My wife and I are both US citizens living in Canada, and between us we have both US and Cdn sourced income. I have both US and Cdn returns completed without FTCs, so I'm at the finishing stages.
I have a question about the order of preparing returns with respect to foreign tax credits. In previous threads this advice was provided,
"1 - You do each return with no accounting for foreign tax credits.
2 - Then you complete your Cdn one accounting for any allowed US tax from the preliminary US return.
3 - Then you do you complete your US one, using the the completed Cdn return. No other iterations."
Is this particular order the only way that it can be done, or can the order be changed around? In other words, can you switch #2 and #3 around? Can you complete your US return first based on the Cdn return that hasn't used the FTCs yet, and then complete the Cdn return lastly based on the completed US return?
It would be advantageous for us to do it that way. And since the advice suggests completing both returns without FTCs in the first pass, I suspect that the order that the FTCs are added can be switched around. Otherwise, why bother completing the Cdn return without FTCs if you never use the results that you get without FTCs. Why wouldn't you only complete the US return without FTCs, then do the Cdn return with FTCs, then the US return with FTCs? It seems pointless to prepare both returns without FTCs if you can only ever use the US return without FTCs.
By the way, this is my first post here, but I've been following the threads for a couple months now, and it is a really wonderful resource. Many thanks!
Can the order of returns with FTC be switched around?
Moderator: Mark T Serbinski CA CPA
No they should not be switched. The reason you prepare the 2 first with no FTC, is that it is the tax on these preliminary returns from which you extract the foreign tax.
The reason you prepare the Cdn one next is that Canada limits the US tax that can be claimed by US citizens to that of non-citizens, so a "final" US tax is never needed on the Cdn tax return, only the preliminary one. There is very little tax that Canada accepts: bascially tax on US dividends, and cap gains on US real estate, and employee wages; little else.
lastely, the US tax is done last, as US citizens, based on the tax that was 'rejected' by canada, get to then claim "re-sourced by treaty" income and the US tax from that.
The reason you prepare the Cdn one next is that Canada limits the US tax that can be claimed by US citizens to that of non-citizens, so a "final" US tax is never needed on the Cdn tax return, only the preliminary one. There is very little tax that Canada accepts: bascially tax on US dividends, and cap gains on US real estate, and employee wages; little else.
lastely, the US tax is done last, as US citizens, based on the tax that was 'rejected' by canada, get to then claim "re-sourced by treaty" income and the US tax from that.
After 20 years, I am severely cutting back on responses. Do not ask specifically for my help. There are a few others on this board that can answer most questions. All the best
Thanks for the reply Nelsona. It is greatly appreciated.
Your comments make a great deal of sense from a "general advice" point of view. That order of filing would definitely be the most appropriate course of action for most people.
I'm just wondering if there is a treaty or something that specifies that it has to go in that order, or if it would still be acceptable to go in the reverse order.
In our case, the only US-sourced income that we have is employee wages, so we don't have to worry about "re-sourced by treaty" at all. And we will pay less total tax if we were to complete the US return with FTCs first, and then the Canadian return with FTCs at the end.
So I'm wondering if it is acceptable to use whichever order of filing works out best, or if it strictly forbidden by law or treaty to do anything other than prepare the Cdn return first, followed the US return.
If it is forbidden to prepare the US return first, then Canada would always be getting the short end of the stick, because Canada would always be allowing greater US taxes to be claimed than were actually paid. It seems like any treaty regarding situations where FTCs are claimed in both countries would allow either order of filing to occur. Otherwise, Canada always comes out on the short end, and the US always comes out ahead. It seems odd that Canada would enter into a treaty that is guaranteed to always leave them on the short end of the stick.
But I have no idea what the actual treaty says about it, which is why I'm asking what the actual requirements are in terms of the filing order.
Your comments make a great deal of sense from a "general advice" point of view. That order of filing would definitely be the most appropriate course of action for most people.
I'm just wondering if there is a treaty or something that specifies that it has to go in that order, or if it would still be acceptable to go in the reverse order.
In our case, the only US-sourced income that we have is employee wages, so we don't have to worry about "re-sourced by treaty" at all. And we will pay less total tax if we were to complete the US return with FTCs first, and then the Canadian return with FTCs at the end.
So I'm wondering if it is acceptable to use whichever order of filing works out best, or if it strictly forbidden by law or treaty to do anything other than prepare the Cdn return first, followed the US return.
If it is forbidden to prepare the US return first, then Canada would always be getting the short end of the stick, because Canada would always be allowing greater US taxes to be claimed than were actually paid. It seems like any treaty regarding situations where FTCs are claimed in both countries would allow either order of filing to occur. Otherwise, Canada always comes out on the short end, and the US always comes out ahead. It seems odd that Canada would enter into a treaty that is guaranteed to always leave them on the short end of the stick.
But I have no idea what the actual treaty says about it, which is why I'm asking what the actual requirements are in terms of the filing order.
The FTC calc are always done BEFORE taking into account FTC. Thats how Canada wants it.
What do you care if canada gets the short end.
But whern you think of it, any FTC you would do in US, will not impact the US tax on the US wage, so your question is moot.
So it is not true that you will pay less total tax if you do it in the reverse order.
What do you care if canada gets the short end.
But whern you think of it, any FTC you would do in US, will not impact the US tax on the US wage, so your question is moot.
So it is not true that you will pay less total tax if you do it in the reverse order.
After 20 years, I am severely cutting back on responses. Do not ask specifically for my help. There are a few others on this board that can answer most questions. All the best
Thanks again for the reply. Just to simplify the response, I'll break your comments into 4 lines.
1 - Interesting point. I didn't realize that Canada always the calculation done BEFORE taking FTC into account, even if a tax amount was available to use AFTER taking FTC into account. Thanks.
2 - I don't care who gets the short end personally. I'm just interested in whether or not it is acceptable to use the reverse order if it is beneficial to do it that way. And it seems like any treaty agreement might allow either filing order to be used in order to avoid the requirement that one country always takes the short end of the deal. That's what I keep trying to ask - is it acceptable to do it the reverse order or not?
3 - No, but it WILL impact the US tax on the Cdn investment income that the US will charge us. I've run the numbers both ways, and it would save us a few hundred bucks to prepare the US taxes first, followed by the Cdn taxes last. Which is why I'm wondering if it is acceptable to do it that way.
Anyway, thanks again for your time. It is appreciated.
1 - Interesting point. I didn't realize that Canada always the calculation done BEFORE taking FTC into account, even if a tax amount was available to use AFTER taking FTC into account. Thanks.
2 - I don't care who gets the short end personally. I'm just interested in whether or not it is acceptable to use the reverse order if it is beneficial to do it that way. And it seems like any treaty agreement might allow either filing order to be used in order to avoid the requirement that one country always takes the short end of the deal. That's what I keep trying to ask - is it acceptable to do it the reverse order or not?
3 - No, but it WILL impact the US tax on the Cdn investment income that the US will charge us. I've run the numbers both ways, and it would save us a few hundred bucks to prepare the US taxes first, followed by the Cdn taxes last. Which is why I'm wondering if it is acceptable to do it that way.
Anyway, thanks again for your time. It is appreciated.
I think you are probably doing the US tax credit incorrectly.
You have Cdn-source income
You have US-source income.
when you do your initial returns, you are calculating the
A. Cdn tax on your US income,
B. Cdn tax on your Cdn income, -> fixed
C. US tax on your US income, -> fixed
D. US tax on your CDn income.
Which ever way you do the credits, you are only impacting 2 results.
Cdn tax on your US income, C reduces A
US tax on your CDn income. B reduces D
Reversing the order does nothing to change these figures.
You have Cdn-source income
You have US-source income.
when you do your initial returns, you are calculating the
A. Cdn tax on your US income,
B. Cdn tax on your Cdn income, -> fixed
C. US tax on your US income, -> fixed
D. US tax on your CDn income.
Which ever way you do the credits, you are only impacting 2 results.
Cdn tax on your US income, C reduces A
US tax on your CDn income. B reduces D
Reversing the order does nothing to change these figures.
After 20 years, I am severely cutting back on responses. Do not ask specifically for my help. There are a few others on this board that can answer most questions. All the best
Yeah, you may be right. You undoubtedly have more experience in this area than I do.
Anyway, here's an example of a situation. These are hypothetical made-up numbers, but they give an example that you can hopefully comment upon. For simplicity, let's just assume an even 1:1 exchange rate.
Let's say a married couple has income from both countries. One member has employment income from the US and some Cdn interest/dividend income. The other member has some Cdn interest/dividend income. Let's say the combined totals are $40k US income and $15k Cdn income.
Now we prepare both returns without any FTC. US tax (Fed,State,City,SS,Medi) comes to $7k, and Cdn tax comes to $6k.
If we prepare the Cdn return first with FTC, then because most of the Cdn income is with the low-income individual, that individual pays very little in tax. And the FTC wipes out all of the tax on US Income for the other individual. So total taxes paid are quite low in Canada. When we go to the US return next, there is only a minor FTC left to be used on the Cdn tax.
However, if we prepare the US return first with FTC, then the situation is different. Under US taxes, both individuals are treated as a combined union under MFJ. In that case, Cdn taxes paid by the couple are $6k. The percentage from foreign income (as suggested in Pub 514) is (6000 x (15000/55000) = $1.6k taxes on Cdn income.
This allows for a more significant FTC on the US return, which reduces US taxes paid. Even with the reduced US taxes paid, the FTC on the Cdn return is still enough to fully offset the US income on the Cdn return.
So in this case, the couple comes out ahead by applying the FTC to the US return first.
Now, if we treat the Cdn taxes paid separately by each individual, then it won't make much of a difference. But I read through Publication 514, and I couldn't find a single mention of having to treat each individual separately in a MFJ filing. It always references the combined totals of the total, never the individual totals.
So following the guidelines laid out in Pub 514 (Admittedly, I may have missed something, it is a long document - but I tried to be pretty thorough with it), this sample calculation I gave follows the rules for filing.
The only issue is that more foreign taxes will be claimed than were actually paid, but that will be a problem regardless of which order of filing is used. Whichever country is prepared first with FTC will always come out on the short end in this regard unless an iterative cycle is used where the returns are prepared over and over again with the new FTC numbers based on the recalculated taxes each time.
Anyway, any comments would be very helpful. Thanks.
Anyway, here's an example of a situation. These are hypothetical made-up numbers, but they give an example that you can hopefully comment upon. For simplicity, let's just assume an even 1:1 exchange rate.
Let's say a married couple has income from both countries. One member has employment income from the US and some Cdn interest/dividend income. The other member has some Cdn interest/dividend income. Let's say the combined totals are $40k US income and $15k Cdn income.
Now we prepare both returns without any FTC. US tax (Fed,State,City,SS,Medi) comes to $7k, and Cdn tax comes to $6k.
If we prepare the Cdn return first with FTC, then because most of the Cdn income is with the low-income individual, that individual pays very little in tax. And the FTC wipes out all of the tax on US Income for the other individual. So total taxes paid are quite low in Canada. When we go to the US return next, there is only a minor FTC left to be used on the Cdn tax.
However, if we prepare the US return first with FTC, then the situation is different. Under US taxes, both individuals are treated as a combined union under MFJ. In that case, Cdn taxes paid by the couple are $6k. The percentage from foreign income (as suggested in Pub 514) is (6000 x (15000/55000) = $1.6k taxes on Cdn income.
This allows for a more significant FTC on the US return, which reduces US taxes paid. Even with the reduced US taxes paid, the FTC on the Cdn return is still enough to fully offset the US income on the Cdn return.
So in this case, the couple comes out ahead by applying the FTC to the US return first.
Now, if we treat the Cdn taxes paid separately by each individual, then it won't make much of a difference. But I read through Publication 514, and I couldn't find a single mention of having to treat each individual separately in a MFJ filing. It always references the combined totals of the total, never the individual totals.
So following the guidelines laid out in Pub 514 (Admittedly, I may have missed something, it is a long document - but I tried to be pretty thorough with it), this sample calculation I gave follows the rules for filing.
The only issue is that more foreign taxes will be claimed than were actually paid, but that will be a problem regardless of which order of filing is used. Whichever country is prepared first with FTC will always come out on the short end in this regard unless an iterative cycle is used where the returns are prepared over and over again with the new FTC numbers based on the recalculated taxes each time.
Anyway, any comments would be very helpful. Thanks.
Well, it looks like you've decided to stop responding to my question just as I tried to provide an example that MIGHT show a case where the order of filing does matter.
I'm sure it wasn't your intent to do so - but your silence at this time has now left me even more confused than before.
Did you not respond to the example because:
1) My analysis was so very wrong that you didn't want to even take the time to comment?
2) My analysis was correct, so you didn't have anything to add to it?
3) You honestly don't know if the analysis is correct or not, so you didn't want to comment about something that you aren't sure about?
I've been doing Cdn returns for a number of years, but I've always used a tax preparer for the US returns because I didn't have the time to delve into the US stuff. My long-time tax preparer retired a couple years ago, and I wasn't happy with the guy I used last year - so I decided to try it myself this year.
This site has been a wonderful resource as I've tried to bring myself up to speed over the past 2 or 3 months. So thank you very much!
But in this case, you've simply left me more confused now by not responding.
My analysis may be deeply flawed - that wouldn't surprise me. But if it is wrong, would you mind taking a moment to comment on it, please? If nothing else, it would help to me learn and understand the process better (and probably some other people who have read the thread as well).
From the comments you did make in this thread, I assume that the answer to my original question is that either order of filing is acceptable. You never did come out and state that the Cdn return must be prepared first according to a treaty or law. But you did mention that it shouldn't matter anyway.
But my case seems (on the face of it at least) to be a case where the order would matter.
If nelsona doesn't want to comment, any comments from anyone else on my example would also be greatly appreciated.
I'm sure it wasn't your intent to do so - but your silence at this time has now left me even more confused than before.
Did you not respond to the example because:
1) My analysis was so very wrong that you didn't want to even take the time to comment?
2) My analysis was correct, so you didn't have anything to add to it?
3) You honestly don't know if the analysis is correct or not, so you didn't want to comment about something that you aren't sure about?
I've been doing Cdn returns for a number of years, but I've always used a tax preparer for the US returns because I didn't have the time to delve into the US stuff. My long-time tax preparer retired a couple years ago, and I wasn't happy with the guy I used last year - so I decided to try it myself this year.
This site has been a wonderful resource as I've tried to bring myself up to speed over the past 2 or 3 months. So thank you very much!
But in this case, you've simply left me more confused now by not responding.
My analysis may be deeply flawed - that wouldn't surprise me. But if it is wrong, would you mind taking a moment to comment on it, please? If nothing else, it would help to me learn and understand the process better (and probably some other people who have read the thread as well).
From the comments you did make in this thread, I assume that the answer to my original question is that either order of filing is acceptable. You never did come out and state that the Cdn return must be prepared first according to a treaty or law. But you did mention that it shouldn't matter anyway.
But my case seems (on the face of it at least) to be a case where the order would matter.
If nelsona doesn't want to comment, any comments from anyone else on my example would also be greatly appreciated.
You seem to be missin gthe point that the Cdn tax on your Cdn income is not affected by the FTC calculated on your Cdn return.
If you have US income on your Cdn return, the Cdn tax on THAT income is reduced by FTC, nothing else. So on your subsequent tUS return, you still get to use the same amount of Cdn tax against the same ammount of Cdn income.
If you wish to think of it thsi way, you calculate the FTC on each return based on the original returns you made without FTC.
So in your example, Pre- FTC you owe $5K to US for US income and $2K to US for Cdn income.
In Canada, you owe $4.5K to canada for US income and 1.5K for Cdn income.
I've taken out the split betwen spouses; this usually hurts the calculation by the way. They are prorated.
So, doing canada's first, you get to use the $5K against the 4.5 you owe, wiping out all Cdn tax on your US income. Your final Cdn bill is $1.5K
Doing you US return, you have 1.5K of Cdn tax to use against the US tax on your Cdn income. let's say it is all used. So you have a tax bill to US of $5 plus .5 = 5.5K
Let's do as you suggest, US first: you have 1.5K of Cdn taxes to use against the $2K you calculated. that leaves you .5 plus the $5 you owe for your US income: 5.5 to US
The Cdn return will still have $5K US taxes to use against the Cdn tax, and it will all be used up: 1.5K is your tax bill.
The toatl in both cases is $7K total tax.
The order does not matter in temrs of toatl tax, as I said earlier. The reason you do Canada's first is to adhere to the possible limits canada places ofn FTC in the treaty, which do not exist on the US side, but which are remedied when doing the US return.... last.
If you have US income on your Cdn return, the Cdn tax on THAT income is reduced by FTC, nothing else. So on your subsequent tUS return, you still get to use the same amount of Cdn tax against the same ammount of Cdn income.
If you wish to think of it thsi way, you calculate the FTC on each return based on the original returns you made without FTC.
So in your example, Pre- FTC you owe $5K to US for US income and $2K to US for Cdn income.
In Canada, you owe $4.5K to canada for US income and 1.5K for Cdn income.
I've taken out the split betwen spouses; this usually hurts the calculation by the way. They are prorated.
So, doing canada's first, you get to use the $5K against the 4.5 you owe, wiping out all Cdn tax on your US income. Your final Cdn bill is $1.5K
Doing you US return, you have 1.5K of Cdn tax to use against the US tax on your Cdn income. let's say it is all used. So you have a tax bill to US of $5 plus .5 = 5.5K
Let's do as you suggest, US first: you have 1.5K of Cdn taxes to use against the $2K you calculated. that leaves you .5 plus the $5 you owe for your US income: 5.5 to US
The Cdn return will still have $5K US taxes to use against the Cdn tax, and it will all be used up: 1.5K is your tax bill.
The toatl in both cases is $7K total tax.
The order does not matter in temrs of toatl tax, as I said earlier. The reason you do Canada's first is to adhere to the possible limits canada places ofn FTC in the treaty, which do not exist on the US side, but which are remedied when doing the US return.... last.
After 20 years, I am severely cutting back on responses. Do not ask specifically for my help. There are a few others on this board that can answer most questions. All the best
In reality, it is unlikley that all of the US tax will be used in the Cdn FTC calcs you make, by virtue of the split beteeen spouses.
Also in US it is unlikely that all you get 1to1 use of the Cdn tax, due to the intenal limits of form 1116 (you foreign taxes are crdeited at your effective rate, but your foreign income is taxed at you marginal rate)
but in any event your total tax done in either direction should be exactly the same, since the FTC does not change the local tax on the local income.
Also in US it is unlikely that all you get 1to1 use of the Cdn tax, due to the intenal limits of form 1116 (you foreign taxes are crdeited at your effective rate, but your foreign income is taxed at you marginal rate)
but in any event your total tax done in either direction should be exactly the same, since the FTC does not change the local tax on the local income.
After 20 years, I am severely cutting back on responses. Do not ask specifically for my help. There are a few others on this board that can answer most questions. All the best