Tax Considerations for Real Estate Investments by Non-Residents of Canada

Canadian income taxes are complex and the taxation of Canadian real estate depends on whether the use of the property is for a principal residence, an active business or as a rental property.  This article should be of interest to non-residents of Canada owning Canadian real estate or Canadian property managers managing property for their non-resident clients or relatives.

Principal Residence

If the purchase is used as a home and a principal residence as part of landing in Canada as a new immigrant, any gains on a future sale will not be taxed.  If the property was first used as a rental property and then changed to a principal residence, taxes will apply on any gains calculated from the cost on the date purchased to the fair market value at the date of the change in use.

Business Income 

The distinction is not always clear what is business income or rental income, however, it is important because the tax treatment is different.  Generally, the greater the size and extent of the rental properties and the time required for service and management, the greater the likelihood you are operating a business.

Non-resident corporations carrying on a business in Canada through (a) a local corporation, are taxed at the same rates as applied to Canadian corporations not eligible for the small business deduction or (b) an unincorporated foreign branch, will be taxed at 25% on profits, which is subject to a reduction by any tax treaty.  Distributions of dividends paid to foreign parent companies are subject to an additional withholding tax. 

Rental Income

A non-resident earning rental income has a choice of how the income is taxed:

(a)         pay 25% on the gross rents including recoverable expenses received OR

(b)          make an annual election on a prescribed form that must be filed to Canada Revenue Agency (CRA) by January 1^st every year to pay tax on the net rental income by filing a Canadian income tax return for the net rental income only.  If the tax return is filed late or not at all, the non-resident will be taxed 25% of the gross rents plus interest and penalty.

If the election is made by a non-resident individual, the individual will be taxed at graduated tax rates normally applicable to Canadian residents starting at about 25% up to $38,000CAN and reaching 39% to 48%, depending on the province, on the net rental income exceeding about $126,000CAN.  If the election is made by a non-resident corporation, the combined federal and provincial corporate income tax rate is approximately 29.5% to 35.5% on the net rental income, depending on the province.

Withholding Tax Procedures for Rental Income

A 25% withholding tax on the monthly rent collected is normally remitted to CRA.  However, if you and your appointed property manager/agent file the election form (mentioned in (b) above) by January 1^st, to pay tax on the net rent on a Canadian tax return, it is possible to reduce or eliminate the monthly withholding tax by including an estimated budget that shows little or no rental profit. The actual net rental income on the tax return will adjust the final tax calculation.

Sale of Real Estate by a Non-resident

The tax treatment of any gains on the sale of Canadian real estate depends on whether the gain is treated as a capital gain or business income.  Generally, if the non-resident is actively buying and selling real estate as inventory, then the operation is likely to be considered a business and will be taxed on the full amount of the gain.

If there is a capital gain, the normal Canadian tax rates will be applied to 50% of the gain for sales after October 17, 2000.  However, a non-resident is required to pay an estimate of the tax before the sale, an amount of 25% of the gain.  Upon payment, CRA will issue a Tax Clearance Certificate to the vendor.  If a purchaser does not receive this Certificate from the vendor, the purchaser through their lawyer is required to withhold tax and remit as tax to CRA 33.3% or more of the gross purchase price from the vendor!

Goods and Services Tax (GST)

Subject to a formula based on price, GST of 5% (13% HST after July 1, 2010 in some provinces) applies on the purchase and sale of (a) newly built homes that were never previously occupied and (b) any commercial property.  There is no GST on residential rent. There is GST for rent on commercial property if the annual gross rent received by the property owner is over $30,000 per year and he has a registered a GST number.   -   2010 February 4  

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    HISTORICAL:

TAXATION OF CAPITAL GAINS
Capital gains are any profits earned from the sale of assets that are capital property (for example, property not held for resale).

If you buy shares, bonds, mortgages, or property and sell them at a profit, that is usually a capital gain.

For disposition,  half of the resulting capital gains are taxable in Canada.

Capital gains of up to $500,000 on certain private Canadian corporation shares and certain farm properties may be eligible for a lifetime cumulative exemption from tax. In addition, the gain on an investment of up to $2,000,000 in certain private Canadian corporations can be deferred if the proceeds are reinvested in another eligible corporation within a specified time. 

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