Planning for retirement can be an extraordinarily complex process, particularly when there are cross-jurisdictional issues like the Canada-US Tax Treaty. As a non-resident or expat, you will need to understand how each country taxes withdrawals in registered investment plans, such as the RRSP, TFSA, and other certain pensions as explained in this article.
Registered Retirement Savings Plan (RRSP)
An RRSP is a retirement savings plan that is registered with the Canada Revenue Agency (CRA). You or your spouse / domestic partner can make contributions to your RRSP. The last year you can contribute to an RRSP is before December 31, when you turn 71. You can contribute to an RRSP whereby your spouse or domestic partner is the beneficiary until the end of the year your spouse or domestic partner turns 71.
The benefit of an RRSP is that the contributions can be used to reduce your tax liability in the year in which the contributions are made. Any income you earn in the RRSP is generally tax exempt as long as the funds remain in the plan. However, once you receive payments from the plan, your current tax rate in that year applies to them.
Canadian Taxes on RRSP Withdrawals for Residents
Also, at the time of withdrawal, the bank / investment company withholds taxes as follows for Canadian residents:
10% (5% in Quebec) on amounts up to $5,000.
20% (10% in Quebec) on amounts greater than $ 5,000 up to including $ 15,000; and
30% (15% in Quebec) on amounts greater than $ 15,000.
Canadian Taxes on RRSP Withdrawals for Non-Residents
For non-residents of Canada, the withholding is 25% for RRSP lump sum withdrawals and 15% for periodic pension payments.
Treatment of PRRS in the USA
Previously, the IRS required Form 8891 to be filed to report contributions, undistributed earnings, and distributions received from RRSPs and RRIFs.
However, due to some changes in the law, it is no longer necessary to file Form 8891 and the person will be considered to have chosen the treaty for deferral.
Distributions from these accounts must be reported on your U.S. personal income tax return, as they would on your Canadian tax return. Foreign tax credit can be utilized when filing US taxes for the Canadian taxes paid.
Additionally, this policy change does not affect any other US reporting requirements that Americans with RRSP and RRIF may have to meet. For example, you may be required to file an Annual Foreign Bank and Financial Accounts Report (FBAR) and a Form 8938 Statement of Foreign Financial Assets if the value of your plans meets the relevant thresholds.
Registered Retirement Income Fund (RRIF)
An RRSP is required to become a retirement income option, like an RRIF, by December 31 of the year you turn 71. However, you have the option of converting your RRSP to an RRIF at any time before that date. RRIFs are similar to RRSPs in several respects; however, once your RRSP is converted to an RRIF, you are not allowed to make further contributions and you must make a mandatory minimum withdrawal each year.
The mandatory withdrawal amount is determined at the beginning of each year, using a calculation that uses your age and the market value of the assets in the account as of December 31 of the previous year.
RRIF payments are considered taxable income in the year they are withdrawn and are taxed at your current tax rate. You can make withdrawals as often as you like and you can withdraw more than your minimum annual amount.
An RRIF has the same withholding tax rates as an RRSP for withdrawals. For non-residents, the withholding rates are 25% for lump sums and 15% for periodic pension payments.
Treatment of RRIFs in the US
The US tax treatment for RRIFs is identical to that for RRSPs, so distributions must be reported on the US tax return.
Canada Pension Plan (CPP)
The Canada Pension Plan is similar to Social Security Benefits in the US All Canadian employed who are over the age of 18 must contribute a portion of their income to the CPP. Employers match the contribution of employees. For 2020 and 2021, the employer and employee contribution rate
Annual Maximum Contributory Earnings $55,200.00 $58,100.00
CPP Contribution Rate 5.25% 5.45%
QPP Contribution Rate 5.70% 5.90%
Annual Maximum CPP Employee/Employer Contribution $2,898.00 $3,166.45
If you contributed to both the Canada Pension Plan and the US Social Security, you may qualify for a Canadian or US benefit, or both, under the Canada-US Treaty on Social Security. This means that, In certain circumstances, you may choose to transfer the amounts paid to any of the programs to the jurisdiction of your choice.You can apply for and start receiving CPP benefits from age 60 to age 70.
In Canada, CPP payments are considered taxable income, and therefore the tax rate paid depends on your other income for the year. If you have income from other sources, you can choose to have federal income tax deducted from your CPP payment.
On the other hand, United States Social Security benefits that Canadian residents receive are only taxable in Canada. Canadian residents receiving US social security benefits must include 85% of those benefits when calculating their Canadian income. Full benefits are reported on the Canadian return and the non-taxable amount (15%) is claimed as a deduction from net income when calculating taxable income.
Treatment of Canadian pension plans in the US
The taxation of payments received from some Canadian retirement programs receives special tax treatment due to the income tax treaty between the governments of the United States and Canada.
How this income is taxed depends on the recipient’s state of residence, that is, Canada, the United States, or both. This special tax treatment extends to payments received from the following Canadian retirement programs: Canada Pension Plan (CPP), Quebec Pension Plan (QPP) and Old Age Security (OEA), but not Private Pension Plans or Annuities.
If the recipient is a US resident, these benefits are taxable in the United States only and are treated as US Social Security benefits for tax purposes. CPP payments are reported on Form 1040 or Form 1040A on the line that US Social Security benefits would be reported on.
If the recipient is a Canadian resident, these benefits are taxable in Canada only.
Old age security (OEA)
The Old Age Security Pension (OEA) is a monthly payment available to most people aged 65 and over who meet Canadian residency and legal status requirements. Unlike CPP, you can receive the OAS pension even if you have never worked.
OEA has a minimum recovery threshold $79,054 for 2020 and $79,845 for 2021 and, therefore, you must return a portion of OEA at a rate of 15% of net income. For July 2021 to June 2022 pay period, OAS clawback is triggered when your net income is $79,054 or higher and this income is based on your 2020 tax return. OAS clawback results in a reduction of OAS benefits by 15 cents for every $1 above the threshold amount and is essentially an additional 15% tax. Like the CPP, the OAS is taxable income, and no income tax is withheld unless requested by recipient
US treatment of the OAS
Per the US-Canada Tax Treaty, the OAS receives the same treatment as the CPP.
Tax-Free Savings Account (TFSA)
The TFSA is a flexible, registered savings vehicle that enables Canadians to earn tax-free investment income by contributing after-tax dollars. For 2021, Canadian residents, ages 18 and older, can contribute up to $ 6,000 a year to a TFSA. A TFSA can hold cash, mutual funds, GICs, and certain stocks and bonds.
While TFSA earnings are tax-free, unlike RRSP contributions, they are not tax deductible for income tax purposes. If you do not maximize the contribution in the current year, the TFSA allows you to roll over any unused contribution rooms. The full amount of withdrawals can be reimbursed to the TFSA in future years, however, re-contributing in the same year may result in an excessive contribution amount that would be subject to a penalty.
As of 2020, the total cumulative contribution for a TFSA is $ 69,500 and $75,500 for 2021
Treatment of TFSAs in the US
Canadian mutual funds held at TFSA are generally considered by the IRS as investments in a Passive Foreign Investment Company (PFIC), and must be reported by US citizens on Form 8621.
The TFSA can also be a part of foreign trust, from the US tax perspective, U.S. citizens with foreign trust must file IRS forms 3520A and 3520.
Again, if the thresholds are met, the TFSA should be included in your Foreign Bank Account Report (FBAR), as well as Form 8938 if relevant threshold is met.