Understanding the Tax Ramifications of Investing in Registered U.S. Accounts

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The tax laws in the U.S. and Canada are entirely different. As a result, when people move from one country to another, they face a lot of trouble adjusting with these tax complications. For investors, understanding these tax ramifications, however, is extremely important while investing in U.S. accounts. To help you understand this better, here is an account of tax ramifications that investors would have to look out for while investing in registered accounts in the US.

Retirement Plans
Just like in Canada, there are several types of retirement plans that you can go for in the U.S. Usually, these benefits are classified into two major categories depending on how they are determined: the “defined contribution” and the “defined benefit”. In simple words, defined benefit is a form of pension and is calculated using a fix formula where the payments are made through a trust fund created for this specific purpose. On the other hand, the payouts for defined contribution plans are dependent on the performance of the investments and the contribution made towards these plans.

Types of Defined Contribution Plans
In the U.S., there are three basic types of contribution plans available: profit sharing, 401(k) and individual retirement account (IRA). In all these plans, the owner gets to decide which investments they wish to make from the funds they allot to these accounts. If you want to withdraw the money kept in any of these accounts before you reach the age of retirement, you can do so but you will be required to pay a penalty, which would be non-refundable and you can’t claim it on your Canadian income tax return.
If you have a 401(k) account that you want to move to Canada, you first need to roll the amount to an IRA. There are certain things that should be considered when doing this. First, you should make the transfer directly from one account to another. If you hold the amount with you, even for a very short time, the IRS will withhold 15% of it. Next, you should make the transfer before you move to Canada.
Usually, there are few brokers in both the countries who are willing to handle cross-border transfers between retirement accounts. As a Canadian, you can hold an IRA account managed by a U.S. bank; but still, if you are a non-resident, your investment options would be limited. Canadian residents living in the U.S. and having retirement plans in both the countries would not be required to report their IRA or 401(k) income to CRA. However, they would be required to report Canadian retirement accounts like the RRSP on their U.S. tax return.
In the U.S., another type of non-taxed retirement plan that can be availed is a Roth IRA. While these accounts are similar to other retirement plans, the only difference is that the tax break in these accounts applies when you are withdrawing the funds during your retirement instead of when you are making the initial investment.
As a Canadian citizen, Roth IRA will be counted as a pension for you. You will get tax exemption on the payments from these accounts in both the countries. Until a distribution is made from this account or it is substituted by another, Roth IRAs are non-taxable in Canada. However, a Roth IRA account will lose its status of a pension account if the Canadian resident contribute towards it. The only acceptable contribution is the rollover amount coming from another Roth IRA account. In case of any other contribution, the returns from that amount of contribution would be subjected to taxation in Canada.

Eric La CaraEric La CaraManaging Partner and Tax Practice manager for Capital Tax in Vancouver and Tokyo. Eric is a U.S. and Japan Personal & Corporate tax specialist with more than 15 years of experience in the area of cross-border structuring and taxation. Eric is charged with developing Capital Tax overall operations and strategic direction using the business and technical skills he has acquired during his professional career in Asia.