If all of the beneficiaries of a Canadian estate are resident in Canada, administration of an estate is relatively straightforward. However, an estate with beneficiaries living outside of Canada presents challenges for the executor, as distributions of property to non-residents involve a number of additional tax issues. It is important that the executor of a Canadian estate is aware of these tax issues in order to avoid penalties and interests for non-compliance with the Canadian estate tax rules .
The estate tax professionals at AG Tax have prepared a brief summary on the tax rules applicable in the case of distribution of estate to foreigners, which may be useful to Canadians with non-resident beneficiaries.
The Income Tax Act (ITA) requires an executor to withhold non-resident tax of 25% of the gross income distributed to non-residents of Canada, unless the recipient beneficiary resides in a country which is party to a tax treaty with Canada and subject to lower tax rates with respect to that income. The payment of this withholding tax is payable to the CRA by the fifteenth day of the following month after the income is distributed to the non-resident beneficiary.
Withholding tax on interest income paid to non-residents was eliminated as of January 1, 2008.
An estate may generally distribute capital property to beneficiaries resident in Canada on a tax-deferred basis. Property that has appreciated in value may be rolled over to the beneficiary at the property’s original cost basis so that the estate does not realize a capital gain.
On the other hand, in order to avoid deferral of taxation on the capital appreciation of property distributed to a non-resident, the ITA considers the distributed property to have been disposed of at the prevailing fair market value at the time of transfer. The estate is, therefore, subject to taxes based on the accrued capital gain from this disposition.
However, non-resident beneficiaries can still transfer Canadian real property on a roll-over basis since this type of property would remain subject to the Canadian taxation rules. Also, a non-resident beneficiary is considered to be disposing of their interest in a Canadian estate in return for a cash distribution, which is not considered a taxable gain, and likewise not subject to income tax, but may have to be reported to the CRA.
If a non-resident of Canada receives a distribution from a Canadian estate and more than 50% of the fair market value of the estate is derived from Canadian real property, then the estate is required to report that distribution to the CRA within 10 days of making the distribution. The CRA will issue a clearance certificate, under Section 116 of the ITA, with respect to the distribution.
This is necessary as the ITA assumes a deemed disposition of the capital interest of the estate by the non-resident beneficiary and a deemed acquisition of the interest by the estate. The Canadian executor is therefore required to either withhold and remit 25% of the gross distribution to the CRA or obtain the clearance certificate. Failure to comply with the reporting requirements will result in penalties and interest.
Penalties in case of Non-Compliance
Failure to notify the CRA of the distribution within the 10 day period will be subject to a penalty of $25 a day for each day the notification is late, with a minimum of $100 and a maximum of $2,500.
It is always in the best interest of an individual to consult a tax professional regarding estate tax matters, as the rules can be very complex and the penalties for non-compliance severe.
AG Tax LLP Can Help
If you have any tax-related queries, need assistance with tax planning or filing your tax returns please contact us. Our team comprises of highly experienced tax professionals with extensive knowledge of U.S. and Canadian tax laws as well as cross-border compliance
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