Avoiding double taxation of US investment income

sarahp · Post by **sarahp** » Mon Apr 06, 2015 2:17 pm

Hi all,

I've tried to find information on this topic elsewhere in the forum, but I haven't been successful in searching for it - apologies if I am asking something that has already been answered.

My husband and I are US citizens living in Canada. We have some Vanguard mutual funds that we purchased prior to moving to Canada, and according to Vanguard it is perfectly fine for us to have them, just not to purchase additional shares. (As we all know, buying mutual funds as a US citizen resident in Canada is a whole different issue, but I have a pretty good handle on that one for now.)

My issue is that when we do our Canadian taxes, we report our income from Vanguard and are taxed on it (as we should be, in my opinion, since Canada is our tax home) but then when we do our US taxes, there's no way that I can find to claim the tax paid to Canada on that income. I have two questions:

1) Is my understanding of the foreign tax credit (form 1116) correct, that we can only claim the foreign tax credit for taxes paid to Canada on Canadian-source income?
2) How do we avoid having the US and Canada both tax us on this income? We have additional investments in Canada (bank accounts, GICs, and unfortunately mutual funds in a TFSA, so we jump through all the appropriate hoops for those) and can claim the foreign tax credit on passive category income for those, but I'm not sure how to handle the Vanguard income.

Thanks in advance for any advice.

Best,
Sarah

nelsona · Post by **nelsona** » Mon Apr 06, 2015 3:00 pm

if the income is US dividend income, you claim this on your Cdn return on the foreign tax line. It is supposed to be taxed in US
If it is US interst or cap gains (which is not supposed to be taxed by US if you live in canada and are not US citizen), you must use the "re-source by treaty" method on 1116. You essentially re-source sufficient of the interest/gains such that you reduce the US tax to zero for that income.

it is explained (with a table to figure it) in the foreign tax/1116 guides.

nelsona · Post by **nelsona** » Mon Apr 06, 2015 3:03 pm

So, you should have:
a 2555 and/or 1116 general for Cdn wages and Cdn pension income
a 1116 passive for Cdn investments
a 1116 re-sourced, for US-sourced income that should not be taxed by US, but is because you are citizen.

sarahp · Post by **sarahp** » Mon Apr 06, 2015 4:05 pm

Hi Nelson,

Thank you for your reply. I'm a US citizen (and naturalized Canadian citizen, too, but I think only the resident part matters for taxation). I do have the 2555 and 1116 general, and 1116 passive for Canadian investments. I also have dividends and capital gains from Vanguard. I did not understand that the third category (re-sourced by treaty) applied to us - thank you for the explanation. I will go read more about this.

Sarah

sarahp · Post by **sarahp** » Mon Apr 06, 2015 4:26 pm

One followup question... is there a more principled way to figure out what portion of our US taxes are attributable to a particular income item other than just calculating what we owe with and without that item included? That doesn't seem like the right way to do it, but i can't think of a better way.

Thanks,
Sarah

nelsona · Post by **nelsona** » Mon Apr 06, 2015 5:19 pm

The correc tway is to do your 2 tax returns without consideration for foreign tax credit (but with 2555 if you use it). then you apportion pro rata the tax vs. income. If you have 100,000 of gross income and $20K in taxes, the a $50 dividend has $5 dollars of tax ,etc.

It's the EFFECTIVE taxarte, not the marginal rate.

nelsona · Post by **nelsona** » Mon Apr 06, 2015 5:20 pm

sorry, $50 dividend has $10 taxes.

nelsona · Post by **nelsona** » Mon Apr 06, 2015 5:21 pm

... amd please use software to do 1116 and 2555

sarahp · Post by **sarahp** » Mon Apr 06, 2015 10:38 pm

Thanks, Nelson. I really appreciate your explanations. Once we apply form 2555, our remaining income is pretty low, and we have two dependents, so in some years we've not owed any US tax, but that has been changing over the past few years.

I am definitely using software. I switched from TurboTax to TaxACT this year and am finding TaxACT much easier to use. There are differences in how some data is entered between the two programs, though, so even though our tax situation and the relevant laws didn't change this year, I'm finding this more time-consuming than I expected. (Should have started earlier, per your signature. :) )