When I became friends with Darren (not his real name) well over a decade ago, he was between jobs.
He and his wife had a beautiful little family, but were struggling financially after his being on the wrong end of a failed business venture - not his fault. He pined for his old job as a labourer for a local utility.
I helped him secure a new job, which resulted in their family moving to another city and province. A few months later he decided the job wasn't for him and I must admit that I was a little disappointed, having stuck my neck out for him.
Next, he went into a partnership to develop real estate in a far-away place where none had been significantly constructed for decades.
He had almost no money, scraping together his share of the partnership by drawing from the good old "bank of mom" and so on.
In the thick of his first development project, I phoned him in the middle of the day to see how things were going. Again I was worried by what I heard: "This is the easiest job I've ever had."
Oh.
Several projects later, and after paying off his mom and his seed partners, he is now a multimillionaire.
Oh.
The entrepreneurial formula is not what us bankers-at-heart might at first think it is. It seems that it's really not so much about book knowledge, or grinding out a complex problem on paper and then implementing the strategy with precision.
It is more about a combination of very long hours, risk-taking, and becoming proficient at the right time and place.
Hey, hey, get out of my way...
One of the more interesting real estate projects many winter-worn Canadians have embarked on is the purchase of snow-bird properties in the warmer climates of the southern U.S.
This was especially enticing a few years ago when our Canadian dollar was relatively strong, while U.S. real estate was depressed.
Here we discuss some of the tax implications of this strategy.
Should I rent out my U.S. property?
Taxation of rental property income:
Even though you are a Canadian citizen and resident, you are subject to U.S. income tax on any rental income you receive from your U.S. real estate property. To comply with this Internal Revenue Service (IRS) tax reporting requirement, you can choose one of the following two options:
Option No. 1 - 30 per cent withholding tax on gross rents:
Have your gross rental income taxed at a flat 30 per cent. This option does not permit for deduction of any expenses. In many cases, this can be a very expensive option.
Under this option, you do not have to file a U.S. tax return to report this rental income. However, you will still need to report the net rental income on a Canadian tax return.
Foreign tax credits can be taken to eliminate double taxation, but it is possible that the full 30 per cent U.S. withholding tax will not be recouped.
Option No. 2 - net rental basis:
Elect to file a U.S. non-resident income tax return (Form 1040 NR), detailing both income and expenses. Your net rental income amount subject to U.S. tax will likely be substantially lower than the gross rental income amount subject to the 30 per cent withholding tax.
If electing to file on a net rental basis, then complete Form W-8ECI to avoid the 30 per cent U.S. withholding tax. Form W-8ECI needs to be submitted to your tenant or to a U.S. agent (not to the IRS).
Net rental basis - tax forms required and deadline:
If you choose to be taxed based on the net rental basis option,
then you will have to file a
U.S. tax return and Schedule E by
June 15 of the following year even if the net rental calculation results in a rental loss.
Any balance of tax owing must be paid to the IRS by April 15 of the following year to avoid late interest charges.
If the June 15 deadline is missed, then there is an additional 16-month grace period to file a return on a net rental basis. After 16-months, you will no longer be eligible to elect to pay on a net rental basis and the 30 per cent withholding tax on gross rental income (plus any penalties and interest) will apply.
For jointly-held properties, each party is required to file a separate tax return and report their proportion of the rental income and expenses.
In addition to your U.S. tax filing obligations, you will also need to report on your Canadian tax return in Canadian dollars the net U.S. rental income/loss based on Canadian tax rules.
In most cases, foreign tax credits taken on the Canadian tax return will alleviate potential double taxation issues.
As always, this article is not provided as individualized tax or legal advice. Please consult your own tax professional before proceeding with a strategy.
Mark Ryan is an advisor in Prince George with RBC Wealth Management, Dominion Securities (member CIPF) and can be reached at [email protected].
