Proportional Taxation / Permanent establishment question

jaaron · Post by **jaaron** » Wed Dec 05, 2012 8:08 pm

Thanks for your article on the Fifth Protocol and Cross Border Business Transactions!

-I am a US citizen living in Canada, self-employed, and providing services to a US firm from my home in Canada.
-I am physically in Canada most of the year.
-Occasionally I will work within the US, either in-person with my client, or telecommuting while travelling for personal reasons. I have no home or office in the US.
-I bring in less than the earned income threshold.

I am getting mixed messages on how this situation is treated under the 5th protocol. Which is the correct interpretation?:

a) I have no permanent establishment in the US (eg I neither live nor maintain a place of business down there) - therefore there is no proportional taxation - 100% of my income is taxable in Canada and 0% is taxable in the US.

-or-

b) This used to be the case until the 5th protocol - now I've lost that blanket exemption and need to pay US tax proportional to my working time spent physically in the US (perhaps because my client is considered a permanent establishment?)

Bottom line, Should I be paying 100% of my taxes to Canada and claiming foreign tax credit (or earned income exclusion) in the US, or should I be paying ~90% of my taxes to Canada, ~10% to the US, and offsetting on either side with foreign tax credits?

nelsona · Post by **nelsona** » Thu Dec 06, 2012 1:17 am

Your income is considered Cdn sourced. of course, as a US citizen living in canada, it is reportable in BOTH countries, with US giving credit for the Cdn tax you pay.

You would need to spend 183 days in any 365-day period for your contract incoem to become US-sourced (that was the change, nothing else). The result would be the same, only some income tax would be credited in US and some tax credited in canada.

JGCA · Post by **JGCA** » Sun Dec 09, 2012 3:22 pm

You stated that you do not know about the earned income exclusion you can take on this self employed income for US purposes. If you took it you would not be able to claim any foreign tax credits in the US, so if this applies do not claim the foreign income exclusion. Also I do not know if it applies but your US client may have to withold tax since he is deducting it in the US as an expense then this certainly means you may want to claim this tax as a credit so do not take any foreign income exlusion or any witholding tax paid is not creditable if you have rtoom to claim the credit.

nelsona · Post by **nelsona** » Sun Dec 09, 2012 3:47 pm

Be careful, using FEIE does not prevent use of foreign tax credits. It merely means that one cannot use that excluded income towrds foreign tax creits.

Of coure all other foreign income (and its related ta) as still eligible ofr foreign tax credit treatnmnet.

JGCA · Post by **JGCA** » Sun Dec 09, 2012 5:21 pm

In this case it seems it would exclude it since the income in question was the self employed income and it all falls within the exclusion. Also my point on witholding tax if they claimed the exclusion you will not be credited for the witholding tax which I think will have to be considered.

nelsona · Post by **nelsona** » Sun Dec 09, 2012 10:26 pm

Huh?

You're getting mixed-up, mon vieux. The foreign tax would be the Canadian tax. If he excludes the income, then he owes no tax on it, thus the withholding would be refunded.

All tax withheld to the IRS, regardless of the source of income, is counted against IRS tax liability.

JGCA · Post by **JGCA** » Mon Dec 10, 2012 8:11 pm

So the IRS will refund him the witholding tax paid even if he excluded the earned income by using the earned income exclusion because he has no tax liability. Normally if you use it it denies you claiming a FTC but in this case its not a FTC its a witholding tax, I see the distinction , thanks