In this article, we’ll explore foreign source income and your tax responsibilities so that you aren’t caught off guard.
Reporting Requirements
In Canada, taxpayers are required to report their foreign source income to the CRA using Form T1135 - Foreign Income Verification Statement. The form must be filed if the total cost of foreign property held by the taxpayer at any time during the tax year exceeds $100,000 CAD.
This applies to Canadian residents, including individuals, corporations, trusts, and partnerships.
When determining whether a taxpayer exceeds this threshold, the government looks at the adjusted cost base of the property and not the fair market value. This is good news as gains on an investment will not trigger the need for a T1135.
What many taxpayers are not aware of, however, is that this amount is cumulative and not per asset.
For example, an individual may have $50,000 worth of shares of a non-resident corporation in their Canadian brokerage account, as well as $60,000 in cash held in a US account. While alone, neither of these hit the $100,000 threshold, the cumulative total is $110,000, triggering the need for a T1135.
What is Foreign Property
Foreign property doesn’t just refer to income earned on real estate owned outside of Canada. It also includes:
- Balances in foreign bank accounts.
- Shares in a non-resident corporation and shares of a Canadian corporation if they’re held on deposit with a foreign broker.
- Foreign bonds, debentures and mutual funds.
- Interests in foreign partnerships or trusts.
- Life insurance with a foreign issuer.
It is essential to keep accurate records of these holdings, including the location, description, maximum cost, and income generated.
It is also important to note that many countries have their own tax laws governing the taxation of foreign source income, and taxpayers must be aware of both domestic and international tax regulations.
Property That Does Not Trigger a T1135 Filing
There are some types of foreign property that do not require you to complete a T1135, including:
Canadian Mutual Fund Trusts Or Corporations And ETFs
While a T1135 must also be filed for foreign mutual funds, any Canadian mutual fund trusts or corporations, as well as ETFs, invested in foreign property are exempt as the mutual fund or ETF owns the property, not the individual.
Personal Property
Personal property kept outside of Canada is also exempt from the T1135 filing requirements. This includes rare books, coins, jewelry and other similar assets, as well as personal use vacation property if it is exclusively used for vacationing for at least 50% of the year. (i.e. if you rent it out seven months a year and vacation at it for five, you would need to file a T1135.)
Foreign Retirement Accounts
Taxpayers are also not required to file a T1135 for foreign retirement plans resulting from time spent working in another country. For example, if you worked in the US and have a 401K or individual retirement plan, you do not have to file a T1135.
Methods of Filing
There are two ways to report foreign source income on the T1135, as outlined on the form. The simplified method is for taxpayers who have less than $250,000 in foreign assets at any given time in the tax year. This straightforward method requires taxpayers to identify the type of property owned along with some simple details. This includes country codes, as well as gross income and gain/loss from disposition from all sources.
If you have more than $250,000 in specified foreign property, you must use the detailed method. This method requires more information, including:
- Identification of each holding including country code, gross income and gains/losses on disposition
- Maximum cost during the year (in some cases you’ll need fair market value instead)
- Cost at the end of the year (in some cases you’ll need fair market value instead)
Penalties For Non-Compliance
Failure to comply with the reporting requirements for foreign source income can result in significant penalties. The CRA has increased its efforts to identify and penalize taxpayers who do not accurately report their foreign assets and income. The penalties can range from $25/day for 100 days (minimum of $100) up to $2,500.
If the taxpayer knowingly fails to file, the penalty is $500/month for 24 months, up to $12,000. The penalty is even worse if you were told to file and still chose not to. In this case, you will pay $1,000/month, up to $24,000.
After 24 months, you will have additional penalties of 5% on the cost of the property, FMV of the property transferred or loaned to the trust; or cost of the shares and indebtedness of the foreign affiliate. What you pay the penalty on will depend on the reason you have to file.
Finally, false statements or omission will result in a fine of $24,000 or 5% of the above, whichever is highest.
Voluntary Disclosure Program
If you have not reported their foreign source income in previous years, the CRA offers a Voluntary Disclosure Program (VDP) that allows them to come forward and correct their tax affairs without facing penalties or prosecution. The VDP provides an opportunity to rectify past non-compliance and avoid potential legal consequences.
Seeking Professional Assistance
Understanding the rules and regulations surrounding foreign source income is vital for taxpayers to fulfill their reporting obligations accurately. Failing to comply with these requirements can result in severe penalties and legal consequences. By staying informed, seeking professional assistance when needed, and proactively reporting foreign assets and income, you can navigate the complexities of international taxation and ensure compliance with the tax laws of their respective jurisdictions.
Are you interested in learning more about foreign source income and what it means for your Ontario tax return? Book a meeting with the Koroll & Company team of chartered professional accountants today.