Determining Tax Residency in Canada: Deemed resident vs. factual resident

Let’s begin with the law as stated in the Income Tax Act of Canada …

Taxation in Canada is governed by the Income Tax Act of Canada. Sections 1 and 2 of the Act read in part as follows:

Short Title

1 This Act may be cited as the Income Tax Act.

PART I Income Tax

DIVISION A Liability for Tax

2 (1) An income tax shall be paid, as required by this Act, on the taxable income for each taxation year of every person resident in Canada at any time in the year.

(This does NOT say that ONLY those “resident in Canada” are required to pay Canadian tax. In fact there are circumstances under which nonresidents of Canada are also required to pay different kinds of Canadian tax.)

Searching for the meaning of “resident in Canada” …

Tax Residency” is becoming an increasingly important topic. Every country has its own rules for determining who is and who is not a “tax resident” of that country. The advent of the OCED CRS (“Common Reporting Standard”) has made the determination of “tax residence” increasingly important.

At the risk of oversimplification, a determination of “tax residency” can be based on a “deeming provision” or decided by a determination “based on the facts”. Some countries base “tax residency” on both “deeming provisions” and a “facts and circumstances” test.

Tax Residency in Canada – “Deemed residence” or “ordinary residence based on the facts” …

According to the Canada Revenue Agency in Tax Folio S5-F1-C1, Determining an Individual’s Residence Status

Under the Canadian income tax system, an individual’s liability for income tax is based on his or her status as a resident or a non-resident of Canada. An individual who is resident in Canada during a tax year is subject to Canadian income tax on his or her worldwide income from all sources. Generally, a non-resident individual is only subject to Canadian income tax on income from sources inside Canada.

An individual who is resident in Canada can be characterized as ordinarily resident or deemed resident. An individual who is ordinarily resident in Canada will be subject to Canadian tax on his or her worldwide income during the part of the year in which he or she is resident in Canada; during the other part of the year, the individual will be taxed as a non-resident. An individual who is deemed resident in Canada in a particular year will be subject to Canadian income tax on his or her worldwide income throughout that year. In certain situations, an individual who would otherwise be ordinarily resident or deemed resident in Canada may be deemed not to be resident in Canada pursuant to subsection 250(5) and the tie-breaker rules of an income tax treaty.

Deemed resident of Canada – Spending more than 183 days per year in Canada:

Deemed residents of Canada – subsection 250(1)

Subsection 250(1) – overview

1.30 An individual who is resident in Canada on the basis of the factors discussed in ¶1.10 – 1.15 or ¶1.25 – 1.27 — that is, a factual resident of Canada — cannot be a deemed resident of Canada under subsection 250(1). Thus, subsection 250(1) does not have any application until it has been determined that the individual is not factually resident in Canada. The distinction between factual resident status and deemed resident status carries with it varying, but significant, tax consequences, due to the importance of residence status for provincial tax purposes and the possible impact of section 114 (see ¶1.32 and Interpretation Bulletin IT-262R2, Losses of Non-Residents and Part-Year Residents). Among other things, because an individual who is deemed to be resident in Canada under subsection 250(1) is not factually resident in Canada, he or she will not be resident in a particular province for provincial tax purposes (but see the discussion in ¶1.31 regarding the situation of deemed residents of Quebec).

This means that:

the individual will be required to pay the federal surtax in accordance with subsection 120(1), which may be higher or lower than what the individual would pay as provincial tax if he or she were resident in a particular province;
the individual will not be entitled to any provincial tax credits (refundable or otherwise) that might otherwise be available to the individual (for example, some provinces provide tax credits with respect to property taxes or rental costs associated with an individual’s primary dwelling place); and
the individual will not be entitled to any direct, tax-based, provincial benefits (for example, provincial payments in respect of dependent children or infirm family members).

1.31 An individual who resides in the province of Quebec immediately prior to leaving Canada, and who is deemed to be resident in Canada under subsection 250(1), may be deemed to be a resident of Quebec while abroad under the laws of that province. An individual who is required to pay both the Quebec provincial tax and the federal surtax may apply to the CRA for relief from the federal surtax at the time of filing his or her return.
Sojourners as deemed residents

1.32 An individual who has not established sufficient residential ties with Canada to be considered factually resident in Canada, but who sojourns (that is, is temporarily present) in Canada for a total of 183 days or more in any calendar year, is deemed to be resident in Canada for the entire year, under paragraph 250(1)(a). As a result, an individual who sojourns in Canada for a total of 183 days (or more) is taxed differently under the Act than an individual who is factually resident in Canada throughout the same period of time and has subsequently become a non-resident. In particular, an individual who is factually resident in Canada for part of a year is only taxed on his or her worldwide income for that part of the year, in accordance with the rules under section 114. An individual who is deemed to be resident in Canada pursuant to paragraph 250(1)(a) is liable for tax on his or her worldwide income throughout the year.

Deemed tax residency in the United States …

Deemed U.S. residency based on characteristics one chooses – spending time in the USA

Note that the United States has a similar “deemed residence” provision based on the number of days spent in the United States. It is called the “substantial presence” and is based on a “three year formula” and is discussed here.

Deemed U.S. residency based on immutable characteristics – a U.S. “place of birth”

The United States is the ONLY country in the world that imposes taxation based on the “immutable characteristic” of place of birth.

“It’s unjust. it’s inhumane. I didn’t choose where I was born!”

Imagine having been born in the United States. Having left the United States as a young child. Being a citizen and tax paying resident of another nation. Imagine then receiving a FATCA letter! Such is the plight of the Accidental American!

Resident or “ordinarily resident” in Canada:

The problem is that the terms “resident” and “ordinarily” resident are not defined in the Income Tax Act of Canada. The Canada Revenue Agency notes that:

Meaning of resident

1.5 The term resident is not defined in the Act, however, its meaning has been considered by the Courts. The leading decision on the meaning of resident is Thomson v Minister of National Revenue, [1946] SCR 209, 2 DTC 812. In this decision, Rand J. of Supreme Court of Canada held residence to be “a matter of the degree to which a person in mind and fact settles into or maintains or centralizes his ordinary mode of living with its accessories in social relations, interests and conveniences at or in the place in question.”

Meaning of ordinarily resident

1.6 In determining the residence status of an individual for purposes of the Act, it is also necessary to consider subsection 250(3), which provides that, in the Act, a reference to a person resident in Canada includes a person who is ordinarily resident in Canada. In Thomson, Estey J. held that, “one is “ordinarily resident” in the place where in the settled routine of his life he regularly, normally or customarily lives”.

1.7 In the same decision, Rand J. stated that the expression ordinarily resident means, “residence in the course of the customary mode of life of the person concerned, and it is contrasted with special or occasional or casual residence. The general mode of life is, therefore, relevant to a question of its application.” Justice Rand also went on to say that, “ordinary residence can best be appreciated by considering its antithesis, occasional or casual or deviatory residence. The latter would seem clearly to be not only temporary in time and exceptional in circumstances, but also accompanied by a sense of transitoriness and of return.” The meaning given to the expressions resident and ordinarily resident as stated by the Supreme Court of Canada in Thomson, have generally been accepted by the Courts.

1.8 To determine residence status, all of the relevant facts in each case must be considered, including residential ties with Canada and length of time, object, intention and continuity with respect to stays in Canada and abroad.

1.9 An individual who is ordinarily resident in Canada as described in ¶1.6 – 1.7 is considered to be factually resident in Canada. Where an individual is determined not to be factually resident in Canada, the individual may still be deemed to be resident in Canada for tax purposes by virtue of subsection 250(1) (see ¶1.30 – 1.36). In certain situations, an individual who would otherwise be factually or deemed resident in Canada may be deemed not to be resident in Canada, pursuant to subsection 250(5) (see ¶1.37 – 1.39).

So, what this all means is that …

If you are a factual resident of Canada then you cannot be a deemed resident of Canada.

That said, whether one is a “factual resident” of Canada may NOT be certain and is subject to a determination based on the facts. Interestingly one can imagine cases where the taxpayer argues that he is NOT a “resident” of Canada for the purposes of taxation AND cases where a taxpayer might want to argue that he is a “resident of Canada” (think dual citizen exemption to U.S. S. 877A Exit Tax) for the purposes of taxation. An excellent 2008 article (which illustrates certain timeless principles) by – “The Grand Old Man of Canadian Tax” – Mr. H. Arnold Sherman begins with:

THE CANADA REVENUE AGENCY CONTINUES TO CHASE DEPARTING RESIDENTS

By H. Arnold Sherman

H. Arnold Sherman is a chartered tax adviser, chartered accountant and sole shareholder of H. Arnold Sherman Professional Corporation in Calgary, Canada. Email: arnoldsherman@telus.net; website: www.arnoldsherman.com

Copyright © H.A. Sherman

A review of Canadian tax cases published over the last two- and-a-half years (since my last article published in the Tax Notes International issue dated October 24, 2005) indicates that the Canada Revenue Agency (CRA) has continued its policy of claiming that individuals who leave Canada are still Canadian residents for tax purposes. The result has been a number of reported tax cases where the taxpayer has challenged the CRA’s consequential tax reassessments.

Below, I discuss key cases and suggest action that a departing Canadian resident might take to minimize the risk of having to litigate. Cases where a non-resident claimed to be a Canadian resident are also discussed, as is a decision relating to Canadian provincial residence.

The article ends with:

CONCLUSION – WHAT CAN WE LEARN FROM THESE DECISIONS?

• When moving to a treaty country, the emigrant should pay particular attention to the first tie-breaker rule, which appears in Article 4 of almost every treaty, dealing with the availability of a permanent home. A permanent home available in the destination country and no such home in Canada is the key to a successful claim of non-residence in Canada. The former home in Canada should preferably be sold to an unrelated third party. Alternatively, it should be leased to a third party on terms which prevent the lessor from taking back possession of the property with only a few months’ notice. Selling or leasing the property to a family member is dangerous. It may allow the CRA to claim that the taxpayer had retained a permanent home available in Canada.

• It is much easier for a departing Canadian resident to claim non-residence when moving to a country that has a tax treaty with Canada. It may be worth considering a move in two stages – first to a treaty country and then, after an appropriate lapse of time, to the final planned (non-treaty) destination. The tie-breaker Article of the treaty requires careful study before any such action is taken; too fast a departure from the treaty country could cause problems.

• A treaty can be invoked only in the case ofdual residence. Consequently, a claim by the CRA that the taxpayer was not “resident” in the new treaty jurisdiction may be anticipated in many cases. That is why, even when a treaty claim is made, cutting ties with Canada and establishing ties to the new country require attention. Filing tax returns as a resident of the “new” country and paying tax there as a resident are prerequisites.

• Don’t play games! To file Canadian and US tax returns for the same year, both claiming to be a non-resident, is asking for trouble. The CRA can obtain a copy of the taxpayer’s US return by asking the IRS for it, under the exchange of information provision in the Canada-US Tax Convention. The same comment applies to other treaty countries.

• As noted above in my comment on the Hauser and Laurin cases, do it right! Important points to watch include cancelling Canadian provincial health insurance coverage, closing Canadian bank accounts, and cancelling Canadian credit cards and driver’s license. It is unwise to retain a Canadian mailing address after leaving
Canada. Investment management should not remain in Canada.

• An immigrant to Canada should try to arrange to receive all income due to him or her for earlier periods before taking up Canadian residence.

•An employment contract requiring the employer to return the employee to Canada at the end of the assignment was held by the Court in Johnson to be a relevant factor in determining that the employee remained a Canadian resident during the assignment.
The Court had no difficulty in “seeing through” a long term employment contract which could be cancelled at short notice.

• Take your personal belongings with you when you leave Canada. Don’t store them in Canada. Otherwise, the implication is that you are coming back.

•It is extremely difficult to claim successfully to be a non-resident of Canada if your spouse remains a Canadian resident.

The complete article is referenced with the kind permission of Mr. Sherman and is here.

Canada Tax Residencey 2008.tni

Just when we thought we understood it: When “residing in Canada” is not the same as “resident in Canada” …

Read and reread The Haiku in the above tweet.

 

Conclusion …

It’s interesting that Canada continues to determine  “tax residence” based primarily on a “facts and circumstances” test. This is costly and allows for greater uncertainty. My prediction is that Canada will soon have ONLY “deemed tax residency” with more “stringent” standards.

With the evolution of FATCA, CRS and the erosion of privacy (in a Facebook world), we have indeed entered a “Brave New World)”. In this world, the most important thing about a person will his “tax residence”.

John Richardson