david ingram's US/Canadian Newsletter Pages 167-170
June 17, 96 is the filing deadline for U.S. citizens (or green card holders out of the U.S.) and Canadians with non Dec 31/95 year ends to file their 1995 Canadian and American tax returns.
June 17, 1996 - U.S. Tax Filing Deadline Page 167
June 30, 1996 - Canadian Rental Real Estate Tax Filing Deadline Page 168
June 17, 1996 - Canadian Self Employed Tax Filing deadline Page 169
MISTAKES, MISTAKES, MISTAKES! Page 169
MUTUAL FUND PROBLEMS (FLOW SHEET - NEXT MONTH) Page 169
MORE COMING VANCOUVER REAL ESTATE DISASTERS IN 1996 Page 169
AUTOMATIC EXTENSION TO FILE US FEDERAL RETURN Page 171
OUT OF COUNTRY U.S. CITIZEN AND GREEN CARD HOLDER TAX FILING EXTENSION
There are many things I do not like about the U.S. income tax system, but one thing I do appreciate is their sophistication in dealing with taxpayers living outside the United States. If you are a Canadian with a green card and you are living back in Canada, you still have to file a U.S. income tax return for 1995. If you are a Canadian who has been working in the United States (selling Canadian lumber, buying American lumber, selling Canadian books, selling Canadian computer software, or renting out a condominium in Palm Springs, Florida, or Mount Baker) you must file a 1995 1040 or 1040NR U.S. income tax return.
NO EXCEPTIONS! Although if you earned less than $10,000 as a lumber broker, or $15,000 as a transportation worker (i.e. truck driver or flight attendant or pilot or bus driver), you may be exempt from actual tax under different Articles of the U.S. Canadian Income Tax Convention.
Please note that the "semi-automatic" fine for not reporting income to the U.S. because "it was exempt anyway under the treaty" is $1,000 per instance even if no tax is ultimately payable.
** A U.S. citizen (or a Canadian resident who has kept his or her U.S. resident alien "Green" card so that they can go back to the U.S.) living in Canada (or Paris, France, or London, England) would likely be filing a 1040 with schedules A (itemized deductions), B (investment income), C (self employed), FICA exemption election form, D (capital gains) , 2555 (form to exempt up to $70,000 or earned income), RRSP exempt election form, and 1116 (foreign tax credits).
** A Canadian resident who works in the U.S. legally under a B-1, L-1, E-2, H-1 or any other visa (or illegally without a visa) would file a 1040 tax return reporting his or her world income to the U.S. with the same forms as above if he or she was there for more than 183 days. This would or could also be true if it was found that the individual was in the States for more than (as one example) 120 days a year three years in a row and had a substantial presence in the U.S. This would be true for instance where a person lived in Canada but had a second home in Point Roberts or Niagara Falls and kept their boat and motorhome and golf club membership in the U.S. Snowbirds fall into this category and as one IRS agent said to me, "if they own a golf cart in Arizona, I am going to tax them." Keeping your boat on the U.S. side of the river (60% of the boats in two Marinas I went to on the U.S. side of the St. Lawrence were registered to Canadians), lake, or ocean is a heck of a lot more investment than a golf cart. Having a 5 bedroom house on acreage in Vermont or Washington or New York State and a 1 bedroom condominium in Montreal, Cornwall, or White Rock will also cause the IRS to conclude that your closer connection is to the U.S. Remember, "living" is more likely what you do with friends and relatives in leisure moments as opposed to working.
Money earned in the U.S. for services performed in the U.S. is considered "U.S. source income" even if paid from Canada. In this case, you pay tax to the U.S. FIRST and claim a foreign tax credit on line 507 of the Canadian tax return. If you performed these services in California, you also "HAVE TO" file a California, or Oregon, or New York or any of 40 other states' tax returns.
Let's pretend you are a Canadian Resident with a spouse and 3 children in Canada and you work for a Canadian software company. You install and support a software program which has been purchased by pulp mills in Washington, Oregon, and Kentucky. Your salary is coincidentally exactly $120,000 a year in Canadian dollars and after dutifully checking your log book, you find that you spent exactly 1/12th of your working time in Georgia, 1/12th of your working time in Oregon and 1/12th of your working time in Washington.
You therefore earned $30,000 Canadian in the U.S. (remember the source of the money for tax purposes is where the work was performed, not from where you received your pay cheque). It is also easy in this case to see that the money was paid by the U.S. companies and actually came from sources within the individual states even if it was paid directly to your Canadian employer and you received your pay from the Canadian company complete with UIC and CPP and income tax deductions.
It is harder to get this concept across to a Canadian salesman who spent 56 days (25% of the working year) in New York State trying to make a sale and doesn't succeed but has to report 25% of his Canadian income to both the New York and Federal tax authorities. (In this case, there was no income from New York State as no sale was made).
In the first case above, you would convert your $30,000 earnings to about $21,000 U.S. and report the whole $21,000 to the U.S. on a 1040NR U.S. income tax return. You would then report $7,000 on an Oregon State 40N non-resident tax return and $7,000 on a Kentucky non-resident 740NP tax return. There is no Washington State tax return.
* (For a 19 page dissertation on when and where you pay tax and sample tax cases and a list of which states have tax returns, check off and request the "residence" section in the Further Information Section).
* (For a 25 page dissertation on what you need to work in the U.S. including the latest information on visas and Treaty NAFTA, check off "25 pages of rules" in the Further Information Section at the end).
On the U.S. 1040NR return, you would claim an exemption from the 15% social security tax under Article V of the US/CANADA Social Security agreement.
You would then claim any tax, social security tax, and medicare tax paid to the U.S. federal government, the Kentucky government and the Oregon government as a foreign tax credit on line 507 of schedule 1 of your Canadian T1 income tax return. Canada would give you credit for every cent paid to the United States (by proportional formula) and your tax would not likely increase by one cent. However, you would now not be liable for future penalties if "caught five years from now by the IRS" - see the Oct 95 and Nov 95 newsletters.
If you feel bad about this, remember that Michael Jordan, Wayne Gretzky and other professional athletes have to file a separate return for each state (about 24) that they play in.
Your cost would be paying us to do all this rather complicated paperwork but you should not have to pay for this. Your employer should pay it for you.
** Canadian residents with U.S. rental property MUST file a 1040NR, a schedule E for the rent and a 4562 to calculate the depreciation. Please note that you HAVE TO calculate depreciation each year whether you need it or not. If the property is owned by a husband and wife, both must file. Failure to file (within 2 years) can result in penalties of up to $10,000 per owner per year PLUS 30% of the gross rent with NO EXPENSES ALLOWED.
Please note that in all the preceding cases, if the state of California is involved, the non-resident has to report their "World Income" to the U.S., even if only there for two days (or not there at all, but renting out a Palm Springs condo).
All the above returns are due by June 17, 1996 (some states were due on April 15th, unless a specific extension form is filed (like Hawaii). If you still won't be ready, file a form 4868 for an automatic extension. If you can't find the form, phone our office at (604) 913-9133 and we will mail or fax one to you.
** NON-RESIDENT OF CANADA with a Canadian rental property or royalties. This person has to file a Canadian T-1 return (and a Quebec return if the property is in Quebec) under Section 216(4) of the Income Tax Act. Depreciation can be claimed to reduce the income to zero. While Canada does not have the $10,000 fine applied by the U.S. government, FAILURE TO FILE WITHIN TWO YEARS WILL RESULT in tax of 25% of the gross rent with NO EXPENSES ALLOWED. This is serious stuff. We have seen U.S. residents lose their Canadian rental house to Revenue Canada under these circumstances.
** SELF EMPLOYED CANADIANS who had year ends which ended at a time other than December 31, 1995 have until June 17, 1996 to file their 1995 return. Their spouse also has until June 17 to file their return.
This can be an involved calculation. See the February 96 CEN-TAPEDE for further information. If you want a copy of the 12 page government pamphlet which explains quite nicely, "how to do it", ask for it in the Further Information Section on the back page. Don't leave this to the last day. Get in and get it done now.
MISTEAKES, MISTAIKES, MISTAKES.
As I write this, another client has been reassessed by the U.S. government for U.S. Social Security tax for 1988. The caller from North Dakota was "just a little" incredulous. But we see it every day. When we filed their 1992, 93, 94 and 95 Canadian and U.S. returns, we claimed an exemption from U.S. Social Security premiums of 15.3% by filing a form (see it in the Oct 95 CEN-TAPEDE) to claim an exemption. IF YOU DO NOT FILE THE FORM, THE IRS CAN ASK FOR SOCIAL SECURITY PAYMENTS BACK TO 1967.
Both Canada and the U.S. tax authorities are busily putting ancient data which is already on tape into "on line" data banks. The computers then look for anomalies in old returns. It is not unusual to have clients walk in with re-assessments from Canada and the U.S. for the years 1986, 87 and 88. Just because you thought it went away, let me reassure you that it has not. If you sold a vacation property in Arizona, California, Florida, Minnesota, etc. since 1985, you CAN EXPECT the IRS to catch up with you as they compare property sales with tax returns. EVERY PROPERTY SALE IN THE U.S. HAS TO BE REPORTED ON AN INCOME TAX RETURN. NO EXCEPTIONS! Therefore, if you sold a place in Florida in 1989 and lost money and did not report the sale, you can expect a serious tax bill because if they catch up to you, the IRS taxes the gross sale price and DOES NOT HAVE TO ALLOW YOU THE DEDUCTION FOR WHAT YOU PAID FOR THE PROPERTY. That's right! You can end up paying tax on the full sale price even if you lost money. If you are caught up in this, please file that old return.
FAILING TO READ PAST ASSESSMENTS
What this points out is just how hard it is to get all the information together and how important it is to pay attention to the last year's assessment notice before preparing this year's tax return. Most errors or changes or "snafu" situations would have been avoided, if we had all just read the assessment notice. Revenue Canada is sending out an amazing amount of information AND TAX SAVING TIPS on the assessment notice. For instance, people are being reminded of RRSP carryforward amounts, capital loss carry forward amounts, AMT carry forward amounts and non-capital loss carry forward amounts that the CLIENT has forgotten about.
Several times, these "notes from Mr Chretien" have resulted in savings to the client of over $10,000 of income tax. READ YOUR ASSESSMENT NOTICE AND IF YOU DO NOT UNDERSTAND IT, ASK, ASK, AND ASK AGAIN. With 13,000,000 people getting their assessment notices in this 90 day period, there is no better time to get started.
MUTUAL FUND PROBLEMS
MUTUAL FUNDS are still a problem. The March CEN-TAPEDE attempted to address this problem but it wasn't enough. IF YOU OWN MUTUAL FUNDS, ASK FOR THE MAY 96 NEWSLETTER BELOW. The problem is that I never see the profits calculated properly when mutual funds are sold. Owners and their advisors (accountants, mutual fund salespeople and most tax consultants) fail to calculate the ADJUSTED COST BASE correctly. Without exception, it seems that everyone forgets to add accumulated dividends to the ACB when calculating their ACB and ends up paying more tax than they have to. The last one I corrected on May 2 was a difference of over $10,000.
UPCOMING VANCOUVER REAL ESTATE DISASTERS
Last month I mentioned SEVERAL Vancouver financial real estate disasters and predicted there would be more. Since then, I have received details of other disasters and have been informed by individuals in the know of many other coming collapses.
It seems that there are numerous problems developing with other pre-sold buildings as potential buyers are trying to get out of the deals they have made or it is becoming obvious that the "presale" purchasers have not been qualified and are not going to be able to close on their purchase when the building is finished.
I am reminded of a 29 year old shoe salesman (he really did sell shoes in a Brampton shoe store) who came to my Toronto office just before it closed. He had paid $38,000 for a 3 bedroom townhouse which had gone up to $125,000. He had managed to get a $75,000 mortgage on the townhouse and gone out and bought 19 "pre-sale" condos in the greater Toronto area. He was financially unable to close on any more than one of them and had no intention of doing so. He had bought the pre-sales to "flip" to others and make a trading profit.
However, the market had collapsed in Ontario on April 15, 1989 (yep, I can tell you the day) and he was now unable to sell the paper and was losing his house.
The same thing has happened in Vancouver. Purchasers have been told they "have to act quickly". When potential purchasers need to sell their old property to close on the new property and a good Realtor is involved, the REALTOR is responsible to both the purchaser and the vendor to make sure that the purchaser is capable of making the purchase.
If the purchaser cannot close, the vendor will be damaged financially because he or she likely needs the money to make their next purchase.
However, as so many condo projects are being sold in-house by full time employees, they are not paying attention to these facts and are accepting offers which do not include "SUBJECT TO SALE OF purchaser's present house" clauses.
I would like to say that this only applies to these non-realtors, but I have also received calls from several other individuals who are suddenly being faced with owning two houses because (with the use of professional REALTORS) they have bought a second house and their first home hasn't sold. Sometimes these are $600,000 houses, and sometimes they are $62,000 places as in the following handwritten note faxed by a Realtor from another city to a vendor in Vancouver.
"Hi there! List price $62,500 for a 2 Bedroom and its showing well, This should move quickly. Please sign and initial the "X's"."
Wouldn't that note make you think your money was as good as "in the bank" and would be available to close on your purchase?
So watch your step. If you are selling and your agent brings you an offer where the purchaser has to sell their house to buy your house and their are no subjects, YOU better be ready to close your next purchase WITHOUT the cash from your sale because it might not go through.
As an example, in July 1973, one North Vancouver real estate office started the month with 32 sales closing that month. At the end of July 1973, not one single sale had closed. The figures were far worse in Toronto in April, May, June, 1989.
Foreclosures are up. Prices are down. There is already an approximate 6 year supply of unsold condominiums in Vancouver.
And as I write this, an individual has just phoned to say that he has to close a house in North Vancouver, his old house has not sold, and he wanted to verify that he could deduct the interest if he put a mortgage on his old house (to buy the next one) and rented out the old one.
The answer is "NO" (even though his banker suggested it) because he borrowed the money to buy the new house which is his new principal residence. He could deduct the interest if he stayed where he was and rented out the new house. However, because he is just "holding on" and did not buy the new house to rent out for income purposes, he cannot deduct the rental loss against other income because there is no expectation of "rental" profits from the operation. In other words, he can only deduct the interest to "net out" the rent to a zero loss / zero profit position.