Written by Max Reed and Charmaine Ko This blog post addresses a very technical question about the new US repatriation tax. It will only be of interest to US tax...
Ben Franklin famously said that nothing in life is certain except death and taxes. One wonders, then, what Franklin would say about taxes due on death? US citizens living in Canada are subject to two different tax regimes on their death. For them, it would seem that Ben Franklin was doubly right.
Consider Rajit, an elderly single US citizen who lives in Montreal. His estate is made up of his principal residence worth USD $2 million, an RRIF worth USD $2 million, and a Canadian stock portfolio worth USD $2 million. When he dies his estate will be subject to a Canadian deemed disposition and the US estate tax.
The US estate tax is imposed on US citizens in Canada. The total value of Rajit’s estate will be used to calculate his estate tax liability. There is, however, a lifetime USD $5.43 million (the 2015 amount) estate and gift tax exemption. At death, the first USD $5.43 million of his estate is exempt from tax. The remaining USD $570,000 will be subject to the US estate tax.
Assuming a 40% tax rate Rajit’s estate will have to pay USD $ 264,000 of estate tax. Any taxable gifts Rajit made before his death would reduce the value of his exemption and may result in more estate tax. Let’s say Rajit gave USD $430,000 worth of stock to his son a few years ago. He would have used up USD $430,000 of his lifetime estate and gift tax exemption and only $5 million would remain.
Rajit’s estate will also be subject to the Canadian deemed disposition, meaning it will have to pay tax on the capital gains on all assets. To calculate the capital gain Rajit will have to subtract his basis in the assets (overly simplified — what he paid for them) from their current fair market value. Let’s say that Rajit paid USD $1 million for his stock portfolio which has doubled in value. The estate will have to pay Canadian tax on USD $1 million. Because it is his principal residence, Rajit’s house is exempt from the Canadian deemed disposition.
Death taxes in Canada and the US are different. Rajit may be able to use the Canada-US Tax Treaty to offset some of the tax in both countries. For dual citizens, strategies to reduce the tax payable at death have to work in both countries. Some common Canadian strategies don’t work in the US and vice-versa. If Rajit gives up his US citizenship before his death, he may not be subject to the estate tax. Rajit must be careful, however, to follow the proper process to avoid the exit tax imposed when Americans give up their citizenship, and to avoid being considered a “covered expatriate” (this is discussed in another column in this series). He should get professional tax help.
Taxes on death, to paraphrase Franklin, may be certain, but some planning may reduce the double taxation.