Tax Residency and Avoiding Double Taxation
Canadian residents are responsible for taxes on their worldwide income. Please see our other article for more information about residency status. A non-resident of Canada for tax purposes will only be responsible for taxes on income received from sources in Canada. However, due to Canada’s source-based taxation rules, Canadian residents who pay non-residents money or transfer property to non-residents may be subject to withholding tax, to be reduced by an application tax treaty. Persons who immigrate or emigrate in the year are taxed when they are considered a resident of Canada for that part of the year. Residency for tax purposes differs from residency in the immigration sense. Tax residency is a question of fact and depends on the specific facts of each case. Knowing what country you are a tax resident of is extremely important so that you are not subject to double taxation.
Tax Treaties and Avoiding Double Taxation
Tax treaties are conventions, agreements, and arrangements Canada negotiates with other countries for the purpose of avoiding double taxation for taxpayers who would otherwise be subject to taxation in both Canada and the foreign country. Another purpose of tax treaties is to prevent tax evasion.
While some countries may tax persons similar to Canada, that is, on their worldwide income based on residency, other countries may levy taxes based on citizenship (United States), or on a territorial basis for income from a source (such as France and Hong Kong).
As a result, a tax treaty is necessary to resolve situations where a single citizen is liable to tax in two or three different countries (if they are resident of one country, a citizen of another, and/or have income generated from another country). An analysis must be completed to determine where a taxpayer is actually resident so that he or she knows what country they are liable to pay tax in.
Tax Residency and Tax Treaties
Tax treaties contain a number of tests that are used to determine what country a person is a tax resident of.
The tie-breaker rules are found in paragraph 2 of the Resident Articles of most of Canada’s income tax treaties. They provide several tests for determining which country can levy its taxes in cases where the person may be liable to tax in two or three different countries. Subsection 250(5) of Canada’s Income Tax Act provides that if a person is considered a Canadian resident, then that person will be deemed to be a non-resident if a tie-breaker rule in the applicable tax treaty treats them as being a resident of the other country.
For breaking the “tie” between residencies, the tie-breaker rules generally provide a permanent home test. Where a permanent home (a permanent dwelling place the individual retains either owned or rented) is available to the individual in one country but not the other, the individual will be considered a resident where that permanent home is available. Therefore, if a dual resident only has a permanent home in one country, the individual will be deemed a resident of that country with the permanent home for the purposes of the tax treaty. The other tie-breaker rules will not have to be considered. If an individual has two permanent homes, one in Canada and abroad, then the next-tie breaker rule will need to be considered.
The Centre of Vital Interests test requires examining the individual’s personal and economic ties with each country to determine which is closest. They are similar to the common law test in determining Canadian residency for tax purposes. Significant primary ties include property ownership, where the common-law partner or spouse resides, and where dependants reside. Significant secondary residential ties include but are not limited to which country the individual’s bank accounts, social clubs, gym memberships, personal property are located. Other considerations are whether the individual has permanently severed ties with Canada (such as by cancelling provincial health coverage by advising of change of address) and the regularity and length of visits to Canada.
Tax Credits for Avoiding Double Taxation
In cases where double taxation may result from having the same income taxed at both the source and the country of residence, Canadian residents can receive a tax credit or exemption depending on the circumstances.
The tax situations involving dual residency can be complex and a taxpayer may need to speak with a tax specialist or lawyer to confirm their residency status. If you have questions about tax residency, double taxation, or tax treaties, contact us today!
This article provides information of a general nature only. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in this article. If you have specific legal questions you should consult a lawyer.