Over the past few years, it has become increasingly common for Canadian residents to offer consulting services, including as a self-employed consultant, to U.S. companies. The era of remote work has accelerated that trend, and if it appeals to you there are significant implications for working across borders – which require careful and strategic financial and tax planning. For example, you may be wondering:As a Canadian resident, am I eligible to offer consulting services to clients or companies in the U.S.?
Summary and Takeaways
Especially in recent years, with the trend toward remote work, many Canadian consultants offer their services to companies that are based in the USA. But there can be significant tax implications and reporting requirements for those who work and get paid across national borders. The good news is that strategic financial and tax planning can help to minimize or eliminate that tax exposure and simplify reporting – while ensuring 100% compliance with both U.S. and Canadian tax laws.
- One important determination to make in terms of taxation as a cross-border consultant is whether you are self-employed or you are legally deemed an employee of a U.S. company.
- Another key factor to identify is your legal place of residence, or the country where you spend the majority of your time in a given tax year – regardless of your citizenship status.
- There are also taxation and reporting requirement pros and cons to consider when deciding whether it is advantageous to operate as a sole proprietor versus forming a corporation to offer your services.
- This article helps to sort out those options to give you an informed understanding of how to best minimize your tax liability as a cross-border consultant.
- What are the cross-border tax reporting requirements if I am self-employed offering cross-border consulting services?
- Will I have to charge and report GST/HST for my consulting services?
- If required, what is the process to set up a GST/HST number with CRA?
- Is it advisable to set up a business structure for my self-employment? What does that look like?
- How does my immigration status affect this scenario?
These are just a few of the more common questions that may be raised if you want to do this type of cross-border work. The intent of this article is to provide expert insight and education about the specific cross-border tax and financial planning matters which relate to Canadian residents who are self-employed individuals who provide consulting services to clients or businesses located in the U.S.
The Canadian resident may be self-employed with an unincorporated sole proprietorship, or they may have a Canadian corporation, of which they are the only or main employee. Either way, the contracted work is offered by a Canadian business to a U.S. business. A U.S. Business is free to hire foreign contractors who provide services from their home country of Canada, on a fee-for-service basis – which is usually referred to as consulting fees. The Canadian consultant is therefore not entering into an employment relationship with the U.S. business, but the relationship would be defined as one between the Canadian, an independent contractor – and the U.S. company hiring them to perform services. This distinction is critical, because tax laws apply differently to independent contractors versus employees. So, the first step is to reflect on your Canadian business and make a determination of whether tax rules would define you as self-employed, versus engaged in an employee-employer relationship.
If you are self-employed as an independent contractor, then the next step is to determine your legal residency from the perspective of U.S. authorities. From the U.S. point of view a Canadian resident may be considered a foreigner, or if they are a U.S. citizen, they are considered a U.S. citizen living across the border in Canada. In other words, residency is established based on where you spend most of your time each year, whereas citizenship is based on what nationality you legally are. The U.S. definition of such status or classification not only applies to people but also to partnerships, corporations, estates, and trusts created under United States laws.
Per the Internal Revenue Service (IRS), a “foreign person” includes nonresident alien individuals, foreign corporations, foreign partnerships, foreign trusts, foreign estates, or any person who is not a U.S. citizen. This is an important distinction as it affects how income is reported from a U.S. company as well as the options related to the receipt of that income by those who are Canadian residents.
For example, if a Canadian resident deemed a U.S. person was offering consulting services to a U.S. entity, the U.S. business would need to report those consulting fees on a Form 1099-NEC. In other words, the income reported on the 1099 would be considered Non-Employee Compensation typically subject to self-employment tax paid by the independent contractor on their own tax return. On the other hand, if the Canadian resident were deemed a foreign person, the U.S. entity would need to report payments made to them on a Form 1042-S. The Form 1042-S is a year-end federal tax document provided to a non-U.S. resident alien who received income from a U.S. payor, even if the payment might be exempt from federal/state tax withholding due to a cross-border tax treaty.
Although the income is paid through a U.S. company, there would not be any withholding required of that U.S. business. The consulting fees would be sourced to Canada because the consultant and their business, reside in Canada. If, however, the services were provided within the United States, instead of from within Canada, the situation becomes more complex. The Canadian being paid would need to determine whether their business activities and presence in the U.S. created a Permanent Establishment under Article V of the Canada – US Tax Treaty. If it did, then the business profits, for tax purposes, would need to be allocated between the two countries. Furthermore, U.S. immigration implications would need to be considered in order to legally “work” in the U.S.
Let’s assume that you provide substantially all of your services from within Canada.
The CAD equivalent of USD earnings would be reported on the Canadian T1 as part of the gross income on Schedule T2125, Statement of Business or Professional Activities. To this is added the remaining income of the business from all other contracts, if there are any. Eligible expenses for the U.S. contract and from the business as a whole are deductible. The net income from the business is then included on the individual income tax return of the Canadian resident individual, regardless of their nationality. If the individual were also a U.S. person, their worldwide income would also be reportable and taxable on a U.S. tax return. Generally speaking, foreign tax credits for taxes paid to Canada would flow through to that individual’s U.S. 1040, mitigating the risk of double taxation.
Since the consultant in this example is considered a Canadian resident, careful consideration would be warranted regarding the proper income tax payment contributions to the Canada Pension Plan (CPP) and Employment Insurance (EI) contributions.
In the example above, income taxes for CPP and EI would not be withheld at the source, since it is business income. Income tax, CPP, and possibly EI, (minus any installment payments made throughout the year) would be due April 30th, even if the tax return of the self-employed person was not due until June 15th. The Canadian resident would also need to make quarterly CRA tax installment payments beginning the year following the year that self-employment commenced, in order to avoid tax installment penalties. Although installment payments are not required for the first year of self-employment, it would be prudent to estimate the Canadian income tax exposure, alongside CPP and EI contributions, and set aside sufficient cash for the eventual tax liquidity requirement needed once taxes are filed for that first year of self-employment. Late or insufficient installment payments in future years are charged interest that compounds daily at the prescribed interest rate, which is subject to change every few months.
The CPP (or QPP in Québec) is a social insurance plan funded via contributions from employees, employers, and self-employed individuals. Self-employed earnings over $3,500 and up to a maximum of $66,600 for tax year 2023 require an 11.9% income contribution rate, up from 11.4% in 2022. Therefore, the maximum CPP self-employed contribution for 2023 is $7,508.90 CAD.
The EI program provides temporary income support to unemployed workers while they look for employment, upgrade their skills, or take time off work due to illness, pregnancy, or specified care of others. Earnings up to the maximum insurable earnings amount of $61,500 for 2023 equate to an EI contribution rate of 1.63% in all provinces except Québec (1.27%). Therefore, the maximum EI contribution rate for 2023 is $1,002.45 for all provinces excluding Québec. Self-employed individuals are not automatically subject to the Employment Insurance regime. In order to be covered by EI, you first need to determine if you meet the eligibility criteria defined by Service Canada and then enter into an agreement by registering with the EI Program.
There are multiple methods for the self-employed individual to make quarterly tax payments (inclusive of CPP & EI) to the Canada Revenue Agency (CRA). The most convenient option is to pay online through one’s MyCRA Account and pre-authorize a debit from your Canadian bank account. Alternative mechanisms include the utilization of a debit or credit card, wire transfer, mailed payment, or payment in person at your financial institution or a Canada Post office.
In addition to Canadian self-employment tax and withholdings, it is also important to discuss the goods and services tax (GST) and harmonized sales tax (HST). The GST is a tax paid on most goods and services sold or provided within Canada. It is a value-added tax in that each entity required to collect GST from its customers may deduct the GST they paid to their suppliers before remitting the remainder to the CRA. In some provinces like Ontario, Prince Edward Island, Newfoundland, New Brunswick, and Nova Scotia, the GST is combined with provincial sales tax and called HST (Harmonized Sales Tax). The GST rate in provinces without an HST is 5%, vs. 15% in HST provinces (other than Ontario where it is 13%). Using the consulting example woven throughout this blog, the GST/HST considerations come into focus when income breaches a $30K threshold. At that juncture, the self-employed person has 29 days to file for a GST/HST business number. The easiest and most convenient method of registering is to call the CRA Business enquiries team, at 1-800-959-5525. For Québec one would need to call Revenu Québec at 1-800-567-4692.
It is also important to note that consulting services to a foreign entity are considered zero-rated supplies. This means that although the Canadian resident consultant is required to register for the GST/HST business number, the GST/HST rate applied to foreign contracts is 0%. This is because the service is considered exported. Therefore, neither GST nor HST is charged or collected, although submitting a quarterly or annual GST/HST return is still required. This begs the question, is there any beneficial reason to file the GST/HST return? The short answer is yes, due to input tax credits (ITCs) resulting from GST/HST paid on items the consultant utilizes that are considered business expenses.
Consider the example of a U.S. citizen residing in Ontario providing consulting services to a firm in California. The expenses and corresponding HST are as follows:
- New computer – $1,500
- Attorney fees – $6,000
- Tax consultation fees – $3,000
- Travel – $5,000
- Total Expenses = $15,500
- Total HST paid= $2,015
In this case, by filing the GST/HST return, there would be an input tax credit (ITC) of $2,015 refunded to this contractor.
Within the context of these circumstances, it is common to wonder whether it is more beneficial to incorporate your self-employed business in Canada or to remain a sole proprietor. By enacting the 2017 Tax Cuts and Jobs Act, the U.S. took significant steps toward creating a “territorial” tax regime for U.S. persons conducting business in a controlled foreign corporation (CFC). Needless to say, the benefits of incorporating one’s business in Canada can easily be negated by this complex tax regime imposed on U.S. persons. Rules related to Global Intangible Low Taxed Income (GILTI) and Subpart F income are very complicated and beyond the scope of this blog post. But generally speaking, U.S. persons should operate as sole proprietors in Canada unless their business entails the risk of personal liability. Even then, further consideration and careful exploration of whether that is the best route to take is strongly recommended – since everyone’s circumstances are unique.
The sole proprietorship is an unincorporated business owned by an individual. The sole proprietor claims all profits and losses, makes all business decisions, and assumes personal liability as there is no separate legal business entity. This is a good option for many Canadian residents who are providing consulting services to U.S. companies, unless their consulting income exceeds their lifestyle overhead and Canadian retirement funding mechanisms.
In that case, a Canadian Controlled Private Corporation (CCPC) could provide additional advantages for the non-U.S. person where retained earnings held within the CCPC can be invested. These earnings within the CCPC can grow on a tax-deferred basis until they are salaried out, dividends are paid, or a return of capital is taken. If the earnings are expected to remain and grow within the business, the benefit of tax deferment via incorporation is a notable advantage for Canadian residents who are not deemed U.S. persons. Be mindful to invest in your active business and to additionally create an investment portfolio. Passive investment income of a CCPC in excess of $50,000 annually will cause the Small Business Deduction to be clawed back. You may want to read our article on Canadian Business Owner-Manager Remuneration Planning.
In conclusion, there are significant considerations for those living in Canada to be aware of when contemplating self-employment opportunities in the United States. Each person’s circumstances are unique, whereas the knowledge and insight shared within this blog is generalized. To review your own specific cross-border tax and financial planning scenario and related options, please contact Cardinal Point.