June 27, 2017    中文(简体)   
A Bried Guide To Owning Real Estate in The U.S.

Introduction

The tax and liability implications of owning US property can be complex, and there is no ‘one size fits all" solution for US property ownership. Each investor must determine an ownership structure which reflects his or her specific circumstances, including age, marital status, investment objectives, location of investment property and likely term of ownership. Potential investors are urged to consult a professional advisor before deciding what ownership structure is best for them.

Some Important Things to Consider

When deciding on an ownership structure, Canadian investors should keep in mind four important factors:

1. The more complicated an ownership structure is, the more expensive it will be to set up and maintain, and the more annual filings you will need to make. Try to find the least complicated ownership structure that works for you.

2. Owning an investment property will expose you to potential liability from tenants, visitors and others. Make sure the structure you use protects you against personal liability, or that you cover yourself with sufficient liability insurance.

3. Owning an investment property will result in income tax obligations in both Canada and the US. Make sure you use an ownership structure which minimizes tax on rental income and avoids double taxation.

4. Owning a US property may give rise to capital gains tax upon disposition, and to estate tax and probate fees upon death. Make sure you use an ownership structure which minimizes capital gains tax, estates tax and probate fees. 

 

Personal Ownership

By far the most simple and least expensive form of property ownership is personal ownership – holding the property in your own name, or in the names of you and your spouse or you and your investment partner. With personal ownership, there are no set up or maintenance fees and no annual corporate or trust filings. You will need to file an annual personal tax return in the US to report your rental income.

Benefits of Personal Ownership

• No costs associated with set up or maintenance

• All income tax payable in the US is creditable against Canadian income tax payable

• US capital gains tax payable on disposition is at lowest rate (maximum of 15%), and is creditable against Canadian capital gains tax

Issues from Personal Ownership

• wners are personally liable for damages from lawsuits (though owners can protect against this by purchasing liability insurance)

• Personally-­‐owned US property owned may be subject to estate tax upon the death of an owner (see below for more details on US estate tax)

 

Corporation

Holding property in the name of a corporation generally involves creating a special purpose corporation, of which the investor is typically the sole officer, director and shareholder, and then acquiring the property in the name of the corporation. While there are some benefits to owning property through a corporation (such as no personal liability), for most investors holding title to US property in a Canadian or US corporation is not an effective form of ownership, mainly for the tax reasons set out below. 

Benefits from Corporate Ownership 

•  Owners are shielded from personal liability for damages from lawsuits

• Owners are protected from probate fees (Canadian or US corporations) and estate taxes (Canadian corporations only)

Issues with Corporate Ownership

 • US limited liability corporations (LLCs) are not recognized by the Canada Revenue Agency (CRA), and US tax paid by an LLC is not creditable against Canadian tax owing

• Canadian corporations and US "C" corporations are both taxed at higher rates than individuals in the US (maximum rate of 35%), and corporate tax paid in the US is not credited against Canadian tax, resulting in double taxation. In addition, Canadian corporations are subject to a 5% branch tax on net income.

• Upon disposition, corporations pay regular income tax on capital gains (rather than capital gains tax), much of which will not be creditable against Canadian capital gains tax payable

•   Setting up and maintaining a corporation can be expensive

 

Limited Partnership

In some cases, a limited partnership may be the preferred method of ownership for US property. A limited partnership typically consists of a shell corporation (Canadian or US) as general partner, and the investor as a limited partner. Either the partnership or the Limited partners will need to file a US tax return and pay income tax on the income from property, but in either case the tax is creditable against Canadian income tax.

Benefits of Limited Partnership Ownership

• Limited partners are shielded from personal liability for damages from lawsuits

• Income tax payable in the US is creditable against Canadian tax payable

• Lowest rate of capital gains tax upon disposition, creditable against Canadian capital gains tax

 

Issues with Limited Partnership

• Setting up and maintaining a limited partnership can be expensive

• Limited partners may still be liable for US estate tax

Summary of Various Ownership Methods

Ownership Structure

Structuring Expenses & Filing Fees

Personal Liability

Income Tax

Capital Gains & Estate Tax

Personal Ownership

No set up or maintenance fees, $500 annual tax return

Full Personal liability (liability insurance can cover this)

Lowest rates, US tax credited against Canadian tax payable

Lowest capital gains tax; subject to estate tax

US Limited Liability Corp (LLC)

Moderate ($1,000 set up fees plus $500/yr)

No personal liability

double taxation

Capital gains taxed as income; subject to estate tax on shares of corporation

US "C" Corporation

Moderate ($1,00 set up plus $500-$1,000 annual tax return)

No personal liability

High rates plus double taxation

 

Capital gains taxed as income; subject to estate tax on shares of corporation

Canadian Corporation

Moderate ($1,00 set up plus $500-$1,000 annual tax return)

No personal liability

High rates plus double taxation

Capital gains taxed as income; no estate tax

Canadian Limited Partnership

High ($2,500 set up plus $500-$1,000 annual tax return)

No personal liability

Lowest rates, US tax creditable against Canadian tax

Low capital gains; subject to estate tax on units of LP

US Limited Partnership

High ($2,500 set up plus $500-$1,000 annual tax return)

No personal liability

Lowest rates, US tax creditable against Canadian tax

Low capital gains; subject to estate tax on units of LP

 

Understanding US Tax

Income Tax Rates in the US

If you own income-­‐producing property in the US, you will be required to file an annual US tax return and to pay income tax on your US income. This is true whether your ownership structure is personal, corporate or through a limited partnership. Rental income may also be subject to a withholding tax, though it is possible to obtain a withholding tax exemption from the IRS. Here are the current US federal income tax rates:

10%                   on taxable income from                                     $0 to $8,700, plus

15%                   on taxable income from                                     $8,700 to $35,350, plus

25%                   on taxable income from                                     $35,350 to $85,650, plus

28%                   on taxable income from                                     $85,650 to $178,650, plus

33%                   on taxable income from                                     $178,650 to $388,350, plus

35%                   on taxable income over                                     $388,350

 

For example, if a Canadian investor owned three income producing properties in the US, and the taxable income (net operating income minus depreciation and mortgage interest) from those properties was $16,450 per year, then the total US federal tax owing would be $2,033:  ($8,700 x 10% = $870) + ([$16,450-­‐$8,700=$7,750] x 15% = $1,163) = $2,033.  

In addition, many US states charge state income tax on income generated in their state. State income tax rates vary from as little as none (Alaska, Florida, Nevada, Texas, Washington & Wyoming) to as high as 11% (California, Hawaii & Oregon), and everywhere in between. Some state income tax is a flat tax, while most are graduated depending on level of income. A complete list of tax rates for each state can be found at http://www.taxadmin.org/fta/rate/ind_inc.pdf.  

Under the Canada-­‐US tax treaty, investors who own US property personally or through a limited partnership and who owe tax in Canada are entitled to a credit for their US federal and state taxes paid. Since Canadian tax rates are almost always higher than US tax rates, most Canadian investors who own their property personally or through a limited partnership will end up paying no additional tax by virtue of owning property in the US (ie they will pay the same rate of income tax on US property as they do on their Canadian property). 

By comparison, investors who own property through a corporation may not be entitled to the same benefits. A US limited liability corporation (LLC) is not an entity recognized by the Canadian Revenue Agency (CRA), so tax paid by an LLC in the US is not creditable against Canadian tax and double taxation will occur. While a US "C" corporation is recognized in Canada, the corporation is taxable at higher rates than individuals, and once that tax has been paid, after-­‐tax profits paid out to investors as dividends will also be taxable in Canada, with no credit for the corporate tax paid in the US.  The same is true for Canadian corporation which owns income property in the US.

Capital Gains Tax In the US

Canadians who sell their US property will be required to pay capital gains tax on any increase in value during the time they owned it. If you own property personally, or through a limited partnership, capital gains will be taxed at a maximum of 15%,, and any US capital gains tax you pay will be deductible against Canadian capital gains tax. If you own your property through a corporation, capital gains will be taxed as income, which results in higher rates of taxation. In addition, ownership through a Canadian corporation will result in an additional 5% branch tax.

US Estate Tax

No area of US taxation has been so misunderstood in Canada as the estate tax. Under Canadian tax law, upon the death of a Canadian resident, there is a deemed disposition of all assets, and capital gains tax is payable on the increase in value of those assets while we owned them. By comparison, when a US resident passes away, there is no capital gains tax payable; instead the US resident pays a 40% estate tax on all assets over $5.25 million. 

Canadians who own US real estate and whose total estate is worth more than $5.25 million when they pass away must also pay US estate tax, but only on the US portion of their estate. Determining the amount of estate tax a Canadian must pay on his or her US assets is a bit complicated, but can be calculated as follows:

1. Determine the total value of the estate; if it is less than $5.25 million, no estatetax is payable.

2. If the total estate is greater than $5.25 million, then deduct $5.25 million from the total value of the estate and multiply what’s left by 40%. This would be the tax owing if the investor was a US resident.

3. Because the investor is a US non-­‐resident, determine what percentage of the total estate is actually US assets, and multiply that by the total amount of tax you would pay if you were a US resident. That amount is your US non-­‐resident estate tax payable.

For example, take a Canadian investor who has a total estate valued at $6.5 million, of which $130,000 is US property:

• $6.5 million -­‐ $5.25 million = $1.25 million x 40% = $500,000 (tax if US resident)

• $130,000 / $6.5 million = 2% (proportion of estate which are US assets)

• $500,000 x 2% = $10,000 (the amount of estate tax owing by a US nonresident)

As you can see, the impact of estate tax is relatively modest: $10,000 in estate tax on a $130,000 property. For investors who may be subject to US estate tax (i.e. those who have an estate worth more than $5.25 million), a suggested strategy for mitigating estate tax is to buy a term life policy for the estimated estate tax payable in the case of unexpected death. Also, it is important to note that the law of estate tax is very complicated, and there are various methods available for eliminating (or at least postponing) estate tax. Investors should be sure to obtain expert advise on this issue.

Summary

Most Canadian investors will be best served by holding their US real estate personally. There are no set up costs involved in holding property personally, and the cost of filing an annual US tax return is less for an individual than it is for a corporation or limited partnership. As well, it will likely be easier to arrange mortgage financing if you own property personally. Investors who are concerned about personal liability can obtain additional liability insurance, and investors whose estates are worth more than $5.25 million and who are concerned about estate tax can purchase term life insurance to cover estate tax liability. Most importantly, income and capital gains taxes paid in the US are creditable against Canadian tax payable. 

Investors with multiple US properties may also consider using a Canadian limited partnership as an ownership vehicle. While the set up fees and the filing of an annual partnership tax return are not insignificant, a limited partnership does shield the investor from personal liability, and all taxes payable in the US are creditable against Canadian tax payable. Canadians who own units in a limited partnership with US assets are still subject to estate tax on the value of their units.     

Get More Information!

This guide is intended as an introduction only. Ownership, liability and tax laws are complicated, and every prospective purchaser is urged to do more research, and to consult with a professional advisor prior to finalizing an ownership structure.

Publications

The following publications provide a very thorough introduction not only to ownership structures and tax laws, but also more generally to the challenges of owning US property:

Buying US Real Estate: The Proven and Reliable Guide for Canadians. Richard Dolan, Don Campbell and David Franklin (available on Amazon, Chapters/Indigo or through REIN)

Buying Real Estate in the US: The Concise Guide for Canadians. Dale Walters (available on Amazon and Chapters/Indigo)

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