IRA and Renouncing Citizenship

[aed11]

I am a dual US/CDN citizen in my 30s. I was born in Canada, worked for ~2yrs in the US (during which I contributed to a 401k that was rolled over into a rollover IRA), and currently work and reside in Canada. I am starting to plan for renouncing my US citizenship, and am having a hard time finding online advice on whether there is any benefit to withdrawing my IRA before or after renouncing. I understand that I don't necessarily have to withdraw my IRA, but it sounds like that is the cleaner approach so cut all tax ties to the US? I am currently on mat leave, so my net income this year is the lowest it will ever be until I retire, so for tax purposes, this is probably the year to do it - plus the exchange rate is advantageous these days. This is what I can piece together:
- withdraw now: pay US 10% early withdrawal penalty, pay US tax on the gains (may or may not be withheld at 30%), pay CDN tax on gains and get refunded by Canada for the US tax paid (but not penalty).
-withdraw after: ? seems a lot more complicated with withholding taxes etc, but is there an advantage?
Thanks!

[aed11]

Did a bit more reading just now and realized that it may be better to withdraw the money during a year when I have a higher net income in order to ensure that I have paid enough CDN taxes to get credit for all the US taxes paid.. will have to sit down and do some math on that one.

[nelsona]

Just to correct you on one matter to help make your decision : When you withdraw the IRA funds, you will pay US tax on the ENTIRE amount, and Cdn tax on the ENTIRE amount, with Canada giving credit for US tax. Not simply the gains.

If you are not intending to put these funds in an RRSP, then it should be done in a year where you have little income. The case where you would want substantial other Cdn income would be if you planned to put these funds in your RRSP.

You will be subject to graduated US tax when you file PLUS the 10% penalty (all of which is eligible for tax credit in Canada). The US withholding (not your final tax) will be 30%.

I presume you got US citizenship by marriage rather than by employment (since you spent only a little time working). There may be no advantage to renouncing if your are still married to a USC.

[nelsona]

The tax on this income will always be higher in Canada and you will always be able to use all the tax if you take this money as straight income. There is no tax saving strategy to lump-sum withdrawal other than having little or no other income.

If you want to "transfer" the money to an RRSP (complex with no real tax advantage -- just getting money out of US) then there is some strategies that have been described on this board.

[aed11]

Thanks for the reply and correction (duh). I have my US citizenship from my mom, my husband is CDN only. I never end up owing any taxes to the US, but it takes a couple days of my life every year to file my US taxes and last year I got a scare with a 20,000 penalty letter for late filing which they later rescinded, so I don't think its worth the risk anymore to keep it (although the fee is not easy to swallow either).

I only just realized shortly after writing these posts that transferring to an RRSP was even an option- but indeed seems even more complicated and from the sounds of it I'm not sure I'd ever have enough income to fully take advantage of that- the IRA is about $50k USD- my income is normally in the $150k CDN but this year will be around $60k. Your opinion then is that transferring to RRSP does not have much of a tax advantage?

So there is no advantage/difference to transferring the money before vs after renouncing citizenship, correct?

And just so I have the process correct, when I withdraw the money, the bank will withhold the 30%. Then when I file my US taxes, I will also pay the 10% penalty (can I pay this in advance to avoid interest or penalty charges, as I would not otherwise owe US taxes). I read something about submitting a form to reduce the 30% to 15%, or is that pointless because I will be able to get tax credit on all of it from Canada anyways? And to continue, I would then claim tax credit in Canada on the 30% + 10% penalty (nice to know you can claim the 10% too). Thanks!

[nelsona]

The withholding of 30% includes the penalty. This will not be your final ltax obligation: you will need to file a US tax return to figure out your US tax (should be less) and then you will use this on your CDn return.

[aed11]

Thank you!

[aed11]

So I went ahead and withdrew the IRA funds this year, however the bank only withheld 10%, even though their form said 30% would be withheld for non-residents and they are fully aware that I reside in Canada. Am I right that this may be a problem as I would actually owe more than 10% at tax time and would then have to pay interest on the difference (even though I will get credited for this by Canada)?

[aed11]

Doing some more reading and it appears that the IRS does not impose an underpayment penalty if you had no tax liability for the previous year, which I didn't, so it seems I can wait until I'm doing my taxes to pay the remainder. Does that ring true to you?