US citizens are subject to tax imposed by the Internal Revenue Service (IRS) on the transfer of assets both during life (i.e. gift tax) and on death (i.e. estate tax). These rules apply regardless of where the person lives, due to the US citizenship-based taxation regime. When it comes time for an American in Canada to plan for the succession of assets to the next generation, it is critical to seek advice from professionals that understand the rules in both Canada and the US.
Canadian rules for taxation on death are different from those in the US in important ways. In Canada, death taxation consists of a capital gains tax imposed on all the assets owned by the deceased person (other than those qualifying for a rollover to a surviving spouse). Therefore, if a person’s assets have no unrealized gains, the Canadian tax consequences of passing away are generally not significant.
In contrast, the US rules impose estate tax on the fair market value of includible assets, regardless of whether they have increased or decreased in value. Under current rules, the federal estate tax rate applies at up to 40% on assets over $1 million. To soften the impact of this tax, each estate has an applicable exclusion amount of $5.49 million (in 2017), which can pass free of tax. This exclusion amount is reduced by prior gifts on which no gift tax was paid.
For US citizens resident in Canada, who are subject to both of these tax regimes, planning strategies are available to minimize the overall tax payable on death, and therefore preserve as much as possible for your heirs. Careful drafting of testamentary spousal trusts, based on rules found in both the Income Tax Act and the Internal Revenue Code, as modified by the Canada-US Tax Treaty, can defer or eliminate significant taxation on death.
Altro LLP attorneys regularly assist clients facing these issues, and can provide expert advice to ensure your estate plans are tailored to achieve the best results possible.