Own U.S. Real Property? Know What is Required for Tax Purposes

Many people have taken advantage of the real estate market drop in the U.S. and have purchased U.S. real estate for personal use or as a rental property, but many do so not realizing what owning this kind of property means from a tax perspective.

If U.S. real property is purchased solely for personal use then there are no tax filing requirements in the U.S. until the property is sold. However, if property is purchased for rental purposes then a U.S. tax return is required to be filed each year to report the net profit or loss realized on that rental property. Depreciation is a mandatory deduction in the U.S. so even if you purchase the property in one year but don’t actually earn any rental income until the next year, you must still file a U.S. tax return to report the purchase and claim any required depreciation. Losses from a rental property can only be claimed against other rental income/profits or can be carried forward for use in the year of disposition. 

U.S. withholding tax is required on gross rents received each year at a rate of 30%; however, form W-8ECI can be filed with the agent (the person collecting the rents) to elect out of the withholding tax requirements. Filing this election means that you are electing to treat the rental profits/losses as effectively connected¹ business income in the U.S. and must file a non-resident U.S. tax return each year and pay any necessary taxes at that time.

The disposition of U.S. real property is a taxable event that usually garners U.S. withholding taxes when the seller is a Canadian. A flat 10% rate is applied to the gross proceeds on the disposition by a foreign person unless certain circumstances exist to reduce the withholding amount or eliminate the requirement to withhold. If a gain results on the disposition, the tax is first payable in the U.S. and then a foreign tax credit is allowed in Canada to offset the tax Canada will apply on that same gain. The U.S. taxes 100% of the gain whereas Canada only taxes 50% of the gain. The tax rate applied to the also differs in both countries. In the U.S., a flat rate of 15% or 20% is applied to long-term gains and regular marginal rates are applied to short-term gains. In Canada, marginal rates are applied to taxable capital gains.

Angela D. Preteau, B.Comm. (Hons.), CA, CPA , works with Frostiak & Leslie Chartered Accountants in Manitoba and provides audit, accounting, and tax advisory services to clients with specialty in the area of U.S. – Canada taxation.  She is the author of Cross Border Taxation, a certificate course for professionals published by Knowledge Bureau. Angela is based in Manitoba and lives on the Canadian side of the border.

--

¹ To be effectively connected means that you are treating your rental operation as a business for U.S. tax purposes and there are no withholding taxes on business income.