I'm wondering how to handle Capital Gains Distributions from a Cdn mutual fund.
I found some conflicting statements from Nelsona on this matter when searching through this site.
1st quote (Apr 2006) "They are considered long-term cap gains however."
2nd quote (May 2008) "This seems correct. Remember that the definitions of distributions varies between contries, and IRS has no way of assuring itself that these distributions were capital gains or dividends (by IRS rules), so they treat it as income."
3rd quote (June 2008) "One thing though, I'm pretty sure Cdn mutual fund distributions that are considered 'cap gains' in canada, are considered ordinary dividends for IRS purposes."
The latter two statements agree with each other, but disagree with the first statement. And the June 2008 comment is less than certain with the use of "I'm pretty sure" preceding the comment.
I know that US cap gains distributions are to be treated as long-term cap gains, and the 1040 instructions refer to 1099-DIV box 2a, or "substitute statements" being acceptable for being able to check off the box on line 13 to avoid filing Schedule D and being able to treat the cap gains distributions as long-term cap gains.
Would T3/T5 forms be considered "substitute statements"?
Or do we know for sure now that Cdn Cap Gains Distributions must be treated as ordinary dividends on 1040?
It's really hard to find any solid information about this.
Canadian Capital Gain Distributions on 1040
Moderator: Mark T Serbinski CA CPA
Following up on the original post...
I found something interesting in the instructions to Form 1116 (Foreign Tax Credit).
Some quotes directly from the instructions to Form 1116...
"If you have foreign source qualified dividends or foreign source capital gains (including any foreign source capital gain distributions) or losses, you may be required to make certain adjustments to those amounts before taking them into account on line 1a (gross income) or line 5 (losses). "
"If you completed the Qualified Dividends and Capital Gain Tax Worksheet in your tax return instructions and you do not have to file Schedule D, you may have to adjust the amount of your foreign source qualified dividends and capital gain distributions. "
"Adjustment exception. If you qualify for the adjustment exception, you can elect not to adjust your foreign source capital gain distributions and qualified dividends. You make this election by not adjusting these items. If you make this election, you must elect not to adjust any of your foreign source qualified dividends or capital gain distributions. "
These quotes specifically refer to foreign capital gains distributions, and even refer to those distributions which can be used (if they are the only capital gains) to check off the box on 1040 line 13 which allows you to avoid having to file Schedule D.
And by checking off that box, you use the 'Qualified Dividends and Capital Gains Tax Worksheet' which automatically treats the capital gains distributions as long-term capital gains.
So these instructions seem to indicate that foreign capital gains distributions should in fact be treated as long-term capital gains.
Which means I now need to go back and amend my 2007 1040, because my accountant at the time treated several thousand dollars of distributions as short-term capital gains, costing me several hundred bucks. (He actually did that for several years before that as well, but refund credits can only be amended back 3 years).
I found something interesting in the instructions to Form 1116 (Foreign Tax Credit).
Some quotes directly from the instructions to Form 1116...
"If you have foreign source qualified dividends or foreign source capital gains (including any foreign source capital gain distributions) or losses, you may be required to make certain adjustments to those amounts before taking them into account on line 1a (gross income) or line 5 (losses). "
"If you completed the Qualified Dividends and Capital Gain Tax Worksheet in your tax return instructions and you do not have to file Schedule D, you may have to adjust the amount of your foreign source qualified dividends and capital gain distributions. "
"Adjustment exception. If you qualify for the adjustment exception, you can elect not to adjust your foreign source capital gain distributions and qualified dividends. You make this election by not adjusting these items. If you make this election, you must elect not to adjust any of your foreign source qualified dividends or capital gain distributions. "
These quotes specifically refer to foreign capital gains distributions, and even refer to those distributions which can be used (if they are the only capital gains) to check off the box on 1040 line 13 which allows you to avoid having to file Schedule D.
And by checking off that box, you use the 'Qualified Dividends and Capital Gains Tax Worksheet' which automatically treats the capital gains distributions as long-term capital gains.
So these instructions seem to indicate that foreign capital gains distributions should in fact be treated as long-term capital gains.
Which means I now need to go back and amend my 2007 1040, because my accountant at the time treated several thousand dollars of distributions as short-term capital gains, costing me several hundred bucks. (He actually did that for several years before that as well, but refund credits can only be amended back 3 years).
Of course, I don't know if there may or may not be some special US-Canada tax treaty provision which causes Cdn capital gains distributions to be treated differently.
It's damn hard finding any official information about this. But from the 1116 instructions, it seems as though foreign capital gains distributions should be treated just the same as those capital gains distributions reported on 1099-DIV forms. As far as I can tell, the 1116 instructions certainly didn't make any distinctions between the two.
It's damn hard finding any official information about this. But from the 1116 instructions, it seems as though foreign capital gains distributions should be treated just the same as those capital gains distributions reported on 1099-DIV forms. As far as I can tell, the 1116 instructions certainly didn't make any distinctions between the two.
For US tax purposes, capital gains distributions are treated as long-term gains.
From 'http://www.irs.gov/newsroom/article/0,, ... 34,00.html'...
"Capital gain distributions from mutual funds are reported to you on Form 1099-DIV, Dividends and Distributions. Capital gain distributions are taxed as long-term capital gains regardless of how long you have owned the shares in the mutual funds. If capital gain distributions are automatically reinvested, the reinvested amount is the basis of the additional shares purchased."
And then in the instructions for 1116, foreign capital gains distributions are specifically said to be treated the same as US capital gains distributions with respect to not having to file Schedule D and the use of the Qualified Dividends and Capital Gain Tax Worksheet, which also treats capital gain distributions as long-term gains.
Is there any actual official documentation saying that they need to be treated differently? Or is that just speculation? Because 1116 would seem to be the natural place to mention that foreign distributions need to be treated differently from domestic distributions, but the IRS actually seems to go out of their way to clarify that foreign distributions get the same treatment as domestic distributions.
I guess a phone call to the Philadelphia office for foreign tax issues is in order. (Although I know how strongly you disapprove of telephlunkies). I'll report back on their answer in a day or two.
From 'http://www.irs.gov/newsroom/article/0,, ... 34,00.html'...
"Capital gain distributions from mutual funds are reported to you on Form 1099-DIV, Dividends and Distributions. Capital gain distributions are taxed as long-term capital gains regardless of how long you have owned the shares in the mutual funds. If capital gain distributions are automatically reinvested, the reinvested amount is the basis of the additional shares purchased."
And then in the instructions for 1116, foreign capital gains distributions are specifically said to be treated the same as US capital gains distributions with respect to not having to file Schedule D and the use of the Qualified Dividends and Capital Gain Tax Worksheet, which also treats capital gain distributions as long-term gains.
Is there any actual official documentation saying that they need to be treated differently? Or is that just speculation? Because 1116 would seem to be the natural place to mention that foreign distributions need to be treated differently from domestic distributions, but the IRS actually seems to go out of their way to clarify that foreign distributions get the same treatment as domestic distributions.
I guess a phone call to the Philadelphia office for foreign tax issues is in order. (Although I know how strongly you disapprove of telephlunkies). I'll report back on their answer in a day or two.
In canada, foreign mutual fund distributions are treated as regular income, regardless of type, since CRA does not wish to 'analyze' each distribution to determine type.
The IRS takes an analoguos position, except that they allow that if you can prove that your distribution is cap gains, they will accept this.
Remember that your distribution was NOT reported on a 1099-DIV, it was reported on a Cdn form. So, their being 'qualified' is not proven.
As to calling IRS. make sure you call twice, and then flip coin on which answer is better.
The IRS takes an analoguos position, except that they allow that if you can prove that your distribution is cap gains, they will accept this.
Remember that your distribution was NOT reported on a 1099-DIV, it was reported on a Cdn form. So, their being 'qualified' is not proven.
As to calling IRS. make sure you call twice, and then flip coin on which answer is better.
nelsona non grata. Non pro. Please Search previous posts, no situation is unique as you might think. Happy Browsing 
Rememebr that US brokerages sell foreign investements, and thus distributions made by these investements are considered foreign dirstribtions and reported on 1099-DIV. IRS does distinguish between foreign dividends reported on 1099 and those that re not, since the US broker will report these correctly on 1099.
nelsona non grata. Non pro. Please Search previous posts, no situation is unique as you might think. Happy Browsing
Thanks for the comments nelsona. I wasn't expecting to hear from you again due to your self-imposed vacation from the site, so it was nice seeing you pop in once more with your insights.
Yeah, I realize that 1099 reports foreign dividends as well. And I realize that there is no way to be sure if Cdn cap gains distributions are all long-term, or if some of the cap gains might be from assets held by the fund for less than a year. That's why I had questions about how the CDN cap gain distributions should be handled in the first place.
But I realize that it would be the easiest thing in the world for the IRS to include a single line in their instructions for how to deal with cap gain distributions from funds sourced in a foreign country. Especially on the 1116 instructions, a form whose sole purpose is to deal with foreign income. They specifically discuss the instructions for foreign capital gain distributions in the 1116 instructions. And the IRS requires all US citizens around the world to report and pay taxes on their foreign income. So why can't they be bothered to include a single line in the instructions, "However, if your foreign capital gain distributions are from mutual funds which are sourced in a foreign country, then these cap gain distributions must be treated as ********".
Extremely simple - problem solved. The fact that they can't be bothered to do such a simple and helpful thing suggests that the IRS is trying to deceive people on this issue, are just incompetently lazy, or they really just don't have a hard and fast rule for this issue. Probably just ridiculously lazy and exceedingly unhelpful, but it's still very annoying.
In any case, the coin flip wasn't necessary. I called the Philadelphia office which is set up specifically for foreign tax issues. I called them twice and actually got the same answer both times. Both Tax Support people told me that I should treat the CDN cap gains distributions as long-term gains.
Surprisingly, both calls were answered in less than 5 minutes, so that was a pleasant bonus.
I called just before closing time last night (11 PM EST) and spoke to a lady who was polite, but not really familiar with the issue. She went through various IRS pubs with me (Pub 564 and Pub 901), reading through various sections. After reading through all the material, she decided that the documentation did not mention anything about treating foreign cap gains distributions differently, so they should be treated the same.
She basically did the same thing that I had already done myself. She tried reading through all the available documentation, and couldn't find anything to support treating the cap gains distributions as anything other than long-term cap gains. So she told me to treat them as long-term cap gains.
The second call (just as the office opened this morning) (6AM EST) proved far more interesting. I called back because I was hoping to maybe find someone who was actually already knowledgeable on the issue, instead of looking it up after I called. The gentleman who answered the phone said that he was unqualified to answer the question and that he would transfer my call to the "Tax Expert" who was on staff that morning.
The 'Tax Expert' knew exactly what I was asking, and jumped into an answer without having to go look up anything. As with the previous lady, he told me to treat them as long-term gains, but his answer was quite a bit more convoluted. It was a long conversation, and I'm not sure I fully understood everything he was saying because he was talking pretty fast. But it basically boiled down to him saying that as long as the country of residence matches the source country of the mutual funds, then the IRS will generally allow the cap gain distributions to be treated as long-term gains. If the country of residence does not match the source country of the funds, then the long-term gains treatment will be disallowed.
Anyway, take it for what it's worth (not much, I know). But it is two more data points in the equation.
Yeah, I realize that 1099 reports foreign dividends as well. And I realize that there is no way to be sure if Cdn cap gains distributions are all long-term, or if some of the cap gains might be from assets held by the fund for less than a year. That's why I had questions about how the CDN cap gain distributions should be handled in the first place.
But I realize that it would be the easiest thing in the world for the IRS to include a single line in their instructions for how to deal with cap gain distributions from funds sourced in a foreign country. Especially on the 1116 instructions, a form whose sole purpose is to deal with foreign income. They specifically discuss the instructions for foreign capital gain distributions in the 1116 instructions. And the IRS requires all US citizens around the world to report and pay taxes on their foreign income. So why can't they be bothered to include a single line in the instructions, "However, if your foreign capital gain distributions are from mutual funds which are sourced in a foreign country, then these cap gain distributions must be treated as ********".
Extremely simple - problem solved. The fact that they can't be bothered to do such a simple and helpful thing suggests that the IRS is trying to deceive people on this issue, are just incompetently lazy, or they really just don't have a hard and fast rule for this issue. Probably just ridiculously lazy and exceedingly unhelpful, but it's still very annoying.
In any case, the coin flip wasn't necessary. I called the Philadelphia office which is set up specifically for foreign tax issues. I called them twice and actually got the same answer both times. Both Tax Support people told me that I should treat the CDN cap gains distributions as long-term gains.
Surprisingly, both calls were answered in less than 5 minutes, so that was a pleasant bonus.
I called just before closing time last night (11 PM EST) and spoke to a lady who was polite, but not really familiar with the issue. She went through various IRS pubs with me (Pub 564 and Pub 901), reading through various sections. After reading through all the material, she decided that the documentation did not mention anything about treating foreign cap gains distributions differently, so they should be treated the same.
She basically did the same thing that I had already done myself. She tried reading through all the available documentation, and couldn't find anything to support treating the cap gains distributions as anything other than long-term cap gains. So she told me to treat them as long-term cap gains.
The second call (just as the office opened this morning) (6AM EST) proved far more interesting. I called back because I was hoping to maybe find someone who was actually already knowledgeable on the issue, instead of looking it up after I called. The gentleman who answered the phone said that he was unqualified to answer the question and that he would transfer my call to the "Tax Expert" who was on staff that morning.
The 'Tax Expert' knew exactly what I was asking, and jumped into an answer without having to go look up anything. As with the previous lady, he told me to treat them as long-term gains, but his answer was quite a bit more convoluted. It was a long conversation, and I'm not sure I fully understood everything he was saying because he was talking pretty fast. But it basically boiled down to him saying that as long as the country of residence matches the source country of the mutual funds, then the IRS will generally allow the cap gain distributions to be treated as long-term gains. If the country of residence does not match the source country of the funds, then the long-term gains treatment will be disallowed.
Anyway, take it for what it's worth (not much, I know). But it is two more data points in the equation.
Okay, so I've basically exhausted my efforts on this issue.
I actually went back through the past 15 years of my returns to see how my various accountants handled this issue. I had 3 different accountants/tax preparers (all specialized in cross-border returns who had to deal with cap gains distributions of mine at various times through the past 15 years). One of them treated them as long-term gains, one of them treated them as short-term gains, and one of them treated them as regular interest income. (Interestingly, none of them treated them as ordinary dividends, which is what nelsona suggests).
And I also came across a response from David Ingram to a question specifically asking about whether CDN cap gains distributions should be treated as cap gains or as ordinary interest/dividend income. David Ingram's response was "Treat a T3 or a T5 as a 1099-Div or 1099. convert the figures to US dollars if in Canadian and put in the proper place on Schedules B and D." So he's basically saying to treat the T3/T5 cap gain distributions the same as 1099 cap gain distributions on Schedule D, which means treat them as long-term cap gains. Again, not proof of anything, but Ingram has undoubtedly been involved with thousands of cross-border returns through the years, so if there was a major problem with treating them as long-term gains, I'm sure he would have run into that issue somewhere along the way.
Okay, final tally -- Capital Gain Distributions from a CDN mutual fund:
Pros:
1) Both IRS phone tax support agents that I spoke with said to treat them as long-term gains.
2) David Ingram answered an online question saying to treat them as long-term gains.
3) 1 of 3 of my past cross-border preparers treated them as long-term gains.
4) No one seems to be able to find any actual IRS documentation stating that they should not be treated as long-term gains, and the instructions that do exist in the 1116 form only talk about treating foreign cap gain distributions as long-term gains.
Cons:
1) nelsona says to treat them as ordinary dividends (and this con clearly carries a lot of weight, because he knows his stuff very well)
2) 2 of 3 of my past cross-border preparers treated them as short-term gains or regular interest income.
So what to do? There is no clearly defined policy position from the IRS on this issue (at least I surely can't find one documented anywhere), and a bunch of fairly knowledgeable people seem to all have different opinions on the issue.
For myself, I think I've decided to just split the difference. I think I'll start treating the distributions as long-term cap gains this year (and moving forward), but I won't bother going back to amend my previous returns to switch the distributions over to long-term gains.
I started this quest just trying to find some official documentation or instructions on this issue, and I seem to have failed pretty miserably in that quest. Oh well.
Even so, I appreciate the help and comments that you offered nelsona. Thanks!
I actually went back through the past 15 years of my returns to see how my various accountants handled this issue. I had 3 different accountants/tax preparers (all specialized in cross-border returns who had to deal with cap gains distributions of mine at various times through the past 15 years). One of them treated them as long-term gains, one of them treated them as short-term gains, and one of them treated them as regular interest income. (Interestingly, none of them treated them as ordinary dividends, which is what nelsona suggests).
And I also came across a response from David Ingram to a question specifically asking about whether CDN cap gains distributions should be treated as cap gains or as ordinary interest/dividend income. David Ingram's response was "Treat a T3 or a T5 as a 1099-Div or 1099. convert the figures to US dollars if in Canadian and put in the proper place on Schedules B and D." So he's basically saying to treat the T3/T5 cap gain distributions the same as 1099 cap gain distributions on Schedule D, which means treat them as long-term cap gains. Again, not proof of anything, but Ingram has undoubtedly been involved with thousands of cross-border returns through the years, so if there was a major problem with treating them as long-term gains, I'm sure he would have run into that issue somewhere along the way.
Okay, final tally -- Capital Gain Distributions from a CDN mutual fund:
Pros:
1) Both IRS phone tax support agents that I spoke with said to treat them as long-term gains.
2) David Ingram answered an online question saying to treat them as long-term gains.
3) 1 of 3 of my past cross-border preparers treated them as long-term gains.
4) No one seems to be able to find any actual IRS documentation stating that they should not be treated as long-term gains, and the instructions that do exist in the 1116 form only talk about treating foreign cap gain distributions as long-term gains.
Cons:
1) nelsona says to treat them as ordinary dividends (and this con clearly carries a lot of weight, because he knows his stuff very well)
2) 2 of 3 of my past cross-border preparers treated them as short-term gains or regular interest income.
So what to do? There is no clearly defined policy position from the IRS on this issue (at least I surely can't find one documented anywhere), and a bunch of fairly knowledgeable people seem to all have different opinions on the issue.
For myself, I think I've decided to just split the difference. I think I'll start treating the distributions as long-term cap gains this year (and moving forward), but I won't bother going back to amend my previous returns to switch the distributions over to long-term gains.
I started this quest just trying to find some official documentation or instructions on this issue, and I seem to have failed pretty miserably in that quest. Oh well.
Even so, I appreciate the help and comments that you offered nelsona. Thanks!