U.S. Estate Tax Issues for Canadians

With the recent depressed condition of the U.S. housing market, many Canadians are flocking to the southern states to purchase rental or vacation properties and take advantage of bargain prices. While most taxpayers are aware that there are potential income tax consequences to such purchases, many are unaware that the U.S. government could impose tax on these investments or properties upon their death. 

Unlike Canada, the U.S. does not have a deemed disposition system, but rather taxes the fair market value of taxpayers' estates. With respect to Canadian residents who are not U.S. citizens, the U.S. estate tax is levied on the fair market value of assets located, or deemed to be located, within the U.S. on death.

Assets

Assets located or deemed located in the U.S. and caught under the estate tax laws, can include, among others:

• U.S. real estate;
• assets of a business conducted in the U.S.;
• shares in a U.S. corporation (even those within RRSPs and RRIFs);
• tangible property located in the U.S. (cars, boats, etc.);
• U.S. bonds and/or debentures; and
• U.S. pension plans.

Basic personal U.S. bank accounts are not caught by estate tax rules unless they are broker accounts.

U.S. Estate Tax Rates

U.S. estate tax rates can be quite high, reaching as much as 45%. The good news is that the U.S. does provide a basic estate exemption that shelters estates under a certain size. In 2001, the Bush administration introduced a new tax law that increased the estate exemption to $3.5 million for the 2009 taxation year. However, the law was written in such a way that it would "sunset" in 2010, reverting to the prior rates for the 2011 taxation year. While it is widely expected that the Obama administration will bring in permanent legislation freezing the estate exemption at $3.5 million, the US estate tax regime remains in a state of flux until such time as permanent legislation is passed.

Readers should be cautioned that estate taxes may also be payable to individual states. Exemptions and tax rates vary by state and should be discussed with your tax advisor.

What Can Be Done to Minimize U.S. Estate Taxes?

Gifting of Assets Prior to Death

For U.S. estate tax purposes, Canadian residents can gift non-U.S. situs tangible property, such as stocks, bonds and cash, to other individuals without paying U.S. gift tax. This can decrease the total value of an estate below the taxable threshold or, at a minimum, can increase the unified credit and possibly the spousal credit. U.S. assets may also be gifted without any tax consequences if the gift is under $13,000 U.S. per recipient.

With any gifting of assets, it is important to keep Canadian tax laws in mind as well. Gifts can trigger tax in Canada as they are treated as a deemed dispositions for Canadian tax purposes.

Non-Recourse Financing

If non-recourse financing is used to finance specific U.S. assets and can only be collected from the specific property, the non-recourse financing decreases the value of the estate. These arrangements must have a market interest rate, reasonable repayment terms, and the terms must be specified in writing. Given the current financial backdrop in the U.S. this option may be difficult to implement.

Joint Ownership of Property

Holding property jointly can halve the value of the property to be included in the deceased's estate for tax purposes. However, it is important to be able to demonstrate that the surviving taxpayer originally paid for his or her half of the total value of the property.

Holding U.S. Assets in a Canadian Holding Company

By holding your U.S. assets in a Canadian holding company, you will, in effect, eliminate your personal U.S. asset holdings. This strategy does involve additional costs, such as yearly tax fillings and financial reporting expenses, and could trigger negative Canadian tax consequences.

Holding U.S. Assets in a Canadian Trust

Similar to the Canadian holding company, a properly structured Canadian trust can also be used to help mitigate exposure to U.S. estate tax. Care must be exercised to ensure that the Canadian trust is not deemed to be a grantor trust under U.S. domestic law.

The U.S. estate tax laws are far reaching and impact many taxpayers around the world. It is important to consider these laws in any estate plan, as the taxes can be significant. If you feel that your estate may be taxable in the U.S., consult your Collins Barrow tax advisor to discuss the available options to limit the far reaching arm of the U.S. estate tax system.

Sylvain Campeau is a Senior Tax Manager in the Ottawa office of Collins Barrow.