Well, I was goosed awake this morning -- a sure sign that spring has arrived.
Perhaps I should rephrase that -- a flock of Canada geese woke me up, angry the lake behind our house was still covered with ice upon their arrival from down south.
It's another reminder this is the best place in the world to live. However, I have become aware lately that some Canadians can actually get grumpy through the winter. This has caused record numbers of them to look south at the tremendous real estate bargains in certain U.S. markets.
We'll talk at a later date about buying techniques and timing, but in the meantime, I wanted to remind you all that America has estate taxes (which Canada does not) and therefore one must be very cautious to avoid a big tax hit on death.
If there ever was an instance where you need to get specialized professional advice, this is it. I am simply introducing the topic, not providing you with advice on your specific situation. For more detailed information, buy a copy of The Canadian Snowbird in America, by Terry Ritchie (www.transitionfinancial.com).
This year, we have analyzed and reviewed various planning techniques for a number of our clients, and the best solution is not always the same for each one.
The U.S.-Canada Tax Treaty attempts to prevent double-taxation. A foreign tax credit is generally allowed in one country for income taxes paid in the other country. This applies to income from business, capital gains and other investment income and, most recently, to departure taxes paid on emigration from Canada. So you technically should pay tax on the same income only once.
The top U.S. estate tax rate is 45 per cent, based on the total value of the U.S. assets that exceed an exemption. Problem 1 with estate taxes is there is generally no offsetting Canadian tax credit, because we do not have an estate, or "value" tax. Rather, there is a deemed disposition of taxable assets at death here, with numerous deferral opportunities, particularly between spouses.
On U.S. estates, there is an exemption available (the "unified credit"). Problem 2 is that Canadians only get the benefit of part of the exemption, determined by the proportion of our U.S. assets to our worldwide assets. For example, if only 10 per cent of our worldwide assets are in the United States, then we only get 10 per cent of the exemption. (A U.S. citizen living in Canada gets full exemption.)
Problem 3 is the most frustrating for me, because it is a big unknown. The 2008 estate exemption is $2 million, will rise to $3.5 million in 2009 and all estate taxes will be eliminated completely in 2010.
The estate tax is to be reinstated in 2011, with a $1-million exemption and a 55 per cent tax rate, if no new agreement is crafted among U.S. legislators. Some people expect the 2009 exemption to stay put, while others hear rumblings about moving toward a Canadian-style capital gains regime.
If you own vacation property in the U.S. personally when you die, it is added to all of your other U.S.-situated assets (like U.S. stocks) for estate taxes. Here are some alternative methods of ownership.
Permanent life insurance -- the simplest, if you can qualify. Provides cash to pay the taxes on death.
A trust -- expertise is needed, as the settlor cannot be a trustee or beneficiary, the surviving spouse may need to pay rent after the death of the settlor spouse, the 21-year deemed disposition rule applies if it is a Canadian trust and trust tax returns must be filed if any revenue is generated.
A non-recourse mortgage (secured only by the property) -- reduces the U.S. estate, as only net equity is used. If borrowing for the purchase anyway, then this is worth looking at.
Co-ownership -- brings with it the complications of multiple owners, but can help reduce estate taxes.
Canadian partnership -- there's a risk the IRS will look through this, unless it elects to be treated as a corporation for U.S. purposes. The negative to that is it increases the tax rate on capital gains on a disposition prior to death.
As Rosanne Rosannadana used to say on Saturday Night Live, "If it's not one thing, it's another!" Make sure your U.S. tax adviser is willing and able to work through all the options and complications, to come up with the best solution for you.
David Christianson is a fee-only financial planner and investment counsel with Wellington West Total Wealth Management Inc. His column appears Fridays. You can e-mail him at dchristianson@wellwest.ca.
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