Each year I help over 500 clients file their Canadian and US tax returns as well as plan for both their Canadian and US investment accounts. I also regularly help new US clients plan for their move to Canada.
Cross Border Tax and Financial Planning Podcast Transcript
Hello and welcome to Episode Number 1 of Cross Border Tax and Financial Planning podcast. Thanks for joining us, I’m your host Phil Hogan and today we’re going to talk about how to move your IRA to Canada.
Now there’s a few ways to do this and with the elaborate specs to 401ks and maybe some other plans but they have the same rules on how to transfer these assets. And we’re going to focus on the how to make it easy. So we have the transfer of tax and financial planning, it happen.
So when we look at some of these clients, when they move up to Canada… (inaudible from 3:43-4:00) …so let’s assume… (inaudible from 4:01-4:07) …bringing the IRA up to Canada and that we’re willing to go back to setup an RSP account. Sometimes it takes a little while and its tedious compared to back in the US. In our current habit… (inaudible from 4:19-4:32) …with the 3rd option considering you haven’t paid tax yet and convert the amount of dollars in tax to Canada… (inaudible from 4:40-5:06)
So circling back to the 1st option, pay for the money in the US. Now this can be… (inaudible from 5:14-5:18) …keep moving up financially… (inaudible from 5:20-5:25) …this one might be something where you can meet the IRA in the US… (inaudible from 5:28-5:34) …working with the financial planner that can actually manage the tax in both efforts. So while leaning the fact in the US, I would say yes, it’s easier but you might have some challenges with… (inaudible from 5:51-5:53) …Technically they should be able to obtain any instructions from you for the client. But the fact in the matter is that you… (inaudible from 6:02-6:04) …distributions that are happening right now, they need to be able to transact from the account.
So technically, you don’t need to be licensed to both Canada and the US to properly manage that accounts. Even back in the US there’s a temporary solution… (inaudible from 6:23-6:38) …whether you’re coming up to Canada as a green card holder or a citizen, we need to get that green card holder an actual US tax payer, is just a matter of difference in opinion. So if you’re applying based on whether you’re a green card holder or a US citizen eventually… (inaudible from 6:51-6:54) …they would actually be taxed or will be taxed… (inaudible from 7:01-7:04) …somewhat significantly whether you’re still in the US and thinking of moving up to Canada or you’re already in Canada, then you have the IRA there. There might be some additional plan we could do if you’re in the US and are coming up to Canada and you haven’t made that move up to Canada, there’s a few tax rules that are going to get triggered as you enter Canada… (inaudible from 7:27-7:30) …before you enter.
So let’s move on to option number 2, withdrawing the money as a lump-sum. Now, I hate this option… (inaudible from 7:38-7:42) …piece of advice from Canadian brokers that might not have any experience with US assets or US clients. They will have clients up there… (inaudible from 7:53-7:56) …clients let’s say may have $200,000-$300,000 on average in the US so they will advice to collect and liquidate the account, shoulder decent tax and maybe some penalties. But you now what, the exchange rate will make up for the difference. That’s terrible advice, but we hear it all the time. And one of the reasons is, of course these money managers want the assets up in Canada so they can manage the money, fair enough. But that’s not the terrible piece of advice. Essentially what you’d be doing there is that, cashing up the IRA bringing it up to Canada without enrolling it to another plan, you’re going to pay a ridiculous amount of tax amount. First, you’ll pay 15% tax off the bat, assuming you are not a US citizen and maybe if you are but are under 59 and a half, you’ll pay another 10% penalty on that money and you’ll pay Canadian tax. Now, granted you’re going to get foreign tax rate for all the taxes and the penalties you’ll pay in the US but even with that, I mean, a simple example, and we show that Canadian tax rate is 30%, and your US tax rate plus penalties is 15% plus another 10%-25%, at the very most you’ll pay 30%. So that’s a big hit to take, on that lump-sum IRA distribute. That’s slightly not a great option and even with the exchange, that doesn’t make any sense because you’re still going to pay the tax on that amount and the exchange itself will all to be the benefit of, in the future and as much as people think they can predict foreign exchange rates Canadian-US Dollar, they can’t. So really terrible option for us. Now that being said, sometimes you’ll have an IRA that might be $15,000-$20,000, in those cases, depending on your income, sometimes it’s just easier to patch up the amount, pay the tax, and bring it up to Canada. So in those situations where the account’s are relatively small that might be an option. For any other larger accounts, definitely not something for you.
Now the 3rd option, it’s popular with people coming in and want to implement this, but doesn’t have to work as well, is transferring the IRA into an RRSP. Now there’s an act to withdraw that money or de-register that money from an IRA and then, within a certain time period, move that money to an RRSP. And that sounds great and it would be great, if you can just make a drive roll over from an IRA to an RRSP, however you can. And I’m not going to go into the capitulations on how they do that because they can be quite complex but essentially, you are able to roll money from an IRA to an RRSP assuming you have roughly the same amount of Canadian source income for that roll. So let’s use this as an example. So a $100,000 on IRA and you have about $50,000 Canadian gross income. You should be able to, roughly speaking, transfer about $50,000 a year from your IRA to your RRSP and you have to do this over a number of years—over 2 years let’s say. And the way it works, is that you pay tax in the US side and you pay tax in the Canadian side, and you get a credit for the taxes you paid tax in the – glad to hear it, let me step back a little bit. You pay tax in the US side and you wouldn’t pay tax in the Canadian side as you get a deduction from the IRA which will go into the RSP and then you get credit for the tax you’d pay again. So that sounds like kind of… (inaudible from 11:45-11:46) …Essentially, you wouldn’t pay any tax initially on the transfer and then you get the money in your RSP and then eventually, that money will get taxed once it’s withdrawn from the RRSP. The key thing to remember here is, you’re really going to be able to transfer more into your RRSP than you having Canadian source income. So we have clients coming in that have $500,000 IRA and they wanted to transfer the whole thing to the RRSP. Their brokers mentioned they can do that. They might only have $30,000-$40,000 Canadian source income especially if they’ve moved from the US. So definitely an option, and it does work great. In this you might have to do over a number of years but it’s not really that much different than keeping the IRA in the US. Though the client’s account is somewhat limited by the brokers in the US might be licensed for both the US and Canada.
So the next option, converting the IRA to a Roth. Now, that sounds like a great option for most, you’re only going to be able to pull this off if you’re living in the US and have not moved to Canada yet. So it’s nice to be able to plan for a lot of these issues before the move. So if you’re thinking of moving to Canada, getting in touch with a cross-border tax professional or a cross-border financial planner and having these conversations before you move to Canada is really imperative. I mean, there’s a significant tax savings that can happen for a few years of moving to Canada. A lot of times we were sitting on clients who have been in Canada for a number of years and if we’re able to take actions before they entered Canada, we would have had a lot more options. So this is a good example of what we could collect before you move to Canada. So you have IRA, 2 weeks in and you can convert some of this IRA money to a Roth IRA before entering Canada, once again I might be getting a little technical to the term here but you should bet that especially in years that you’re income might be a little bit lower, convert the IRA to an RRSP or convert the IRA into a Roth account you might pay some taxes that are low-rate where at that point it might be in a Roth, and can be withdrawn tax-free. At any point, in the future. It’s assuming that there are some rules in the US border if it’s withdrawn before 5 years there might be some kind of penalty. But assuming you don’t have any of these penalties, you’ll be able to withdraw those balance tax-free within a year from the Roth. What we will manage here, is that if you do prior to entering Canada, you’ll be able to withdraw the money from Roth in Canada completely tax-free and in those cases, your tax rate in Canada will be higher than in the US. You should be able to shelf a fair amount of income from your initial IRA by converting it to a Roth and building the appropriate elections, enter Canada to really save what could be a significant amount on tax on your retirement. Now, in order to have this facilitated though from a tax perspective, there’s quite a few – there’s elections you need to view when you enter Canada. When you enter Canada, after converting this money to a Roth, you need to make some elections with the Canadian government with respect to the Roth IRA. So it’s just really an election that gets filed with your tax returns or your electronic account so you can send it separately but otherwise, the date and time it was established when you move to Canada, how much is in the Roth, and if that election is filed and you have to make sure you cannot make the confirmation of the Roth after entering Canada, if those two criteria are met, then you’ll be able to pull money out of the Roth tax-free from both Canadian and US perspective. Which is great. Once again, that timing can be done before entering Canada and not really much you can do after you entered Canada.
So let’s go by a couple more considerations for these transfers or even IRAs in the US. If you withdraw money from the IRA before you reach the age of 59 and a half… (inaudible from 16:15-16:17) …But generally speaking, there might be a penalty for you. Before 59 and a half will incur a penalty which is 10% of the distribution. Sometimes it’s not a big deal where you might pay a 25% plus 10% penalty, 25% in total, assuming… (inaudible from 16:35-16:36) … in total or even if you’re a citizen you might pay around that as well. If you’re tax rate in Canada is more than 25%, then you’ll be able to get credit in the amount… (inaudible from 16:48-16:50) …On a lot of cases, clients are taxed especially when they earn investment below that amount so that penalty is really just an extra tax so you might want to wait until you’re over 59 and a half before you withdraw from the IRA. Another consideration, foreign tax credit we’ve talked about this a little in the other podcasts. So it’s said you’re going to pay tax in either Canada or the US, we take advantage of the treaty. So the treaty between the Canada and the US, you shouldn’t have to pay double tax. So you shouldn’t have to pay tax for Canada and the US on the same income. So what you’ll find is that you’re withdrawing money from your IRA and are being taxed in the US, you’re going to get credit for that Canada. So you won’t actually pay double tax. So that’s important and as we’re talking I want to make that clear. If you’re thinking about it, don’t worry, as in most cases you’re not going to pay tax twice. Now to facilitate these calculations, these foreign tax credits, and a lot of these transfers, you have to be filing your Canadian return before you enter or simply your US returns. So a lot of our clients, let’s give a simple scenario here, a US citizen client, moves to Canada with an IRA. She’s in Canada, she’ll be filing a US tax return on an annual basis because US citizens are asked to report based on their citizenship and and they’ll have to file a Canadian return because they’re a Canadian tax-resident… (inaudible from 18:26-18:31) …income on a US return, they won’t pay double tax because they’re allowed to take foreign tax credits on both sides and of course they’ll have all the report to acknowledge the specific times… (inaudible from 18:41-18:43) …so on the far end of the return is really important because it’s impacting… (inaudible from 18:48-18:50) …
And maybe the final points to consider is that none of this can happen at once. That’s why the timing before you enter Canada is so important because we have clients who have open-state investments paired with their retirement investments, some clients, already have RRSPs before they come up. So you want to look at these situations as one-offs and look at all the investments as all you want to see with potential tax savings or planning, it happens before entering Canada, or even after entering Canada. And that goes all the way down to state planning for future beneficiaries. Looking at all these timings that might happen on the investment side just in the US or just in Canada, if you don’t integrate both, US and Canadian tax rule and the cross-border financial planning, you’re missing out on both sides. So you’re missing on both sides on savings or you’re going to get trapped into some future penalties or a lot of taxes just because one whole side of your planning hasn’t been considered.
I hope that’s been helpful. Now we’ve really touched on some general basics of those how to transfer these IRAs to Canada, but as you can see from a list here, there are certainly options, it’s nice to be able to plan for it before we get to, before clients get to Canada. So if you find yourself in a similar situation, you have an IRA in the US or you’re moving to Canada, feel free to get in touch with me, you can reach me at my email address Phil@hutcheson.ca for quick notes to contact info, and while we’ll discuss here we’ll show notes below. You can give me a ring at 250-381-2400 and you can check us out in the website Hutcheson.ca at our cross-border tax form and blog at crossborderpros.net. And once again, thanks for joining us and we’ll see you on the next one!