In today’s globalized workforce, many individuals find themselves traveling across borders for employment opportunities. For Canadians who work abroad, or foreign nationals who work in Canada, understanding the intricacies of residency and income sourcing is crucial for compliant and strategic management of their tax obligations. In this blog, we detail the complexities regarding these concepts and explore how they impact internationally mobile employees’ tax situations within a cross border wealth management context.
Summary and Takeaways
Today’s increasingly mobile workforce creates many situations where taxpayers travel across borders to pursue employment opportunities. But where salaries, wages, and other forms of compensation are sourced determines how such income is taxed. That can make cross-border tax management especially complicated. That’s true whether you’re a Canadian working in a foreign country or a foreign national employed in Canada. This article provides important information to make cross-border income taxation easier to understand, and to help ensure full legal compliance in each country, while minimizing tax liability.
Key Takeaways
- Whether you are a factual resident, a deemed resident, a non-resident, or a deemed non-resident, your residency status determines what income is subject to Canadian taxes.
- Understanding how these different types of residency are defined is essential for navigating the maze of cross-border income tax rules and regulations.
- Canada’s Foreign Tax Credit applies the foreign taxes you pay as a credit against Canadian tax liability, to prevent double taxation.
- Non-Canadians who travel to Canada for work are typically taxed on services performed while they are actually on Canadian soil.
- Because tax rules can be complex and confusing, seeking guidance from an experienced cross-border tax professional is recommended if you have any foreign-sourced income.
Residency: The Key to Taxation
Canada’s Income Tax Act (ITA) ties an individual’s tax liability to their residency status. Whether an individual is a factual resident, a deemed resident, a non-resident, or a deemed non-resident, their residency determines which income of theirs is subject to Canadian taxation.
- Factual Resident: Determined using common-law principles and CRA administrative guidance and considering factors like dwelling places, dependants’ locations, visits to Canada, personal property, and social ties.
- Deemed Resident: A non-factual resident present in Canada for a cumulative 183 days or more within a calendar year.
- Non-Resident: An individual not meeting the conditions for Canadian tax residency.
- Deemed Non-Resident: A Canadian resident taxpayer who is also considered a resident in another country under that country’s tax laws.
For more information on Canadian tax residency, see our blog titled Planning a move to Canada? Understand Canadian tax residency rules.
Income Sourcing: Understanding the Basics
Income sourcing is critical in determining the amount of income taxable in Canada in order to prevent double taxation for residents earning foreign income. It applies to various types of income, including compensation and stock options.
Employment income is typically sourced between the different countries in which the employee physically provided the services that earned the income. Therefore, the location of the company that entered into the employment contract or the company for whose benefit the services were rendered generally does not matter. Two different methods are typically applied to determine the source of employment income:
- Time Basis: Income that is sourced based on workdays over a specified period. Suited to income earned equally over time (e.g., salary, bonus).
- Geographical Basis: Income that is fully sourced from a particular country and used for compensation solely tied to that country (e.g., housing allowance).
For stock options earned over multiple tax years, income is sourced based on the number of workdays spent in each country, from the date of grant to the date of vesting. Where the Canada-U.S. Tax Treaty applies, the taxpayer can choose to source the stock option income from the date of grant to the date of exercise, if that is more favorable.
Foreign Tax Credit (FTC): Preventing Double Taxation
The FTC is vital for Canadian residents with foreign-sourced income. It prevents double taxation by applying the foreign taxes paid as a credit against Canadian tax liability. The FTC is applied on a country-by-country basis and is limited to the lesser of the:
- Amount of foreign tax paid to the foreign country for the year, or
- Canadian tax otherwise payable on the foreign income sourced to that country.
Unused FTCs related to non-business income (including employment income) cannot be carried forward or back to another taxation year. To keep from having any unused FTCs, try to plan the incidence of taxation on the income so it occurs within the same calendar year in both countries.
Outbound Assignments
During an outbound assignment, the taxpayer goes to a foreign country for employment and may cease their Canadian residency. However, a non-resident taxpayer may still be taxable in Canada if they have Canadian workdays during the taxation period or receive employment income that pertains to duties performed while a resident of Canada (e.g. a bonus for prior year services).
Inbound Assignments
Prior to an inbound assignment, the taxpayer is a resident of a foreign country and will travel and/or relocate to Canada for employment purposes, potentially establishing Canadian residency during that year. The taxpayer becomes taxable on all of their worldwide income in Canada starting on the date of Canadian residency. For the part of the year in which the taxpayer is a non-resident of Canada, they are only taxed on Canadian-sourced income.
Foreign Business Travelers
Foreign business travelers to Canada are generally taxable regarding the paid services performed while they are physically present in Canada. However, tax treaties between Canada and the foreign traveler’s home country may allow the employment income to be tax-exempt in Canada. For example, Article XV(2) of the Canada-U.S. Tax Treaty states that employment income is only taxable in the country of residence when the following conditions are met:
- Host country source income does not exceed $10,000, or
- The traveler spends less than 184 days in the host country in any 12-month period (beginning or ending during the calendar year), and, the remuneration is not paid or borne by a resident of or permanent establishment in Canada.
An inbound business traveler to Canada from the U.S. should consider the treaty exemption in order to determine whether they will ultimately be taxable in Canada. An outbound business traveler from Canada to the U.S. should consider whether there will be U.S. taxation, in order to determine whether they can claim an FTC in Canada.
Conclusion
Navigating the complexities of residency and income sourcing for internationally mobile employees is essential to effectively managing tax obligations. Understanding these concepts allows individuals to optimize their tax positions, prevent double taxation, and ensure full compliance with both Canadian and foreign tax regulations. If you find yourself in an internationally mobile work arrangement, seeking guidance from a cross-border financial advisory firm like Cardinal Point can provide you with the expertise needed to navigate these intricate tax matters.