Sale of Personal Use Condo or Home in the United States
As some of you consider the sale of Personal Use Condo or Home in the United States or are dealing with it for your family, make sure you know how U.S. and Canadian taxes come into play. Having all the facts can help you keep more of your profit in your pocket.
Maybe you are ready for a change of lifestyle, or perhaps you simply want to cash in on the appreciation you have seen on your United States property. Whatever your reason for selling, it is important to know what is ahead so you can prepare for the process. It can get complicated, so make sure you work with a real estate professional who is knowledgeable about the issues and a cross-border tax or legal expert who can help make sure you do not end up in hot water with the IRS or CRA.
1. You will have to pay U.S. tax on your gains.
We will start with the assumption that you are selling your property, and this is not about the property being transferred to one’s spouse due to a death. This may not come as a surprise, as the requirements are similar in Canada: If you sell your second residence for more than you paid for it, you are required to pay tax on the difference, minus some expenses — known as capital gains tax.
What you may not know is that when you sell property in the U.S., your tax obligation falls to the U.S. government first — even as a Canadian resident.
Filing and paying U.S. taxes is a straightforward process – you need to report the gain (or loss) of your property on a U.S. Non-Resident Income Tax Return (1040NR see link for the form below). If you had funds withheld under FIRPTA (see point 4), then the tax owing will be deducted from that amount and you will get a refund for the balance.
If a Canadian resident sells real estate located in the United States, they are subject to a 10% or 15% (depending on the purchaser’s intentions) withholding tax of the gross selling price under FIRPTA (Foreign Investment in Real Property Tax Act). If the property is sold for an amount greater than $300,000 but less than $1,000,000 and the property is being purchased with the intention of being used as the purchaser’s residence, then the sale will only be subject to a 10% withholding as opposed to the 15% rate. The tax withheld will be offset against the U.S. tax liability on any gain realized on the sale and will be refunded if it exceeds the tax liability.
There are two exceptions to the withholding requirement which can reduce or eliminate the requirement.
- The first exception applies if the property is sold for less than U.S. $300,000 to a buyer who intends to occupy it as their principal residence. The gain on the sale is still taxable in the U.S. and a tax return (1040NR Form see Resource Section below) must be filed.
- The second exception is if a Canadian resident gets a withholding certificate from the IRS on the basis that the expected U.S. tax liability will be less than 10% or 15% of the selling price. The certificate will indicate the amount of tax that should be withheld by the purchaser rather than the full 10% or 15%. Ideally, the withholding certificate should be obtained from the IRS before the sale closes. To apply for a withholding certificate a Form 8288-B (see Resource Section) must be completed and sent to the IRS. The IRS will generally issue a withholding certificate within 90 days of submission.
The gain or loss on the sale of a U.S. real property by a non-resident is required to be reported on a U.S. Non-Resident Income Tax Return (1040NR). As a Canadian tax resident, the disposition of a U.S. property is required to be reported in Canada. If there is a gain on the sale, the U.S. has the right to tax the gain first and the U.S. tax liability can be claimed as a foreign tax credit against any Canadian and provincial tax on the sale.
2. You need to report your gains to the Canadian government too.
As a Canadian resident, you are subject to income tax on your worldwide income – so the sale of your U.S. property, and any gains or losses incurred, must be reported in Canada as well as the U.S.
3. The Canada-U.S. Tax Treaty is on your side.
Fortunately, the Canada-U.S. Tax Treaty is set up to avoid double taxation. Since the U.S. has the right to tax the capital gain first, that U.S. tax liability can be claimed as a foreign tax credit against your Canadian and provincial tax. Just remember, to qualify for the foreign tax credit, you must pay your U.S. taxes.
4. Foreign Investment in Real Property Tax Act (“FIRPTA”)
If you are a Canadian resident and selling real estate in the U.S., you are subject to withholding rules. These rules require 15 percent of the sale price be remitted to the IRS at the time of the sale. On the sale of a $500,000 property, that is a whopping $75,000.
This is not a tax, but a withholding against capital gains tax – basically, a “deposit” to ensure you meet your U.S. income tax obligations, as the IRS holds the funds until your U.S. tax return is submitted and processed and then refunds the balance.
The good news is, there are ways to reduce or eliminate this withholding requirement.
- The first exception relates to the cost of the property and the intentions of the buyer. If the property sells for less than $300,000 — and the buyer intends to use it at least 50 percent of the time for the next two years — then the withholding can be waived altogether.
- The second exception applies if you get a Withholding Certificate from the IRS. Your tax liability will be significantly less than the amount of withheld funds, as taxes are calculated on the difference between what you paid for your property (minus some expenses) and how much you sold it for, while the withholding rules and the deposit requirement of 15% and the deposit requirement of 15%apply to the full selling price.
If you expect your U.S. tax liability will be less than 15 percent of the selling price, you can apply for a Withholding Certificate. Provided you apply with enough notice to the IRS, your escrow agent can hold the 15 percent in escrow while the application is pending. The IRS typically processes the application within about 90 days, after which point the withheld funds will be released back to you, less any amount payable to the IRS. Typically, this is a much quicker route to getting those funds in your hands than waiting for the IRS to issue a refund.
The application for a Withholding Certificate is a Form 8288-B (see resource section below) and must be completed and sent to the IRS before closing.
A U.S. ITIN must be included on Form 8288-B or can be applied for by way of a Form W-7 with the Form 8288-B (see Resource Link below).
6. Planning is key
If you decide you want to apply for a Withholding Certificate, you will need to plan ahead — this application takes time. Plus, you need to gather information about the property, get the buyer on board and secure an escrow agent (not a realtor) who will handle the process for you.
If you do not take this step and funds are withheld at the time of the sale, you are out of pocket that 10 percent or 15 percent until you file your tax return, and the IRS calculates your refund. It is important to note that while you are entitled to a refund, you may be waiting for some time — while some Canadians report getting their money back after a few months, others have waited up to two years for their money.
Selling your U.S. property requires you to follow a few rules and make certain payments to the government. But done with enough time on your side, you can keep more money in your pocket and enjoy a smoother process from start to finish.
As always, it may be helpful to get professionals involved to assist you with the process. Having a real estate agent who is experienced in selling Canadian-owned property is a great place to start, and a tax expert or lawyer with cross-border expertise can be invaluable.
And just for clarity, unlike in Canada, almost all US Property is handled through an “Escrow Agent” who stands between lawyers and the real estate agent for both the Vendor and the Purchaser. The Escrow Agent secures the property and examines documents to make sure the terms of the sale are met on each end, thus serving both the buyer and seller in the transaction. When it comes to buying and selling a home, an Escrow Agent may be a title company.
7. Selling U.S. Real Property – Who Pays for What?
In Canada, there are costs associated with the sale of a real estate property and both the seller and buyer incur costs. This can include a real estate agent, lawyer, bank fees etc. In the US, the responsibility for the fees is slightly different. We have identified some of the costs in the chart below.
Selling & Buying Costs for Residential Properties
|Seller concessions -costs of appraisal, property repairs, decorating allowance/staging. (Deductible for taxes)
|Closing costs are an assortment of fees—separate from agent commissions—that are paid by both buyers and sellers at the close of a real estate transaction. In total, the costs range from around 1% to 7% of the sale price, but sellers typically pay anywhere from 1% to 3%, according to Realtor.com
|Realtor Fees – the average real estate commission in Florida is around 5% of the home’s price. 89% of homeowners use a Realtor in Florida.
|Purchasing a home warranty, though, can help alleviate some of the financial burden new homeowners face when a major appliance or home system goes out. Yes, you will pay for a warranty upfront, but the savings could be worth the added expense.
|An owner’s Title Insurance Policy essentially ensures your ownership rights to a property after you buy it. An owner’s Title Insurance Policy can be crucial for most homeowners, even though it may not be required like a lender’s title policy.
Whether the seller pays for the home protection plan and home warranty coverage or the buyer pays for it will depend on your local customs. It is normal for a seller to pay for the coverage in many locales because it is a seller benefit. The buyer will not be calling the seller after closing if something breaks.
8. How do I report the sale of US property on my Canadian tax return?
You must provide your IRS-stamped copy of Form 8282 to support the tax withheld. You will then file your Canadian tax return and report that capital gain on your return. The amount of taxes paid in the U.S. will be deducted as a foreign tax credit.
9. Is the sale of foreign property taxable in Canada?
Our Smartwills’ experts can help you avoid any penalties when selling your foreign property. The Canadian tax system is based on paying taxes on worldwide income. So, if a Canadian resident sells property abroad and makes a profit, he may be liable to pay the Canadian Capital Gains Tax.
The moral of this article, consult your financial, tax, legal and other professional advisors for advice on your individual situation. In particular, seek help from those that have had experience and know the rules in both Canada and the United States. And do it early!
Form 1040-NR if you are a non-resident alien engaged in U.S. trade or business, … About Form 1040NR-EZ, U.S. Income Tax Return for Certain Non-residents …
Form 8288-B is used to apply for a withholding certificate to reduce or eliminate withholding on dispositions by foreign persons of U.S. real …
Be sure to also read about Foreign Investments
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This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions.