Canadian Tax and Estate Planning

Word to the wise: if you haven’t already, start your tax preparations now as this tax filing season has just gotten a little more onerous thanks to the Canadian Revenue Agency’s new rules around foreign income. When Jim Flaherty announced the 2013 budget last March, he also took the opportunity to introduce more stringent reporting requirements within the Foreign Income Verification Statement or Form T1135. These requirements are part of the federal government’s heightened efforts to target international tax evasion on the part of Canadian residents hiding funds offshore. And it means getting very specific and detailed with respect to foreign holdings and what they are worth.

That said, the T1135 itself is nothing new. The requirement for Canadian residents to disclose foreign property holdings on the T1135 form has long been in place because the Income Tax Act taxes all Canadian residents on their worldwide income. To this point, however, compliance was incredibly simple. Tax filers simply had to report the value of the foreign property, the amount of income it generates and the continent where it’s located.

Now, the CRA wants the same type of detailed information that the U.S. Internal Revenue Agency requires of its U.S. citizens/residents when it comes to their foreign holdings outside the U.S. Of course, Canada and the U.S. are not alone in their efforts to protect their tax base. Since the financial crisis of 2008, countries around the world are looking hard at tax compliance and sharing information to help each other.

What does this mean for Canadians living in Canada with foreign holdings? In a nutshell, a lot more effort and time to be in compliance, which translates into increased compliance costs.

Here’s a breakdown of what you need to know:

• Who’s affected? Canadian resident taxpayers–and this includes individuals, corporations, trusts and partnerships–who own specified foreign property that cost more than C$100,000 in total at any time in the tax year have to file Form T1135. Even if you had a few specified foreign properties where the cost of each was less than $100,000, they would all still have to be reported on Form T1135 if the total cost of all the properties together was greater than C$100,000.
• Specified foreign property includes: funds (bank accounts, investment accounts) held outside Canada; shares of non-Canadian corporations (other than foreign affiliates); debt owed by non-residents (other than from foreign affiliates); interests in certain non-Canadian trusts; real investment property located outside Canada personal use property and real property used in an active business are exempt); and other types of foreign property such as intangible property (think intellectual property, for example–not used in a business) and certain rights under contract.
• What you have to disclose under the new rules: the description of the specified foreign property; the name of the country where the specified foreign property is located; the maximum cost base of the specified foreign property during the tax year; the cost base of the specified foreign property at the end of the tax year; the exact amount of the income or loss generated from the specified foreign property; and the gain or loss (if any) from the disposition of the specified foreign property.
• For corporations, the new reporting requirements for Form T1135 are applicable for taxation years ending after June 30, 2013. For individual taxpayers, the new form will be required with their 2013 Canadian personal tax returns. In the case of a partnership, it must be filed when the partnership’s return is due.
• Failure to file the T1135 by the tax-filing due date can result in substantial penalties ranging from $25 per day with a minimum penalty of $100 to a maximum penalty of $2,500. In the case of gross negligence, the penalty can be as high as $1,000 a month to a maximum penalty of $24,000. After 24 months, the penalty is 5% of the value of the specified foreign property.

There is one exclusion: If you received income that has been reported on a T3 or T5 slip from a Canadian issuer reporting the income earned from a specified foreign property for a particular tax year, then you don’t have to provide all the details on the new Form T1135 for that year. However, you still have to file the form to report the exclusion.

When it introduced the changes to the T1135, the CRA also extended the normal reassessment period for the income tax return from three years to six if the form is not filed properly and on time. This has the potential to be a big problem because it allows the CRA to look deeper and further back into tax filings.

This new form causes frustration for Canadian taxpayers, since Canadian financial instructions have their own reporting requirements with the CRA and may have already reported your transactions regarding your specified foreign assets to the CRA. This doubles the compliance burden to the taxpayer.

Another key frustration and cause for concern: If you have foreign investments in a foreign financial institution, depending on the country, they may not be able to provide the information now required on the new Form T1135

If you own foreign property and are required to file a T1135, be aware and prepare. Give yourself enough time to pull together everything you need to be in compliance and to file on time. If you have significant holdings, be sure to speak with an advisor who can help you deal with the complexity of the new form.

By Gordon Jessup and Frank Casciaro