Over and above the filing of U.S. Income Tax Returns, U.S. citizens and residents (Green Card Holders) are required to file additional reports.
One of the key differences between Canada and the US tax systems is that the US has many more reports that ask questions about what you own, what it’s worth, and what income did you report from that investment.
Most of these additional forms are complex and require significant time and effort to complete. Exactly which reports depends upon what you own and what those assets are worth. Many of these additional forms are to report what you own outside of the U.S., not what you earned.
Below you can find information on each of the key filing requirements.
Form 8938: Foreign Financial Assets
This form is part of the ongoing efforts of the IRS to ensure that U.S. citizens report their worldwide income. On this form, taxpayers who live outside the United States with foreign financial assets of more than $200,000 (USD) on the last day of the year, or more than $300,000 at any point in the year, are required to report the income, deductions, and credits that are claimed on the various schedules on the 1040. If you file jointly, then the amounts are doubled.
As with other IRS requirements, the threat of significant penalties has been issued.
This test is applied on an aggregate basis. That means that if you have multiple accounts, you have to add them together to determine if you meet the reporting requirement. This is very similar to the calculations for the FBAR described previously.
What is a Specified Foreign Financial Asset?
The IRS defines Foreign Financial Assets as any account that you have with banks, credit unions, investment houses or other financial institution that holds stocks, bonds, securities, or any financial instrument or contract (e.g., gold certificates, GICs, exchange contracts, and so on).
This reporting requirement applies to all non-U.S. institutions. If you have an account with a U.S. investment house, but live outside of the U.S., you may be below the reporting threshold. Even if you are not below the threshold, the U.S. institution is not required to be reported. The reason is that you exclude all U.S. institutions from report.
Form 8938 is to be submitted with the tax return. Please bring the following information for each account that you owned, opened or closed during the year:
Name of the institution;
Address of the institution;
Account information such as type of asset(s) owned, currency of the asset(s);
If acquired/opened during the year, the date of opening/acquisition;
If closed or sold during the year, the date of the sale or closure;
The maximum value in the account during the year; and
The related tax information for each account, such as the T3 or T5 slips issued for that account. If there are trading summaries or agreements, showing purchases or sales, please include those.
Duplication of Effort – There is duplication between the 8938 and the Foreign Bank Account Reporting (FBAR) requirements. The IRS is supposed to be working towards reducing this, but there is no change announced.
Form 5471: Information Return for U.S. Persons Who Own a Foreign Corporation
Form 5471 is required for U.S. citizens who hold 10% or more of the total value of stock. This is a long and complex form that requires the reporting of significant amounts of information about the corporation and its financial results. We suggest that you review the form and the information required.
If you meet this filing requirement, we will require a copy of the most recent set of financial statements and Canadian tax return for the Company. We will also need to know your percentage of ownership of the Company. If you need help on this, please contact us to book an appointment with one of our U.S. tax specialists.
Form 3520(A): Family Trust
If you are a US person who is either the Trustee, Beneficiary, or both of a Family Trust, you will have to file Forms 3520 and/or 3520A each year. These are significant and complex forms that must be filed annually. Form 3520A is due by March 15th each year and therefore will likely require an extension to be filed to avoid any late filing penalties.
If you have a Family Trust, please contact our office early in the year to ensure that the appropriate extensions are filed on time.
Each year we will require:
A copy of the Trust’s financial statements for the year
A copy of the Trust’s T3 Tax Return, along with T3 slips filed, for the year
A copy of any resolutions for distributions made in the year
Registered Education Savings Plans (RESP) and Tax Free Savings Accounts (TFSA)
The IRS does not recognize the non-taxable nature of income received in the TFSA or an RESP. Therefore, all interest, dividends and capital gains must be reported on your 1040 each year. In order to report these accounts properly we ask that you obtain the income information in writing from your financial institution where these accounts are located.
U.S. persons who have these Canadian plans are also subject to special reporting requirements. RESP’s and TFSA’s meet the IRS definition of a Foreign Grantor Trust. A Foreign Grantor Trust is a “Trust” that is not constituted under U.S. law that the person filing taxes is considered to be the “owner” of. This means that the filing requirements for forms 3520 and 3520A (see above) have to be reviewed each year to determine if one or both of these forms need to be filed.
Again, these are significant and complex forms. They are time consuming and there can add significantly to filing costs each year. For many individuals, continuing to hold these special accounts should be weighed against the additional cost of filing each year.
Form 8621: Mutual Funds or Income Trusts
US persons who own non-U.S. mutual funds trigger another filing requirement that is commonly called “PFIC” (Passive Foreign Investment Corporation). When a PFIC is held in the year, then the taxpayer is required to file Form 8621. A separate form is required for each mutual fund held.
What is a PFIC?
A PFIC is a non-U.S. corporation that has 75% or more of its gross income consisting of passive income or 50% or more of the average fair market value of its assets consists of assets that produce passive income. Passive income includes, among other things, dividends, interest, rent, royalties, and capital gains from the disposition of securities.
In 2010, the Internal Revenue Service (IRS) issued a clarification that Canadian mutual funds are classified as corporations for US tax purposes and, as such, are subject to the PFIC rules.
When completing these forms, a decision is required for the basis of how to report income. These are as follows:
Mark-to-Market
Under the Mark-to-Market election, investors must, on an annual basis:
Report all distributions (interest, dividends, capital gains, etc.) as ordinary income; and
Recognize all increases/decreases to the value of the fund as a gain/loss on their holdings as if the funds were sold at the end of each year.
The Mark to Market election means that the U.S. person will pay a higher rate of tax as income such as dividends and capital gains are not given their usual lower rates. If there is a large unrealized gain held in the fund, you could end up paying a large amount of tax.
Qualified Electing Fund (QEF)
Under the QEF election, investors must, on an annual basis, include their pro-rata share of the mutual fund’s earned income for US tax purposes.
Generally speaking the QEF election will more closely resemble the Canadian tax rules as most mutual funds allocate out their income each year. But each fund should be assessed separately.
A good deal of the information that is required for completion of Form 8621 will have to come from your investment advisor. We strongly suggest that any U.S. person holding Canadian mutual funds contact their investment adviser to confirm what information they will be providing to their clients in order to allow you to file the PFIC report. If this is gathered prior to coming into our office, it will significantly help to reduce the cost of preparing these reports.
Why PFIC’s Are Such a Concern for U.S. Persons
There are several reasons that PFIC’s are a concern:
The additional cost to file your tax return each year. On the IRS instruction for the forms, they suggest that you can spend 11 hours record-keeping and 20 hours on preparing the form!
The potential to pay tax at a high rate to the US, and not receive any tax credits for those US taxes in Canada. Depending upon the income, it is possible to pay a 50% tax rate on some income.
The Impact of FATCA on PFIC’s
Prior to 2014, some U.S. persons did not file PFIC reports. The rules allowed for this to be deferred. Starting in 2014, the U.S. instituted a new law called “FATCA” (Foreign Account Tax Compliance Act). This is the law that forces countries and banks around the world to share with the IRS information on accounts held by U.S. persons.
FATCA makes PFIC reporting a must for non-U.S. mutual funds. The FATCA legislation requires “foreign financial institutions” to report on the assets held by U.S. citizens and U.S. permanent residents to the IRS. In Canada, this tracking and reporting started July 1, 2014. The likely outcome of this tracking is that the IRS will now have reports of holdings in foreign financial institutions.
Therefore the IRS will be able to cross reference other forms or reports to verify if PFIC investments have been reported properly.
As with other areas of U.S. tax, penalties for non-compliance can be quite substantial.
Requirements to Prepare Form 8621
Name of the PFIC (mutual fund)
Address, including street, city, province and postal code.
A description of the units held and number of units held at the end of the year.
Details of any units purchased or sold during the year
Details of distributions received in the year.
Value of the investment at the end of the year.
A copy of the PFIC annual Information Statement from the mutual fund
Exception to Filing: De Minimis Exception
A taxpayer is not required to file Form 8621 for a PFIC under the Section 1298(f) requirement if either the total value of all PFIC stock owned directly or indirectly by the taxpayer is less than $25,000 US dollars ($50,000 US dollars for married filing jointly) or if the PFIC is owned indirectly and its value is less than $5,000.
For More Information
If you have questions, please make an appointment with one of our U.S. tax specialists. In addition, the IRS has free copies of these forms available on their site – simply type the form number into Google. The form and related instructions are usually listed at the top of the search results.