To Charge Or Not To Charge


The Tax Issue

The place of supply rules that govern the rate at which the GST/HST should be charged contains a specific rule with regard to services performed that relate to real property situated in Canada.

The rule stipulates that the GST/HST rate that applies to services performed with respect to real property is determined by the location of the property.

This begs the question: what type of service is considered to be “in respect of” real property?

More specifically, this question comes from an accountant who performs the service of preparing tax returns on behalf of non-resident owners of real property situated in Canada. Every non-resident who earns rental income from real property in Canada must file a Canadian income tax return on which only income from the Canadian property is reported.

Are the services of an accountant to prepare tax returns on behalf of a non-resident subject to the GST/HST?

The Answer

Generally, services rendered to a non-resident person are considered to be zero-rate (not taxable) under the GST/HST. The rule relating to services in respect of real property is an exception.

The CRA describes a service as being in respect of real property in the following circumstances:

(a) the service is physically performed on the real property (e.g., construction and maintenance);

(b) the direct object of the service is the real property; that is, the service enhances the value of the real property, affects the nature of the real property, relates to preparing the real property for development or redevelopment or affects the management of the real property, or the environment within the limits of the real property (e.g., engineering, surveying, management services);

(c) the purpose of the service is: (i) the transfer or conveyance of the real property or the proposed transfer or conveyance of the real property(ii) related to a mortgage interest or other security interest in the real property; or(iii) the determination of the title to the real property.

The relationship between the service and the real property must be more direct than indirect in order for the service and the property to be considered “in respect of” each other. The direct object of the service is the real property in the sense that the service enhances the value of the property or affects the nature of the property.

Based on the above, the CRA has stated that accounting and tax services relating to the reporting of rental income from real property situated in Canada has an indirect relationship to the property, but is not directly in respect of the property as described above.

Therefore, the provision of these accounting services is zero-rated.

What’s Your Tax Issue? Withholding on Interest

The Tax Issue:

I’m a Canadian real estate investor. My mortgage is up for renewal and I have a friend who is not a Canadian resident (lives outside of Canada) who’s going to fund the mortgage payment. I’m going to pay him interest on an annual basis. I’m keeping the money for 5 years but I may be selling the current property that I’m holding now within a year. At which point I will reinvest that money in another property. What are the withholding tax rules that apply?

The Answer:

Well, you’re in luck, because I just got back from the UK, and I’ve been suffering from jet lag for the last week, so I haven’t had the energy to post for a while, but your question is a quick one, so I thought I’d quickly answer.

The answer is, most likely, there will no withholding tax. In 2008 withholding tax on interest paid to any arm’s-length non-resident was eliminated. Assuming your friend is not related to you, and that he is charging you a fair interest rate, the relationship should be considered at arm’s length, and no withholding will apply.

Even if the relationship is deemed to not at arm’s length, if your friend is a U.S. resident, the Canada-U.S. Treaty will kick in, and again, no withholding will apply since it was phased out completely as of 2010.

So, generally, the only way you may have a withholding obligation for interest is if it is paid to a person with whom you do not deal at arm’s length and who does not reside in the U.S. In such cases, the withholding rate is 25%, but could be reduced by a Treaty with Canada.

Death of a Non-Resident RRSP Annuitant

OK everyone, this post gets a little technical, so I’m adding footnotes for the first time ever. If the Income Tax Act (ITA) frightens you, don’t read on.

My good friend and colleague (let’s call him “Shya”) came to me recently with an interesting problem. In 2007, his client, a former resident of Canada, died with a balance remaining in his Canadian RRSP account. At the time, the RRSP funds were transferred to the RRSP of his wife, also a non-resident of Canada. Under the normal rules for Canadian residents, the surviving spouse would simply report the “refund of premiums” on her 2007 tax return, and claim a corresponding deduction[1] for amounts deposited into her RRSP. No tax would have applied.

Unfortunately, the administrator of the RRSP was not on top of the situation. Had they realized that the taxpayers were non-residents of Canada, they would have known that a 25% withholding tax[2] applies to an RRSP that is paid to any non-resident. Further, since the amount was transferred directly to the spouse’s RRSP, filing a prescribed form upon the transfer of funds would have exempted the non-resident spouse from the withholding tax[3].

Unfortunately, the proper form was not filed, and no tax was withheld at the time of death.

Along comes the CRA two years later. Realizing what has happened, the CRA assessed the surviving spouse for the 25% withholding tax. Since the transfer to her RRSP was not done “pursuant to an authorization in prescribed form” as the law states, no exemption from this tax can apply.

Is the taxpayer out of luck? Perhaps.

Let’s go back in time once more. Had the taxpayer discovered this oversight in time, she still could have filed a special Canadian tax return under section 217 of the ITA[4]. The section 217 return is designed to give non-resident taxpayers the option of paying tax at the normal Canadian tax rates as opposed to the flat 25%. For many taxpayers the 217 election is not advantageous, because the Canadian tax rate that applies is based on a complex calculation that takes world income into account. For a non-resident with any substantial amount of total income, the rate usually will exceed 25%.

For our surviving spouse, however, the section 217 election would have resulted in no tax, since she would be allowed to take a deduction under the normal Canadian rules for the amount transferred to her RRSP. This would bring her net Canadian taxable income down to zero, and she could claim a refund of the 25% withholding tax.

There’s just one problem left for Shya’s client. The section 217 return must be filed within six months from the end of the taxation year that income was received. In this case, that would have been June 30, 2008. Since the problem didn’t come to light until the CRA’s assessment in 2009, the taxpayer is not entitled to file the election.

Now, the taxpayer’s only hope is to request that the CRA extend the time and allow her to file a late section 217 return. The CRA has the power at any time to extend the time for filing any return[5]. However, this administrative concession is not given lightly.

The issue has been dealt with in the past with respect to returns under section 216 of the ITA. The CRA has a published policy to give taxpayers “one opportunity” to file a late return where they have neglected to do so through ignorance or inadvertence. Perhaps this concession could be extended to section 217 returns.

If not, the CRA has issued guidelines[6] which presumably could apply in this scenario. In essence, the taxpayer would have to convince the CRA that there were extraordinary circumstances beyond her control (other than ignorance of the law) that prevented her from filing the return on time.

The moral of the story? Always consult a tax professional when dealing with unusual transactions involving non-resident taxpayers.

[1] ITA 60(1)(l)

[2] ITA 212(1)(l)

[3] ITA 212(1)(l)(i)

[4] ITA 217

[5] ITA 220(3)

What’s Your Tax Issue? – Taxable Quebec Property

The Tax Issue:

If I were to be a Canadian non-resident living in the Caribbean and I have rental property in Quebec, besides filing a federal tax return for Electing under Section 216, do I have to file anything for Quebec?

The Answer:

Part XIII of the Canadian Income Tax Act provides for a 25% withholding tax on rents paid to non-residents. As explained in an earlier post, an election under section 216 can be made whereby the non-resident pays tax under Part I, effectively replacing the 25% withholding tax with the normal income tax on rental income, net of expenses.

Quebec, which collects and administers its own income tax, does not levy withholding tax on rents paid to non-residents. Therefore, no Quebec tax return is required during the time you own the property and collect rents.

However, property situated in Quebec is considered to be “Taxable Quebec Property”, and is subject to withholding tax upon the sale of the property. Similar to the rules under section 116 of the Canadian law, the Quebec Taxation Act (Section 1097) provides for a 12.875% withholding tax on gains derived from property situated in Quebec. If a clearance certificate is not obtained (Form TP-1097), the 12.875% is levied on the full sale price.

In the year of sale, you will have to file both federal and Quebec income tax returns in order to report the sale and (possibly) recover a portion of the withholding tax.

What’s You Tax Issue? Non-Resident Providing Services

The Tax Issue:

Can a Canadian Corporation employ a non-resident (Swedish citizen) on its Canadian payroll, directly, take off withholdings etc. This individual resides in Sweden, works with us from there and visits twice yearly for a month at a time. If we can do that, it is beneficial for him as paying his consulting company in Sweden is even more onerous for him.

The Answer:

It is up to you to decide to enter into a contract with a consulting company or with an individual personally. I can’t comment on what the Swedish tax implications would be in either case. Also, whether this person is an employee or is self-employed is another issue that must be addressed. Either way though, if he is performing services in while Canada, his fees are likely subject to Canadian withholding taxes of 15% under Regulation 105 (see my previous post on this topic).

Payroll withholding generally only applies to employees who regularly report to work at an establishment in Canada. A non-resident employee is generally exempt from this withholding, provided he is subject to tax in his country of residence.

Whether he is actually subject to income tax in Canada with respect to services rendered here is another question, and it depends on the total length of time he spends here, and the provisions of the Canada-Sweden tax treaty. He will likely have to file a Canadian income tax return in any case, to recover the withholding taxes.

Rolling the Dice With the IRS

Contrary to popular belief, only thirty percent of what happens in Vegas, stays in Vegas.

Now we come to one of my favourite topics: Gambling. Like most people, I love gambling, except for the times when I hate it. It’s a complicated relationship.

One thing that’s never happened to me is winning big money in the United States (or anywhere for that matter). Here in Canada gambling winnings are generally tax-free. End of story. Not so simple down south.

Me and poker pro Gavin Smith at a Montreal charity tournament

Many Canadian winners at the casinos in Las Vegas or New Jersey are shocked to discover that the IRS gets a cut of their take. In fact, a 30% withholding tax applies to most gambling winnings by non-resident aliens. There are a few exceptions – no tax applies to winnings from blackjack, baccarat, craps, roulette, or big-6 wheel.

The next obvious question is, can a Canadian winner get back any of this U.S. tax withheld? Maybe. But you’ve got to be a bit of a loser and a great record-keeper to do so. (This doesn’t mean you’re a loser if you keep good records, just a bit anal. :-))

Canadians can deduct their gambling losses from their gambling winnings for the year to reduce the amount of U.S. tax payable. The deduction allowed is only for losses incurred in the same year as the winnings. In other words, you cannot claim accumulated losses from previous years.

In order to make the claim you must file a non-resident personal income tax return (Form 1040-NR), report your gambling winnings (excluding the activities where no tax applies), and deduct your losses as an itemized deduction. Unless you’re a pro, your net gambling winnings will be subject to the flat 30% tax rate.

You must be able to substantiate your losses for the year. Therefore, you should always keep your receipts, tickets, statements or other records that will prove how much you’ve lost during the year.

Good luck!!

Wright is Wrong….Again!!!

Once again, I am personally forced to swallow a tough court decision, as the case of Pechet v. The Queen (2009 DTC 5189) has been dismissed by the Federal Court of Appeal. This case overturned the informal procedure Tax Court decision of Wright v. The Queen (2001 DTC 437) originally argued  (and won) by yours truly.

The Wright case dealt with interest on unpaid non-resident withholding taxes. Under Part XIII of the Act, anyone paying rent to a non-resident must withhold tax based on the gross amount paid. The rate is 25% unless reduced by treaty. The basis for withholding may be reduced to the net amount after expenses if an undertaking is filed with the CRA and form NR6 is filed. (For more, see my post on Non-resident Real Estate Investors)

If the non-resident recipient files an income tax return under section 216 of the Act by the required deadline, tax under Part I of the Act is applied “in lieu of” the Part XIII tax withheld. In essence, any tax withheld in excess of the Part I liability is refunded.

Where the Part XIII tax is not withheld, but the section 216 is filed, the CRA’s position is to charge interest based on the withholding tax that should have been remitted. The original argument in Wright was that if the filing of the 216 return replaces the Part XIII liability with the Part I liability, then there is no longer any tax upon which an interest calculation may be made. The Tax Court agreed, and a loophole seemed to be exposed.

The Pechet case heard in Tax Court overturned Wright, but there was still a glimmer of hope as it was appealed to the Federal Court of Appeal.

Now, sadly, it appears my own personally victory remains just that. Since decisions in  the informal procedure cannot be appealed, my client’s victory is final and my Tax Court record is still 3-0. However, my legacy as a precedent-setting barrister is over for good.

The Court of Appeal in Pechet upheld the decision of the lower court and concluded that the filing of a return under section 216 of the Act does not retroactively eliminate the requirement to withhold under Part XIII. Rather, the withholding requirements continue to apply, up until the point in time when the tax liability of the non-resident has shifted from Part XIII to Part I. The phrase “in lieu of” does not mean that the Part XIII liability never existed, but that it is replaced, at the time of the filing of the return, with the Part I tax liability. Any interest accruing on unpaid withholding tax up to that point must be paid.

This interpretation, in all fairness, seems to be the correct application of the provisions, given the scheme and intent of the Income Tax Act as it applies to non-resident taxpayers.

What’s Your Tax Issue?: Sale of Canadian Real Estate

The Tax Issue:

I own one third of a country home (located in Canada) together with my two siblings and I recently moved to the Bahamas. Do I have to pay tax in Canada on my share when the property is sold, since I have no tax to pay in the Bahamas?

The Answer:

First, when you leave Canada to become a non-resident, there are certain rules to consider. The big one is that you have a deemed disposition of all capital property at fair market value as of the date you left. I would seek professional advice in this regard.

But there are exceptions, one of which is real property located in Canada. The taxation of your share of the country home, therefore, is deferred until you actually sell it. At that point, it’s fully taxable in Canada regardless of where you live, because it falls into the category of  “Taxable Canadian Property”.

At the time of the sale, you will have to provide the CRA with information and withholding taxes will likely apply to your share of the proceeds under section 116 of the Income Tax Act. You will have to file a Canadian income tax return to report the disposition and the taxes withheld will go as a credit against the actual taxes payable on the tax return. This issue was discussed in an earlier post. Again, at this point, a tax professional should be able to guide you.

Non-Resident Investors In Canadian Real Estate

Maybe it’s the global warming thing, but Canada has suddenly become a very popular destination for non-residents (“NR”) investing in real estate. What are the tax rules for non-resident investors, and what investment vehicle should be used?

Non-Resident Investors

A NR investor is subject to withholding taxes under Part XIII of the Act. Generally, 25% of gross rents must be remitted to the CRA each month. An election under section 216 may be made. Under this election, the NR files a tax return and is eligible for the same deductions as Canadian residents including capital cost allowance. However, it does not entitle the NR to loss carryovers from prior years.

A survey of the tax rules would be advised prior to investing in Canadian real estate

A survey of the tax rules would be advised prior to investing in Canadian real estate

If form NR6 is filed, the NR undertakes to file a return within 6 months from the end of the year, and the tax withheld is reduced to 25% of the estimated income after deductions. Where no undertaking is filed, the tax withheld is 25% of the gross rent, but the deadline for filing a return is extended to 2 years.

Under certain circumstances a NR paying interest to another NR may also be subject to withholding taxes on the interest payments.

A NR corporation would be subject to further withholding requirements known as branch tax. This tax is intended to equal dividend withholding tax on profits repatriated out of Canada by the NR corporation. The branch tax rates are similar to withholding rates for dividends, subject to treaty reductions. NR corporations are also subject to tax on capital in certain provinces. Finally, an NR corporation may be subject to “thin capitalization” rules that restrict interest deductions.

A NR trust pays no branch tax or tax on capital. Losses of a trust , however, cannot be flowed out to beneficiaries.

Using a  Canadian Investment Vehicle

The two major choices for a Canadian investment vehicle is the Canadian resident trust or the Canadian corporation.

A Canadian corporation is subject to the full rates of tax on investment income. Unless it qualifies as a Canadian controlled private corporation, no part of the taxes payable will be refundable upon the payment of dividends. Dividend payments will be subject to withholding taxes of 25%, unless reduced by treaty. Further, in certain provinces, a Corporation is subject to tax on capital. Thin capitalization rules apply as well. These factors make this vehicle an unpopular choice for most NR investors.

A Canadian trust is not subject to tax on capital. Nor would the payments to beneficiaries of after-tax income be subject to any withholding taxes. Thus, the trust would be subject to tax only once, at the highest marginal tax rates for individuals. This rate could vary, depending on the province of residence of the trust.

Dispositions of Real Estate by Non-Residents

As taxable Canadian property, a gain on the disposition of real estate by a non-resident is generally subject to Canadian tax at Canadian rates for capital gains and recaptured capital cost allowance.

Withholding taxes must be remitted, and may be based on the gain on sale only where a withholding tax certificate is obtained under section 116 of the Act. If no certificate is requested by the due date (either before the sale, or within 10 days following the sale), then the purchaser is required to withhold based on the gross purchase price. The withholding rate is 25%. An additional 12% applies for the province of Quebec, which has its own certificate request procedure under Article 1097.

One common problem that arises when a NR disposes of Canadian real estate is that a 116 certificate will only be issued if all the withholding requirements have been met in the past. That is, if no returns were filed under section 216, then the CRA will require remittance of 25% of gross rents for the previous years plus interest. If the 2 year deadline has passed, the CRA will normally not accept late-filed 216 returns.

Canadian Tax on the Entertainer

Like most people, while enjoying a live concert or watching a movie, my mind inevitably begins to wander away from the performers on stage towards the Canadian income tax rules that apply to them. They are truly talented and unique, these non-residents of Canada, and as such, special tax rules apply to them.

General Rule for Services Rendered in Canada

In my August 31 post you will recall that we dealt then with Regulation 105 withholding requirements. When a non-resident enters Canada to perform services, he is subject to a 15% levy (plus an additional 9% in Quebec) on account of income tax payable in Canada. This charge applies similarly to musicians, and other performing artists. According to the CRA, these performers are carrying on business in Canada and are subject to tax on their income earned in this country.

In many cases, however, services rendered by a resident of a treaty country, such as the US would be exempt from Canadian taxes. Business income is exempt under most treaties unless the taxpayer has a “fixed base regularly available to him” in this country.

Artistes and Athletes

A special section found in most of Canada’s treaties deals specifically with “Artistes and Athletes”. This provision essentially provides that the above treaty exemption for business income does not apply to income of more that $15,000 in a year, derived as an entertainer such as a movie, theatre, radio or television artiste, a musician or an athlete. Accordingly, these talented people have to “pay to play”, so to speak.

Requirement to File a Tax Return

Whether or not a person is exempt from Canadian tax under a treaty provision, he must file a Canadian income tax return. The 15% tax withheld does not relieve a non-resident of this duty. If the income is exempt under a treaty, then the full amount withheld would be claimed as a refund. If the taxpayer is not exempt, he must report his net income earned in Canada, and the 15% tax withheld is applied as a credit against taxes owing. Failure to file a Canadian return would result in penalties.

Like Me, Some People Are Not Artistic Enough

Billy Joel in Montreal - Must file a Canadian tax return

Billy Joel in Montreal - Must file a Canadian tax return

The question of whether a taxpayer is an “artiste or athlete” can be difficult to answer at times. In the case of Thomas F. Cheek v. The Queen, Toronto Blue Jays announcer Tom Cheek was held not to be a “radio artiste”, because he was simply reporting on the games and was not attracting his own audience by virtue of his talents as a radio personality. The court found he was exempt under the Canada –US Treaty.

More Issues for Athletes

For athletes, questions can become even more complex. US athletes playing for Canadian sports teams might be considered resident in Canada depending on their circumstances, and vise versa. Non-resident employees of sports teams might benefit from treaty protection if they are not present in Canada for more than 183 days in a year. However, self-employed athletes, such as tennis players would likely have no treaty protection.

Special Rules for Film Actors

Finally, a completely separate set of overriding rules applies to actors who provide acting services in a film or video production. These taxpayers, whether they provide services directly or through a corporation, are subject to a flat 23% withholding tax under Part XIII of the Act. This rate applies to income from acting services, including residuals and contingent compensation. Further, these taxpayers are not required to file Canadian income tax returns.

However, a special election is available to actors who choose to file a tax return. Under this election the 23% withholding tax does not apply, and they will be taxed under Part I on their net income earned in Canada. To be valid, this election must accompany a Canadian income tax return filed by the person’s filing due date.

Note that these special rules do not apply, for example, to stage actors or radio artistes. They do not apply to other income earned by the actor, such as from services as a producer or director. Nor do they apply to other personnel working behind the scenes in the film industry. All these other services are subject to the normal 15% Reg. 105 withholding and the requirement to file a return.