Investment Options for a US Citizen Living in Canada

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cmason
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Joined: Tue Aug 21, 2012 4:51 pm
Location: Canada

Investment Options for a US Citizen Living in Canada

Post by cmason » Tue Aug 21, 2012 11:52 pm

Hi All,

As a bit of background, I am a Canadian citizen and my wife is a dual US/Canadian citizen – born in Canada. After obtaining a Social Security number and US passport last year, we have filed her US taxes (married, filing separately with myself as NRA). Thanks to everyone on the forums for posting extremely helpful information on how to fill out US tax forms, particularly the 3520/3520A for my wife’s TFSA… now closed!

Going forward, I have some questions about investment options, in particular on behalf of my wife. At this point we plan to spend the foreseeable future living and working in Canada, but we want to keep her US citizenship in case we would like to move to the US at some point in the future (> 15 years). We are in our mid 30s, so equity investments are fine.

I looked on this forum, but didn’t really see a post referring to investment strategies. If there are forum postings or articles you can direct me to, that would be helpful. Also, suggestions on our investment options are also appreciated. I also realize that over the course of our lives the tax treaty may change favorably or unfavorably. My thoughts are based on today’s rules.

The investment options as I see them, prioritized roughly from best to worst are:

1. RRSPs
Pros: Form 8891 allows my wife to defer tax on growth.
Cons: Limited room. I expect we will need more than our RRSPs to retire. Any other issues with RRSPs assuming we retire in Canada and never leave?

2. Canadian Citizen Invests (i.e., I do the investing on our behalf)
Pros: I can invest in Canadian ETFs/Mutuals or other investment vehicles since the IRS knows nothing about me. I’m assuming investments in my name are not subject to US estate tax (for our children), although I imagine she would be subject to some tax when she receives my estate (assuming I expire first!)
Cons: My wife will eventually make significantly more income than I will in the long term. I earn a reasonable income, but I believe according to the CRA, my wife can’t give me money to invest. However, in practice, I believe she can cover day to day household expenses leaving 100% of my income for investing.

3. Individual Securities
Pros: Capital gains/dividend tax applies in both Canada and US so Canadian tax on these investments will offset most (all?) US tax.
Cons: Potential lack of diversification that you could get with an ETF or mutual fund. Estate implications.

4. US ETFs and Mutuals
Pros: Diversification.
Cons: Exposure to US currency risk. Estate implications.

5. TFSA, Canadian Mutuals, Canadian ETFs, Interest
Pros: Very few. Diversification maybe.
Cons: US tax implications. PFIC rules. Estate implications.

For now we are trying options #1 and #2. If we accumulate more wealth, then I will probably look at option #3 and hopefully we have enough to diversify our investments through individual stocks. For our kids, we have an RESP in my name.

In conclusion, am I missing any other ‘secret’ investment vehicle? Are there any risks with our current strategy that I don’t see yet?

Thanks in advance for your thoughts.

Best regards,
Chris

MGeorge
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Location: Canada

Post by MGeorge » Thu Jan 10, 2013 1:47 pm

Hi cmason,

I'd like to offer a suggestion on investing in Canadian mutual funds and ETFs. I'm a US citizen living in Canada, and I previously wasn't aware of the PFIC reporting but have recent fixed this.

The only simple way to report non-registered PFIC income (non US mutual funds, ETFs, REITs, etc) is to do the "mark-to-Market election" on form 8621. Most will warn you that you might end up with a US tax liability due to:
1. missing out of the reduced US rates for dividends and capital gains
2. being forced to realize these gains on Dec 31 and not being able to offset them using Canadian foreign tax credits since you haven't realized the gain in Canada.

What I've found is that (1) isn't really a problem because of the way your Canadian taxes get allocated to offset the US ones. Form 1116 doesn't take the preferential Cdn rates into account - it does simple ratio.
(2) If you watch how the mark-to-market gain is going to work out at the end of the year, and you see a big gain coming, you can simply "realize" your Canadian mutual fund gains just before Dec 31. I've looked in to this, and most mutual fund companies will allow you to do a "switch" from one fund to another fund in the same class - with no load fees or sales charges.

While PFICs sound scary - you might find if you make up spreadsheet with a few scenarios you should be able to make some simple-legal moves to ensure your taxes are paid only to Canada.

I hope this is helpful.

nelsona
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Post by nelsona » Thu Jan 10, 2013 2:31 pm

The only caveats is that for your 1116 to result in no additional US tax, you must have other 'realized' passive Cdn income. Otherwise you have no Cdn tax to include on your passive 1116.

If all your Cdn income tax was for other types of income (wages, pension, etc), then you cannot simply use tax form those types of income against your US passive tax.

And, yes, you are supposed to account for the various tax rates. If you had a $100 cap gain, of which $50 is taxable, then you can only use the 50/net as your proportion of overall tax, not 100/net
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

MGeorge
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Location: Canada

Post by MGeorge » Thu Jan 10, 2013 4:13 pm

Hi nelsona,

I remember some time back I was trying to find out if one needs to take the Canadian 0.5 inclusion rate when determining foreign passive taxes paid on capital gains. Instructions for form 1116 and publication 514 simply show ratios - passive income/total taxable income x foreign taxes paid.
Form 1116 doesn't even seem to take into consideration the 15% capital gain tax in the US when splitting up line 44 tax into passive and general. Perhaps the line 18 adjustment is supposed to fix this, but only roughly by applying an adjustment factor.
Does this mean I can use the "grossed up factor" when apportioning taxes paid on Canadian dividend income? ;)

nelsona
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Post by nelsona » Thu Jan 10, 2013 5:04 pm

1116 is silent on how one determines how to apportion tax.

However it does state that it is the tax paid for the reported income. The Cdn tax paid on $100 of Cdn cap gain on your US return is not based on gross Cdn amounts, it is based on taxable amounts: your equation even says so.

For dividends, again, it is the tax paid. So if you report $100 of dividends on your US return, the Cdn tax you use is the portion of your Cdn tax that was due to dividends, gross-up and credit all taken into consideration.
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

nelsona
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Post by nelsona » Thu Jan 10, 2013 5:07 pm

As for how 1116 accounts for the US taxation of various cap gains, the instruction provide a detailed worksheet that divides up all the various rates; you may not be seeing this since the software usually takes tcare of it.
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

nelsona
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Post by nelsona » Thu Jan 10, 2013 5:12 pm

To put it simply:

If a person has $100K of wages and $100K of cap gains. His general 1116 gets 2/3 of the Fed/prov income tax (plus CPP and EI) and the passive 1116 gets 1/3 of the fed/prov.
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

MGeorge
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Location: Canada

Post by MGeorge » Fri Jan 11, 2013 9:50 am

OK - I tried your example (as an exercise for the student) using TaxACT. Sure enough - the software adjusts the numbers in 1116 (lines 18 and 1) so that it takes proportionately less foreign passive income tax to offset capital gains. I was sure that your example ($100k wages + $100k long term gains) would result in not having enough passive FTC to offset the US liability - but this wasn't the case. I guess the key take away is "do the line 18 adjustment when you have long-term captical gains and/or qualified dividends even if it isn't required (in some cases you have a choice)".

Back to cmason's question - as nelsona pointed out one should consider Canada's preferential tax treatment of capital gains when applying foreign tax credits - so my point about switching mutual funds to force a gain in Canada may not completely offset the mark-to-mark gain on the US return. It does depend on your situation.

cmason
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Location: Canada

Post by cmason » Thu Apr 04, 2013 2:20 pm

Thanks for the replies and suggestions. I appreciate the information!

MGeorge
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Joined: Fri Jun 22, 2012 9:23 am
Location: Canada

Post by MGeorge » Thu Apr 04, 2013 2:42 pm

Hi Cmason,

There is one option I've been meaning to try regarding US ETFs.
If you don't mind the 3520A/3520A reporting, one low tax option is to hold US ETFs in a TFSA. Since they know you're a US citizen, they shouldn't withhold any US tax. So, the only tax you'd be on the hook for, would be the US tax on qualified dividends/ordinary dividends, and the capital gains would still get long term treatment since they are US ETFs. They you'd avoid PFIC rules/taxation.

If you need more room, you could hold US ETFs in a non-registered account, but they you'd be paying top marginal Cdn tax rates on the US dividends.

Maybe, if Canadian investment exposure is desired, a mixture of canadian stocks and mutual funds might work. The mutual funds will call for PFIC reporting, but perhaps when combined with Canadian stocks, the foreign tax credits will null out the US liability on the Canadian investments. For my situation, I've been finding that the Mark-to-market election causes taxes just slightly above the Canadian Cap gain rates - but I havne't been doing this very long.

I'm interested in other views as well.

MGeorge.

MGeorge
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Post by MGeorge » Thu Apr 11, 2013 1:12 pm

I have something else to share on this thread.
I recently opened a brokerage account (as a USC in Canada) with Charles Schwab - it's called a "Schwab one internation account" and it is geared towards non-US residents.

This brokerage account has several $0 trade commissions on select ETFs. There was no account maintenance fee, I just had to come up with $10k to open the account. It's worth considering - it beats the pants off my Canadian based brokerage - fee-wise.

The nice thing about the Charles Schwab account: No FBAR, No 3520, no 8621s and many ETF choices with $0 trades. The downside is that any dividends get taxed at top marginal Canadian rates since I'm a resident of Canada.

Cheers.

nelsona
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Post by nelsona » Thu Apr 11, 2013 2:01 pm

You need to be sure that this is a US acount. Since US brokers are still not allowed to trade with Cdn residents, or This may simply be Schwab Canada (thru Scotia Mcleod) -- a foreign account.

Without further proof I would say that this is either FBAR-worthy, or runs afoul of Cdn securities rules.

US non-resident is not the same as Cdn resident.
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

MGeorge
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Location: Canada

Post by MGeorge » Thu Apr 11, 2013 2:35 pm

Thanks nelsona - ah! I just looked into my account - it is a US account for sure. I'll have to find out if I'm allowed to have this. Getting a bit worried now...

MGeorge
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Post by MGeorge » Thu Apr 11, 2013 4:05 pm

OK - I just checked with the Ontario Securities Commission and the Quebec "Autorite de marches financiers" and this Charles Schwab International Account is not registered.

Anyone reading this, please disregard my post from 1:12pm EST today.

From experience, Charles Schwab will allow a Cdn resident (USC or not) to open an account - but apparently they should not.

nelsona
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Post by nelsona » Thu Apr 11, 2013 5:14 pm

Exactly. Scwhab experimented in canada until 2002, were bought out, but apparently Chuck didn't get the memo.
Nelsona Non grata. Non pro. Search previous posts. Happy Browsing :D

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