How to properly calculate Foreign Tax credit on Canadian employer pension

[Wallace_n_Gromit]

My US spouse and I are both retired. I have been a US resident(green card) from Canada for over 5 years. Til last year, our taxes were simple since all the taxable income reported to IRS was US sourced--I did not work since coming to USA. Last year (I turned 50 in December of 2020) I first claimed my retirement pension from my old employer in Canada of 25 years.

Our 2021 IRS/USA marginal tax rate is 12% and our effective tax rate is approximately 7% (on AGI of $68,400US and taxable income of $43,200US, claimed the married standard deduction)

The 2021 NR4 I received showed:
Line 14: 39 – Superannuation or pension benefits – Periodic payment
Line 16: 14,312.xx (total annuity payments for 2021)
Line 17: 2,146.xx (15% taxes withheld by Canada Revenue)

Trying to figure out the Foreign Tax credit on my own using tax software, I was figuring an amount less than $400US. Even having a CPA do it managed to increase the foreign tax credit to $955US which is a fraction of the $1,712US ($2,146.xxCN / 1.254 -- 2021 IRS exchange rate) Canada revenue withheld.

The entirety of the Canadian Employer Pension is still taxed as pension income at my marginal tax rate of 12% ($14,312.xx / 1.254 *.12 = $1,370US)

I only got a partial foreign tax credit as the CPA calculated it ($1,370US-$955US=$415US still owing the US IRS)

The 2 amounts $1712US withheld by Canada Revenue and $415US still owing to US IRS create an effective tax rate of 19% on my Canadian employer annuity.

Does that look right? Perhaps the CPA didn't properly calculate the Foreign Tax Credit?

[Wallace_n_Gromit]

I turned 55 in December of 2020. I made a mistake on the original post. I don't think I have editing rights yet.

[nelsona]

Looks right.

As you are learning, your foreign INCOME is added to your income at your marginal rate, and the foreign CREDIT is limited to your effective rate. If your effective rate is less than 15%, you can't recoup the entire 15% paid in Canada.

You will almost never get 100% credit for the Cdn tax, unless and until your effective tax rate exceeds 15%.

[Wallace_n_Gromit]

That is an interesting and a significant notion about the effect that effective tax rates have on the amount of foreign tax credit you would be able to claim.

We plan on doing some substantial ROTH conversions from my spouses 401(k) over the next 3 years, which would increase BOTH our marginal tax rates and our effective tax rates.

You're saying that if the ROTH conversions would increase our effective tax rates over 15% that I would be able to claim the maximum allowable foreign tax credit? Intuitively, I did not realize that's the way it worked. I thought that, the more money you make the less the US tax system would allow you to deduct.

[nelsona]

But don't forget, your marginal rate will also go up, so you will still be paying more than the 15% you paid in canada. It may allow you however, to use up the extra unused tax from this year when you do raise your US income.

[Wallace_n_Gromit]

Thank you. Your feedback has been very enlightening.

[Wallace_n_Gromit]

One last thought...

Do US and Canadian Tax Treaty agreement(s) not factor into the Tax treatment of Personal Pension incomes? Social Security (OAS, CPP)?

[nelsona]

SS,CPP and OAS are only taxed in the country of residence, by treaty.
Not other pensions and annuities, which can be taxed in both the source country and residence country.