Deferral of Tax Payment on RRSPs for Non-residents
Allan Madan, CPA, CA
How to avoid paying tax on RRSPs for non-residents is revealed in this article.
There are special tax implications for RRSPs for non-residents depending on where they reside. For the purpose of this article, the focus will be on those who left Canada and reside in the United States and those who plan on emigrating from Canada in the future.
Canadian tax implications of RRSPs for non residents
Relinquish ties to Canada – what happens to my RRSPs?
In order to be deemed a non-resident of Canada you must sever your ties to Canada, such as your permanent home, driver license, Canadian bank accounts, and so forth, when leaving Canada. If one fails to sever such ties, the CRA may still consider the person a resident of Canada and impose significant penalties for failing to file Canadian tax returns. However, you can rest assure that your RRSP account is one of the few Canadian accounts that you can keep without incurring any negative consequences from the CRA.
Departure tax when leaving Canada – does this apply to RRSPs?
Another piece of good news is that your RRSP account is exempt from Canadian departure tax. What is departure tax? On the departure date, the CRA deems that you sold all of your assets at its market value and any positive difference between the market value and the original cost of the asset will be taxed as capital gain. Some assets, such as your RRSP and TFSA accounts, and principal residence are exempted from the deemed sale.
Do non-residents pay Canadian withholding tax on RRSP withdrawals?
We don’t recommend taking out your lump-sum RRSP when you depart from Canada as you’ll be paying significant amount of Canadian tax on the amount. Instead, we advise that you withdraw your RRSP funds after you become a non-resident.
As a non-resident with a RRSP account, you will only be responsible for 25% withholding tax on all of your withdrawals. If you turn your RRSP into RRIF or other annuity payments, the withholding tax will be reduced to 15%. You may also be able to claim a Foreign Tax Credit in the US for the withholding taxes paid to the CRA.
Another option is filing a special section 217 return in Canada to reduce the withholding tax if your RRSP withdrawal constitutes more than 90% of all of your worldwide income.
Any funds remaining in the RRSP will continue to grow tax free in Canada.
US tax implications of Registered Retirement Savings Plans (RRSPs) in Canada
For US tax purposes, the IRS (equivalent of CRA) treats RRSPs as a regular, non-registered investment plans. As such, the US will impose tax on any growth of your RRSP fund when you file your US return.
However, to alleviate such inconvenience on RRSP for non-residents of Canada, the US-Canada tax treaty allows non-residents to maintain growth within the RRSP tax free in the United States. This is done by filing a Form 8891 -(US Information Return for Beneficiaries of Certain Canadian Registered Retirement Plans) and attaching it to your US tax return each year. This form will allow you to defer paying tax on your RRSP income until you begin your withdrawal.
How the IRS taxes an individual on their RRSP is interesting. On the date of entry to the United States, all of the RRSP contributions, interest, dividends, capital gains realized are considered principal and can be withdrawn tax free in the US. However, any unrealized capital gain inside the RRSP at the date of entry will be taxable. Therefore, on withdrawal, the US tax calculation will be as follows:
Value of the RRSP at withdrawal date – (Principal – unrealized capital gain in RRSP at entry date)*
*Calculation is different for US Citizens and green card holders
As the calculation shows, if the value of the RRSP decreases after entering the US, you will not be liable for tax on your RRSP.
Cross border tax implication of RRSP for non-residents is a complex area of international tax and as such, we recommend consulting your local US tax expert for professional advice.
Disclaimer
The information provided on this page is intended to provide general information. The information does not take into account your personal situation and is not intended to be used without consultation from accounting and financial professionals. Allan Madan and Madan Chartered Accountant will not be held liable for any problems that arise from the usage of the information provided on this page.
ABOUT THE AUTHOR
ALLAN MADAN
CPA, CA
Allan Madan is a CPA, CA and the founder of Madan Chartered Accountant Professional Corporation. Allan provides valuable tax planning, accounting and income tax preparation services in the Greater Toronto Area.
What does it mean when you say that the IRS will tax any unrealized capital gains in the RRSP at date of entry into the US?
Hi Tafran,
Thank you for your question. Many Canadians purchase investments inside an RRSP, such as stocks, bonds, and mutual funds. A capital gain or capital loss is realized when these investment are sold. In Canada, gains/losses on the sale of investments inside an RRSP are not taxable.
The IRS’ policy is that the investments inside your RRSP are ‘sold’ for tax purposes on the date that you become a resident of the US. As a result, any investments that are ‘in-the-money’ (i.e. market value is greater than original cost), will cause a taxable capital gain to be realized when you become a resident of the US.
Please see an example in the following comment.
Hi Tafran,
Here is an example.
John is a Canadian resident who is emigrating to the US. He has a RRSP balance of $1,000 consisting of contributions he made. Of the $1,000 dollars in his RRSP account, $ 300 has been invested in 50 shares of company ABC Co.
John entered the US on July 1, 2013 and became a resident on that date. As of July 1, 2013, the 50 shares invested have a fair market value of $700. The IRS will treat the $1,000 originally contributed to John’s RRSP as ‘principal’. When John withdraws this $1,000 in the future, he will not be taxed by the IRS on the $1,000 of withdrawals. However, the unrealized capital gain of $400 ($700 – $300 = $400) on the 50 shares invested in ABC Co., will be subject to tax in the US on July 1, 2013, i.e. the date of entry.
Regards,
Allan Madan and Team
Does the same withholding tax apply when I withdraw funds from my TFSA account as a non-resident?
Hi Mike,
No, the 25% withholding tax won’t apply when you withdraw your funds from your TFSA account as a non-resident.
Regards,
Allan Madan and Team
How are RESPs treated in the US?
Hi Ron,
Unlike RRSPs, any income earned in the RESP (including government grants) is taxable to the contributor on their US return in the year the income is earned. This will result in double taxation as the income in RESP is taxed in the US when earned and taxed in Canada when the funds are withdrawn (in the hands of the child).
Further, RESPs are considered foreign trusts in the US so you will be required to file trust returns (Form 3520 and 3520-A) on an annual basis. Failure to file will result in significant penalties.
Regards,
Allan Madan and Team
I hold a RRSP that invests in stocks and mutual funds, but I will be heading over to become a US resident soon. Will I have to pay any tax on the day of the move, and is there any way to reduce or delay the payment of the tax?
What form do I fill out to defer tax on my RRSPs if I’m a US citizen or a US resident?
Hi Taylor,
Normally, the IRS tax individuals on the income earned in their RRSP accounts on the date of the move. However, individuals can file a form to defer the tax on those RRSP accounts until withdrawal.
On the day of the move, the value of your RRSP will most likely consist of 1) contributions 2) realized income (dividends, interest and capital gains on investments sold) 3) and unrealized income (unrealized gains on investments). On this day, the IRS will not tax the values of (1) and (2) but will tax (3). An example will be provided later.
Answer continued in the next comment:
Taylor – Continued
Subsequently, when withdrawals are made at a time after the date of entry, the taxation by the IRS on the withdrawals will consider what has already been taxed and what cannot be taxed.
Taxable withdrawals are calculated as follows:
Taxable income upon withdrawal = Value of RRSP on withdrawal – contributions (1) – realized income (2) – unrealized gains on the date of entry
Taylor – See Example
Taylor, a Canadian resident who holds a RRSP, becomes a resident of the US on September 1, 2013. The total value of her RRSP on the day of the move is about $200,000, broken down as follows: contributions of $60,000, realized income of $20,000, and unrealized income of $120,000.
The IRS will not tax the $60,000 and the $20,000 because they will be considered as principal. However, the IRS will tax the unrealized gains of $120,000. This is extremely punitive, but thankfully the US-Canada tax treaty allows the deferral of such taxation (details will follow).
Example continued in the next comment.
Taylor – Example Continued
Assuming the IRS taxes Taylor on September 1, the taxation of the RRSP at a later date, say December 31, 2013, will be different. If on that date, the value of her RRSP is $250,000, the taxation will be as follows:
Taxable income = value of RRSP on withdrawal – contributions – realized income – unrealized income on date of entry
Taxable income = $250,000 – 60,000 – 20,000 – 120,000
Taxable income = $50,000
Regards,
Allan Madan and Team
Hi Sue,
Thank you for your question. To obtain tax-deferral status on the RRSP held by U.S citizens and residents, they must file the Form 8891 for each year the RRSP is held. A separate Form 8891 is required for each RRSP account. It is to be filed annually with the U.S. individual income tax return.
Failure to file the form(s) will result in the RRSP becoming taxable in the U.S., and any income earned within the account must be reported as income on the U.S. tax return, even if no withdrawals are made from the account.
Feel free to contact us if you have any more inquiries.
Regards,
Allan Madan and Team
Hi Allan and Team,
I would like to know if it is possible to contribute to an RRSP if I am a non-resident of Canada?
Nairobi
Hi Nairobi,
Any individual who has “earned income” that is subject to tax in Canada may contribute to a RRSP. For non-residents, “earned income” consists of only Canadian employment income and Canadian business income.
Regards,
Allan Madan and Team
Hi, Allan:
Do you do crossborder tax filing for canadians in the US who still prefers to keep ties to Canada?
Thank you.
Hi Suesan,
Thank you for your question. We do prepare tax returns (U.S. and Canadian) for Canadians in the US.
Please give us a call at 905-268-0150 so we can discuss your service requirements in greater detail.
Regards,
Allan Madan and Team
I currently have a balance owing under the Home-buyers Plan. How will the Home Buyers Plan affect departure tax in Canada?
Hi Al,
Prior to emigrating from Canada, you will be required to include in your income the outstanding balance of the Home-buyers Plan less any amounts that were repaid within sixty days after becoming a non-resident of Canada.
Regards,
Allan Madan and Team
Hi,
Since I’m reporting my RRSP on form 8891, do I also have to disclose the information on FBAR?
Hi Silva,
Yes. The form 8891 is filed along with a U.S. Personal Return and the FBAR is filed separately from the return. Therefore, you will have to report your RRSP information on both forms.
Regards,
Allan Madan and Team
When I relocate to the US, what happens to my company pension plan (rpp)?
Hi Trevor
If you are temporarily being sent to the US, you will still be able to contribute to your Canadian RPP during your stay in the US and the US will allow tax deductions for the contributions you made, as long as you meet the following condition:
1) You were a Canadian resident and already participating in an RPP before the relocation.
Hello, great article.
In the fourth paragraph, what do you mean by “…if your RRSP withdrawal constitutes more than 90% of all of your worldwide income”?
Hi Chris,
When payments are made from Canada to non-residents, like RRSP payments, the Canadian payer is required to withhold a certain amount. The withheld amount is the non-residents final tax obligation, and they have no additional payment or filing requirements. However, some non-residents may be entitled to have a lower amount of tax withheld.
If the RRSP income is more than 90% of the worldwide income, then non-residents are eligible to receive non-refundable tax credits, which will reduce their taxes. This essentially means that you cannot be earning a significant amount of income outside of Canada, while receiving the RRSP. For example, if your annual RRSP income from Canada is $30,000, and your employment income from your home country is $10,000, you will not be eligible for these non-refundable credits because your RRSP income constitutes only 75% (30,000/40,000) of your worldwide income.
Regards,
Allan Madan and Team
Hi Allan,
I am residing in the US and I totally forgot to report form 8891 on my past 2 tax returns. What can I do?
Hi Huong,
You can file a Form 1040X – amendment and attach the form 8891.
Best Regards,
Allan Madan and Team
It is my understanding that a Canadian citizen who works in the US on a TN visa (therefore, considered a resident alien) and contributes to a 401K & Roth IRA is still allowed to contribute to an RRSP & TFSA. I also understand that he has to file tax returns for both countries. There is no intention of severing ties to Canada or emigrating at this point. How do you treat the tax shelters in this situation when filing?
Can I continue to contribute to my RRSP once I become a non-resident?
Hi Gokan,
Yes, you can continue to contribute to your RRSP if you have contribution room available. Your contribution room will not accumulate if you not have earned income (I.e.: employment income) in Canada.
Hi Susana,
Having a TN Visa does not automatically make you a US resident. Under the Canada – US tax treaty, your residency will be based on where your permanent home is. With that said, could you please specify what you mean by tax shelter? There are many different interpretations.
What is my tax implication if I withdraw from the RRSP?
When a non-resident of Canada withdraws from his or her RRSP, the bank will be required to automatically withhold 25% of the withdrawal as tax. When you report this income on your country of residence’ tax return however, you will be able to claim a foreign tax credit for that 25%.
One strategy you can look into is turning your RRSP into an annuity payments such as RRIF. For annuities, the withholding tax is reduced from 25% to 15%.
Best Regards,
Allan Madan
Hi, can the 1040 form be paper filed? If so, where do I mail it to if I live in Illinois?
Hi Bojan,
If you are enclosing a payment with the return, then mail to the following address:
Internal Revenue Service
P.O. Box 802501
Cincinnati, OH 45280-2501
If there is no payment included with the return, mail to the address indicated below:
Department of the Treasury
Internal Revenue Service
Fresno, CA 93888-0002
Best Regards,
Allan Madan and Team