So your US business is successfully off the ground, and you are now faced with the dreaded task of dealing with US corporate tax filings. Fortunately, there are cross border tax advisors (such as AG Tax) with many years of experience that can help reduce the stress of complying with the Internal Revenue Code and other US tax reporting laws, and ensure that it is done correctly.
Over the years, we have had many clients come to us with US tax compliance issues as a result of trying to do-it-yourself or hiring an inexperienced tax preparer. In order to help you avoid the same mistakes, this article outlines some of the more common tax compliance issues which our clients have faced.
Five of the biggest issues commonly missed concerning US Corporate Income Tax Compliance by Canadians
Forgetting to file the “Foreign Bank Account Report”
Penalty Exposure: minimum $10,000 for each account each year.
If your US corporation has a bank or financial account that is not physically with a bank or financial institution located in the US then there is likely an annual reporting requirement that must be filed electronically by June 30 of every year (soon to be changed to April 15 after the 2016 year). The form is not filed with the federal tax return so it is often missed. An indication that this Form is required is found on Schedule N of the Form 1120 corporate tax return. This helps you identify if this filing requirement, and others, apply to your situation: http://www.irs.gov/pub/irs-access/f1120sn_accessible.pdf
For additional information on FBAR filings please refer to our article: FBAR E-Filing A Must
Forgetting to report inter company transactions on Form 5472, “Information Return of a 25% Foreign-Owned US Corporation or a Foreign Corporation Engaged in a US Trade or Business”
Penalty Exposure: minimum $10,000 for each related party with inter company transactions each year.
If there is at least one 25% foreign shareholder of the US corporation, or the company is a foreign corporation engaged in a US trade or business (such as a US branch), and you have transactions with shareholders or related parties you are generally required to identify the related party and disclose the amount of intercompany transactions with that related party during the reporting year.
For additional information on form 5472 please refer to our article: Form 5472, Information Return of a 25% Foreign Owned US Corporation or A Foreign Corporation Engaged in A US Trade or Business
Late filing of these forms will automatically generate a penalty assessment from the IRS. Penalties will only be waived if you have what the IRS deems to be a reasonable cause for late or non-filing.
US State and Local Income Tax
Potential state income tax exposure: 4.53% to 12% of state taxable income plus interest and penalties.
Many new clients come to us with state income tax compliance woes mainly because they inadvertently created state tax nexus.
Please refer to the following article for a detailed definition of nexus: What is Nexus From Tax Perspective?
State tax nexus is the minimum level of activity in a state that causes a taxpayer to be subject to that state’s taxes. Each state has a right to pass its own legislation on the definition of nexus. While most states have very similar definitions of nexus, there are some differences. Each state may also have different nexus thresholds for different types of state taxes such as income, franchise, gross receipts, margin or sales tax.
It is best to seek advice from a state tax advisor before performing any physical activity such as providing services, hiring an agent or representative, or holding inventory or equipment in the state. However, you must also be careful if you are doing a large amount of business in a particular state as some states have passed nexus legislation based solely on the presence of sales. In other words once your sales in a state meet or exceed a certain amount then you will be subject to that state’s taxes unless your activities are specifically protected under federal law.
Washington Business & Occupation Tax
Exposure: 0.471% of retail and wholesale receipts, 0.484% of manufacturing receipts, and 1.5% for services receipts.
Due to our head office being in close proximity to Washington State, we have many new clients that come to us after they have incorporated a company in Washington to operate their US business. They heard that Washington does not have a corporate income tax, and they are in a loss position so they figure there is nothing to worry about. While Washington does not have corporate income tax it does have a tax called the Business and Occupations Tax or B&O tax.
Please refer to our article on B&O tax for additional information: Washington Business and Occupation Tax (B&O Tax)
Unfortunately for those clients with losses, the B&O tax is essentially a gross receipts tax with very limited deductions, and therefore B&O tax may be due to pay regardless of the amount of losses the US business has incurred.
Penalty Exposure: 20% or 40% of the difference between the tax paid and the tax owed depending on whether certain thresholds are met.
Recently a new client came approached our office with a profitable cross border business (having both a US and Canadian operating company). Because the corporate tax rate was lower in Canada, the Canadian company would charge an annual management or administration fee based on the US Company’s profits so the business would pay less tax overall. Unfortunately, the transaction, if solely based on US profits, would not likely be respected by the Internal Revenue Service (IRS) due to transfer pricing laws.
Please refer to our article on transfer pricing for additional information: What is Transfer Pricing?
The penalties for abusing transfer pricing rules could go as high as 40% of the amount of excess transfer pricing as determined under law.
A general rule for transfer pricing is to base the amounts on what an arm’s length person or third party would pay for those services or goods in an open market. Documentation of the methodologies and thought processes to determine the transfer pricing amount may go a long way in supporting the transfer pricing charged and avoiding significant penalties.
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 US and Canadian tax laws as well as cross-border compliance.
Furthermore, as a full service accounting firm, AG Tax associates are dedicated to assist you with even your most complex tax needs.
We can assist with:
- Canadian Personal and corporate tax returns
- Cross Border Taxation and Business Planning
- US Personal and Corporate Taxation
- Disclosure of Foreign Assets and other information filings
- Retirement planning
- Estate Planning, Inheritance tax advice
To obtain a quote or to arrange for a consultation to discuss your tax related queries, please contact us at:
- 416-238-5920 (Greater Toronto Area, ON)
- 604-538-8735 (Greater Vancouver Area, BC)
- 780-702-2732 (Greater Edmonton Area, AB)
Disclaimer: The information in this publication is accurate as of the time of its publication. AG Tax assumes no responsibility for changes to tax legislation subsequent to the publication of this document. The information provided is for general information purposes only and should not be acted upon without seeking professional advice. If you would like to engage our services, please contact our staff and obtain authorization to send our firm confidential information. A client relationship is not created by the transmission of information. A client relationship is only formed with our firm when a scope and engagement letter signed by the firm and the potential client detailing the terms of engagement is present.