U.S. tax treaty that results in only certain U.S. source income being taxed by the IRS and not your world income, do not escape the FBAR filing requirement. Essentially this residency test causes one to become a ‘resident alien”, classified as a U.S. person, and consequently subject to various annual U.S. filing requirements.

Canadian caught by the foregoing would be snowbirds that are consistently present in the U.S. about 120 days in three consecutive years or those working in the U.S. on a visa/work permit that fall into residency rules. Please review my article in the Resources Section- US Taxation on “Snowbirds” for determination of residence under the physical presence computation.

The FBAR filing requirement does not take a treaty-based disclosure (IRS Form 8833) into account. Only IRS Form 8938 (‘Statement of Foreign Financial Assets”) that came out in 2011 (and attached to a U.S. tax return if there is a requirement to file that return) has in its regulations, an exemption from filing as it respects the foregoing treaty disclosure.

Other IRS information returns such as the 5471 for your interest in your Canadian corporation; IRS Form 3520/3520-A for your interests in a Canadian trust or even IRS Form 8865 for your interest in a Canadian partnership would come under their respective filing requirements. Regulations need to be examined to determine if there is a simplified filing requirement of the information return. Generally, without a successful reasonable cause defense, a minimum $10k U.S. penalty for unfiled information returns may be levied.

U.S. citizens (or even green cardholders) resident in Canada who are contributors (or a joint contributor) to their children’s RESP (“registered educational savings plan”) may have U.S. reporting issues.

Should the RESP be regarded as a foreign trust by the IRS (as they do with RRSPs), then the RESP would be regarded as foreign grantor trust. In this regard the annual income realized in the RESP including the grants received from the federal government (called CESG) is reportable on your U.S. 1040. In addition to this, IRS Form 3520 -A and/or 3520 information returns would have to be filed.

There may be an argument under the regulations that the RESP is not a trust for U.S. tax purposes., however such defense would have to be made with the return or upon audit or examination by the IRS. If the RESP was not a “trust” under U.S. law, the income reporting above would still be required.

To make things more complicated, if mutual funds are invested in the RESP, then the mutual fund could be a PFIC “(passive foreign investment company”) subject to additional reporting requirements.

With the RESP, if a Canadian non- U.S. person (such as a non-U.S. parent or Canadian grandparent) was the contributor to the RESP, then there is no issue if the child is not a U.S. person. However, if the child is a U.S. person at the time of distributions from the RESP, then the RESP would be a non-grantor foreign trust (assuming it is a trust for U.S. tax purposes) and the punitive throw-back anti-deferral rules would apply causing punitive tax and interest. This would occur when the child commences post-secondary school and withdraws funds for tuition, etc.

I presume, taxpayers should not be so quick in getting U.S. citizenship for their children born in Canada, at least not until they graduate. Attaining U.S. citizenship puts the child under the U.S. tax reporting umbrella from the get-go. The solution may not to collapse the RESP for existing plans that are regarded as foreign grantor or non-grantor trusts as Canada has repayment provisions for the CESGs. This should be verified with the trustee of the RESP or your financial advisor to determine the Canadian impact.

Regulation 102 of the Income Tax Act (“ITA”) requires payroll withholding on income derived by virtue of employment. This applies to say a U.S. employer sending its employee to Canada to work on an assignment.

Withholding would include income tax and contributions to the Canada Pension Plan (“CPP”) and Employment Insurance (“EI”).

CPP is not required if the employer does not have an establishment in Canada or if the employee has a certificate of coverage under the U.S. social security agreement between Canada and the country of residence. The certificate is not required if the employee will be in Canada for less than 183 days. EI premiums are not required if the employee is covered under a similar program in the country of residence.

Simplified Process

Changes arising from the 2015 Federal Budget designed to simplify the process now provides for 2016 that it is not necessary for the employee to apply for a waiver provided the employer files CRA Form RC473 “Application for Non-Resident Employer Certification”.

The form should be submitted to CRA 30 days prior to commencement of the services being provided. The waiver is not in effect until approval is provided by CRA. The employer must obtain a business identification number by filing RC59 and the employee must also obtain in identification number by completed RC1261. CRA T4Sum/Sup. must be filed and the employee must file a personal tax return under Section 115 of the Income Tax Act (“ITA”) reporting the income due by April 30th.

Definitions for non-resident employer and employee

A “non-resident employer” and a “non-resident employee” have specific definitions for purposes of the waiver.

The employer must be resident in a treaty country at the time of the payment or if the employer is a partnership, at least 90% of the partnership’s income is allocated to non-resident partners who are resident in a treaty country, and the Minister certifies the RC473.

The employee must be resident in a treaty country at the time of the payment and is not liable to income tax under Part I of the Income Tax Act on the payment because of the tax treaty. Additional criteria are that the employee either works in Canada for less than 45 days in the calendar year that includes the time of the payment, or is present in Canada for less than 90 days in any 12-month period that includes the time of the payment.

As part of the certification process, a qualified non-resident employer must refer to the tax treaty to determine the existence of the tax exemption and determine that the employee is a qualified non-resident employee in all respects.

Treaty Application with respect to RC473

With regards to the United States, Article XV(2(a)/2(b)) will determine if the non-resident employee is exempt from Canadian taxation.

If the income is under $10K Cdn. for the services provided in Canada, the income is exempt from taxation. However, if the income is over $10K Cdn., then only if the employee is not present in Canada for more than 183 days in any 12-month period commencing or ending in the calendar year and the wages are not deducted in arriving at taxable income of the payor or an entity that has carries on business through a permanent establishment situated in Canada.

Therefore if the wages attributable to the Canadian services is more than $10K regardless of the foregoing 183-day rule, but the U.S. employer who pays the wages has a permanent establishment in Canada say through a branch operation and deducts those wages as an expense in arriving at taxable income allocated to business profits to Canada, or, if the wages are paid on behalf of a Canadian entity (ie.,subsidiary of the U.S. company) through a cross border management fee charged to the Canadian entity, there would be no treaty exemption hence no waiver allowed.

What if RC473 is not filed?

If the RC473 is not filed, the employee may file for a waiver by completing CRA Form R102-R. With regards to this particular waiver, residents of the U.S. must not receive more than $10K Cdn. The limit is $5KCdn. for residents of other treaty countries.

Which waiver RC473 by employer certification or R1025-R employee certification.

Obviously the RC473 requires the employer’s due diligence with regards to the treaty, the employee’s travel and especially, where the income is over $10KCdn.

Should it be determined that for income in excess of $10KCdn. and the employer does in fact carry on business in Canada through a permanent establishment situated therein, penalties for failure to withhold and remit will apply. It is possible that this aspect could hold up the waiver approval process.

The Income Tax Act provides a time period in which one may appeal a notice of assessment or reassessment. It is not unusual for a taxpayer not to have received the NOA. Although the taxpayer should advise CRA of any change in addresses or to correct an incorrect address on file, this case was decided on the premise of the lack of communication to the taxpayer of CRA’s assessment of tax payable for a taxation year.

Per CCH report on recent cases:
Pilgrim v. The Queen, 2015 DTC 1236

In September 2012, the Canada Revenue Agency issued Notices of Reassessment for the taxpayer for the 2009 and 2010 taxation years, and a Notice of Assessment for the 2011 taxation year. All of the notices were sent by mail but were not, according to the taxpayer, received by him. He became aware of a tax amount outstanding for previous years when he received his Notice of Assessment for the 2012 taxation year in the spring of 2014. He then brought an application for an extension of time to file Notices of Objection for the 2009, 2010 and 2011 taxation years. The Canada Revenue Agency took the position that the deadline for making such an application was no later than one year after the date by which the original Notice of Objection for the taxation year in question must have been served. Consequently, the application deadline had passed for all of the taxation years in issue. The application was dismissed.

During the course of the hearing of the application, it was determined that the address to which the notices at issue were sent was not the taxpayer’s correct address, and that some items of correspondence sent to the taxpayer had been returned to the CRA as undelivered. The notices had been sent to the correct street address for the taxpayer’s condominium complex, but had failed to specify the number of the taxpayer’s unit. The Court held that where a taxpayer alleges that a Notice of Assessment or Reassessment was not communicated to him, the Minister bears the burden of proving that the notice was mailed or otherwise communicated to the taxpayer. As well, it is incumbent upon the Minister to mail or otherwise send a Notice of Assessment or Reassessment to a taxpayer’s correct address. The jurisprudence provides that the fact that a notice which is sent to a wrong address leads to the conclusion that it was not issued at all. The Court concluded that the Notices of Assessment and Reassessment had therefore not been sent to the taxpayer and that the applicable limitation period had not begun to run. Consequently, the taxpayer’s Notices of Objection for the 2009, 2010 and 2011 taxation years had been timely served, and the issue of the timing of his application for an extension of time was moot.