Non-resident Individuals Owning/Selling Rental Property in Canada
WITHHOLDING TAX ON RENTAL INCOME
The lower mainland has been a very attractive place to live given its beautiful landscape, moderate temperature and the Canadian way of life. For these reasons and many more, individuals have been purchasing properties in the lower mainland as an investment to earn rental income for quite some time now. This includes investment properties purchased by individuals who are non-residents of Canada. Most non-residents who own real property and earn a rental income in Canada may be unaware of the Canadian non-resident withholding tax requirement and filing obligations:
- When the rental income is received, the agent (i.e. property manager, Canadian family, or friend) or payer (i.e. tenant) must withhold non-resident tax at the rate of 25% on the gross rental income paid.
- The agent or payer is obligated to remit this tax to the Canada Revenue Agency (“CRA”) on or before the 15th day of the month following the month of rental income is paid or credited to the non-resident.
- The agent or payer has to give the non-resident owner two copies of an NR4, Statement of Amounts Paid or Credited to Non-Residents of Canada slip showing the gross amount of rental income paid or credited during the year and the amount of non-resident tax withheld.
Election Under Section 216
Generally, the non-resident withholding tax is considered the non-resident owner’s final tax obligation to Canada on the rental income. Good news is that the withholding tax amount can be reduced under certain conditions by filing Form NR6, Undertaking to File an Income Tax Return by a Non-Resident Receiving Rent From Real or Immovable Property or Receiving Timber Royalty. After the CRA approves the Form NR6, the Canadian agent or payer can withhold 25% on the net rental income (after rental expenses), which would provide more cash flows on a monthly basis.
Form NR6 must be submitted to CRA on or before January 1 of each year, or before the first rental payment is due. Withholding tax of 25% on the gross rental income should be remitted to CRA until Form NR6 is approved.
- If Form NR6 is approved, the non-resident owner must file a T1159, Income Tax Return for Electing Under Section 216 for the year, which is due on or before June 30, the following year.
- If Form NR6 is not filed or approved, the non-resident owner may choose to file a T1159 return wherein the final tax will be calculated on the net rental income. By filing the T1159 return, the non-resident owner may receive a refund of some or all of the tax withheld on the rental income.
SELLING A REAL PROPERTY SITUATED IN CANADA
There has been a significant increase in real estate transactions involving non-residents of Canada. As a non-resident of Canada, when you dispose of[1] real property situated in Canada (referred to as “Taxable Canadian Property”), there are a few income tax implications[2] that you need to know about.
Seller Obligations
Step 1 – Request of a Certificate of Compliance
The Income Tax Act requires non-resident owners to notify the CRA within 10 days of disposing of real property situated in Canada “(the “Notification”)[3]. The Notification can be made by sending a request for a certificate of compliance to the CRA wherein the capital gain and/or recapture on the sale of the property and the corresponding withholding tax are calculated. The request is generally made on the following forms:
- Form T2062 “Request by a Non-Resident of Canada for a Certificate of Compliance Related to the Disposition of Taxable Canadian Property”.
- Form T2062A “Request by a Non-resident of Canada for a Certificate of Compliance Related to the Disposition of Canadian Resource or Timber Resource Property, Canadian Real Property (Other Than Capital Property), or Depreciable Taxable Canadian Property”.
An Individual Tax Number (ITN) is required when making the Notification. A non-resident owner may obtain an ITN by filing Form T1261 “Application for a Canada Revenue Agency Individual Tax Number (ITN) for Non-Residents”.
Failure to Comply Penalty
Non-resident owners who fail to notify the CRA within the 10-day period may be subject to a penalty of up to $2,500 ($25 per day for each day the notification is late). The penalty is applicable regardless of whether any withholding tax is payable with respect to the disposition. We have witnessed that the CRA is taking an aggressive approach in recent years to timely compliance with the requirements under section 116.
Step 2 – Obtain a Comfort Letter
The timing for obtaining a certificate of compliance could take months due to the processing backlog at the CRA. The buyer can avoid making withholding tax payment to the CRA within 30 days after the end of the month when the sale occurred if a comfort letter is obtained. A comfort letter can be requested by the seller at the time of submitting the Request to the CRA. In practice, if a comfort letter is issued, the buyer’s lawyer can continue to hold the funds withheld from the purchase price (25% or 50% of the gross proceeds) in escrow beyond the remittance deadline without incurring any penalties or interest. When the certificate of compliance is obtained, any excess withholding taxes above the amount calculated in the certificate of compliance can be released to the non-resident seller.
For a certificate of compliance to be issued, the required withholding tax payment calculated in the Request must be provided to the Receiver General when a “Notice to Pay” is received.
Step 3 – File the Canadian Tax Return
Generally, non-resident owners are required to file a Canadian income tax return to report the disposition of a “taxable Canadian property[4]” unless the following conditions are met:
- the seller is a non-resident of Canada.
- no tax is payable for the year in which the sale occurred.
- the seller is not liable to pay any amount to the CRA for any previous tax year.
- the disposition for which a certificate of compliance under section 116 has been issued.
In many cases, the non-resident owner is better off filing a tax return to access a refund.
Buyer Obligations
If the non-resident seller does not comply with the requirements[5], and the CRA has not issued a certificate of compliance, the buyer could be liable to pay, and shall remit 25% withholding tax (50% for depreciable property and real property inventory) of the gross purchase price of the property to the CRA within 30 days after the end of the month in which the buyer acquired the real property[6].
The buyer is entitled to withhold 25% (or 50%) of the gross proceeds pending receipt of a certificate of compliance from the non-resident owner. As a buyer, consideration should be given to the determination of the appropriate amount to withhold and remit where there may be uncertainty as to the type of property (e.g., real property that may either be capital property or inventory) or as to the allocation of proceeds between depreciable property (e.g., building) and non-depreciable capital property (e.g., land).
TAKEAWAY
As noted above, the parties don’t have a lot of time to gather the information to file the Notification within 10 days after the disposition, particularly given that the information requested on Forms T2062 and T2062A can be very extensive. Therefore, the buyers and non-resident owners should always include their tax advisor at an early stage of the transaction since the Notification could be made earlier as a proposed transaction.
We should also be aware that if a non-resident of Canada has not fulfilled their tax and reporting obligations under the Underused Housing Tax (“UHT”), the CRA has the ability to decline the request for a certificate of compliance that would reduce the required withholding tax on the disposition of Canadian residential property. For more information about the UHT obligations, please read our blog The Underused Housing Tax (UHT) – What You Need to Know, and Filing Alert – Underused Housing Tax (“UHT”) Return.
Real estate in the lower mainland and Canada will continue to be a hot place to invest for both residents and non-residents. With the international borders starting to open up as COVID-19 restrictions begin to ease, we can expect to see more transactions in the real estate market by non-residents.
This is not an exhaustive list of all the factors that should be considered when owning real estate in Canada. Owning real estate in corporations, trusts or partnerships may also have similar implications. Non-resident owners should also be aware of any foreign buyer tax and speculation tax (provisionally and federally). Please contact your tax professional or someone from the Smythe team with any questions.
[1] Inter-vivos gifting and tax-deferred transfer of a real property situated in Canada could also trigger tax obligations notwithstanding that no proceeds may be received.
[2] Note that when a non-resident individual disposes of real property in Quebec, the rules under the Quebec Taxation Act can differ from those under the Income Tax Act, which is beyond the scope of this article.
[3] Subsection 116(3)
[4] This article doesn’t cover the discussion of what constitutes taxable Canadian property, please consult your tax advisor.
[5] Subsection 116(3)
[6]Subsection 116(5) and (5.3)
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