Canadian business travelers who spend a lot of time south of the border should be aware of Canada Revenue Agency’s (CRA) efforts to crack down on tax evaders.
Critical Residency Issues
U.S. tax residency is based not just on U.S. Citizenship and green card status but also physical presence in the U.S.
Physical presence generally includes time you physically spend in the country, including days spent on business trips or attending conferences.
Under U.S. tax law one of the determinants of residency is the substantial presence test. Many mistakenly believe that they are safe as long as they spend fewer than 183 days away in one year.
In reality the test is much more complicated: You are considered a resident of the U.S. for tax purposes if you are physically present on at least 31 days during the current year, and 183 days during the three-year period that includes the current year and the two preceding years, counting:
Days spent in the U.S. because you are ill and unable to leave do not count.
If you are caught in this calculation you will be required to file a U.S. tax return reporting your world income, as well as a Canadian tax return. An exemption is available if you can establish a closer connection to Canada than to the U.S.
To claim closer connection exemption you must file Closer Connection Exemption Statement (IRS form 8840) each year on or before June 15 of the following year. If you don’t file this form you may lose the exemption.
Canada and the U.S share immigration entry and exit dates under the Entry/Exit Initiative of the Perimeter Security and Economic Competitiveness Action Plan. This information will help the IRS determine the number of days a Canadian spends in the U.S. This could result in Canadian business travelers having to pay U.S. taxes.
U.S. tax residency generally is based on physical presence in the country for any reason ranging from shopping excursions and holidays to business trips. Many Canadians are not aware that entering the U.S. for business on behalf of a Canadian employer or to attend conferences will count toward U.S. tax residency status. (See right-hand box.)
The increased risk of being liable for U.S. taxes significantly boosts the chances that Canadians may face an IRS audit. As well, travelers may have to file U.S. foreign compliance disclosures and report all their Canadian holdings ranging from bank accounts to ownership holdings in Canadian corporations or partnerships.
In addition to this increased scrutiny, the CRA plans to boost efforts to track down tax evaders who use aggressive tax strategies to hide money in tax havens or make questionable claims related to business travel.
In reality, there is nothing illegal about lowering the amount of taxes you owe, provided the methods used are legal. But when tax planning reduces taxes in a way that is not consistent with legal rules and regulations, the methods are considered to be tax avoidance. The CRA interpretation of tax avoidance includes transactions that:
This differs from tax evasion, which typically involves deliberately ignoring a specific part of the law. For example, those participating in tax evasion may under-report taxable receipts or claim expenses that are non-deductible or overstated. They might also attempt to evade taxes by willfully refusing to comply with legislated reporting requirements.
Tax evasion, unlike tax avoidance, can involve criminal prosecution.
Of course not all tax shelters are used to evade taxes. Under theIncome Tax Act, tax shelters generally include either a gifting arrangement or the acquisition of property where the tax benefits and deductions will equal or exceed the net costs of entering into the arrangement. A gifting arrangement involving limited recourse debt related to the gift is also considered a tax shelter. Generally a limited recourse debt is one where the borrower is not at risk for the repayment.
Tax-shelter promoters must have an identification number and provide the CRA with a list of investors or participants, including their names, social insurance numbers, and other prescribed information. This identification number allows the CRA to track the arrangements and the participants. All tax shelters are reviewed and, if they are considered potentially abusive, they are audited.
Of particular concern to the CRA, and arrangements you should avoid, are mass marketed gifting tax shelter arrangements. These are made for the primary purpose of avoiding taxes. They include schemes where taxpayers receive a charitable donation receipt with a higher value than what they paid. This can typically be four or five times their out of pocket cost. The CRA audits every mass-marketed tax shelter arrangement and no arrangement has been found to comply with the Income Tax Act.
If you have questions, consult with your adviser.