Relocating Canadian employees to the US: Three major tax considerations

Employees relocating from Canada to the US may face a number of complex tax-related issues. Matt C Altro, president and CEO of Canadian firm MCA Cross Border Advisors, shares his advice for companies and their relocatees on planning for, and coping with, these challenges.

Talent mobility is a key issue for multinational corporations and their employees in today’s globalised business world. Canadian employees are often moved across the border to US operations, which can be both exciting and challenging for employers and their relocated employees.

Many of the challenges faced by human resources departments and relocated employees arise from the need to comply with tax laws on both sides of the Canada-US border. Addressing such challenges prior to relocation is essential in order to ensure a smooth cross-border transition.

Three major issues to address in advance of a cross-border move are tax residency, Canadian departure tax and US estate tax.

Tax residency

Canadian income tax is based on residency, while the US generally taxes its citizens on their worldwide income, even if they are non-residents. Resident aliens (non-citizens) of the US are also taxed on worldwide income as if they were US citizens (non-resident aliens are typically only taxed on their US-sourced income).

There is a risk that Canadian employees who are only being temporarily relocated south of the border will be deemed resident aliens of the US for tax purposes if they pass the US substantial presence test (the SPT). Determining whether a relocated employee will pass the SPT requires using a complex formula to calculate the number of days he or she will spend in the US in a calendar year.

If a relocated employee is deemed to be a US tax resident under the SPT but remains a Canadian tax resident under Canadian law, he or she may be exposed to double taxation on certain income and, potentially, Canadian departure tax.

The Canada-US Tax Treaty contains rules to help determine a singular tax residency for those employees who would otherwise be considered residents of both Canada and the US. The factors used to determine tax residency under the treaty are the location of the employee’s permanent residence, the centre of his or her personal and economic relations, habitual abode and citizenship.

If it seems as if an employee will be deemed a tax resident of the jurisdiction that is less tax-advantageous for him or her under the treaty, engaging in professional planning prior to relocation may be able to change the outcome of the treaty’s application.

Departure tax

Once a person is deemed a non-resident of Canada, the Canada Revenue Agency applies departure tax to certain assets which will be deemed to be disposed of at their current fair market value, creating potential capital gains tax.

While not all assets are subject to departure tax – Canadian-situated real estate, registered retirement savings plans (RRSPs) and registered retirement income funds (RRIFs) are all exempt from departure tax, for example – assets such as stocks are subject to departure tax and can cause significant tax burdens for employees relocated to the US who become non-residents of Canada.

US estate tax

The Internal Revenue Service levies US estate tax on all US residents’ worldwide assets, so if a Canadian employee becomes a US resident once transferred across the border, his or her worldwide assets may be caught in the US estate tax net.

Estate planning can be done in advance, however, in order to structure assets so that they are not subject to US estate tax later. It is important to note that those transferred employees who maintain Canadian tax residency might still be subject to US estate tax on US situs assets that they acquire while abroad if their worldwide assets are valued at more than US$5.43 million (the current US estate tax exemption for 2015) and their US assets are worth US$60,000 or more. [Situs refers to the location in which the property is treated as being located for legal purposes.]

Planning and solutions

It might be best for temporarily relocated Canadian employees to maintain ties with Canada, in order to avoid departure tax and exposure to US estate tax on worldwide assets. Alternatively, since US income tax rates are lower than Canadian rates, a properly planned exit from Canada may help relocated employees achieve significant tax savings.

After exiting, employees may also be able to withdraw their RRSPs at a lower tax rate as non-residents of Canada than as residents. However, whether employees should maintain or cut their Canadian tax residency ties depends on each employee’s unique situation.

For employees being permanently relocated, it is ideal to plan for six to 12 months prior to relocation, in order to benefit from available financial, tax and estate planning solutions.