Today’s Blog was written by Rahul Sharma, Partner, Fasken LLP, Toronto
Many Canadians today have or are thinking of acquiring some form of foreign real estate. For some, the property was inherited from parents or left behind in the “old country” following a relocation to Canada. For others, the property is a vacation home or pied-à-terre in another place.
A villa in France or a place on the beach in the Caribbean is great. But far too often, no thought or too little thought is given to the Canadian and foreign tax and succession challenges that come with foreign real property ownership.
Here are short answers to a few questions that we regularly receive:
Do I need to “declare” the property as part of my Canadian tax filings?
This depends. Section 233.6 of the Income Tax Act (Canada) provides a definition for “specified foreign property.” If your foreign real property is for personal use, it is exempted under paragraph (p) of the definition of “specified foreign property” and not subject to reporting in Canada each year in form T1135. You may need to otherwise file form T1135 if the primary use of the property is not personal (i.e. you rent out the property), or if you have “specified foreign property” that is subject to reporting in excess of a cost amount of $100,000. Rental income will be subject to tax in Canada and potentially also in the country where the property is located.
What happens, tax-wise, in Canada when I sell the property?
Properties appreciate or decline in value. Assuming that the property is held on capital account for tax purposes, it could be subject to a capital gain or capital loss on sale. The adjusted cost basis of the property, for Canadian tax purposes, will need to be determined prior to the property’s sale and the sale being reported in Canadian tax filings. Tax will be determined on the difference between the property’s sale price and its adjusted cost basis. Tax might also be payable in the foreign country where the property is located at the time of sale. Importantly, the foreign country might apply special compliance measures to you in respect of the payment of tax arising from the sale of the property because you are a resident of Canada and a non-resident of the country in which the property is located. These special compliance measures may be the foreign country’s equivalent of the requirements of section 116 of the Income Tax Act (Canada).
A foreign property could be your principal residence for Canadian tax purposes. But you should be careful when deciding whether to choose a foreign property as your principal residence. First, you need to satisfy the requirements for a principal residence as set out under the Income Tax Act (Canada) and Canada Revenue Agency administrative policy. Second, you need to determine whether sheltering a gain arising from the sale of the property under the principal residence exemption puts you in the best financial position when the gain in value arising from the sale of the property is compared to accrued gains attaching to other properties that you own (including properties situated in Canada). You should also remember that you likely will have to pay tax anyways in the foreign country arising on the sale of the property and that you are likely entitled to a foreign tax credit in Canada for tax paid to the foreign country.
Do I need a Will in the foreign country?
This all depends. The usual answer is “yes”, but every country is different. Additional complexity may arise in civil law jurisdictions, including countries like France. This is not only because of a different legal system from Canada’s common law system, but also because of forced heirship and other laws that could apply to real property situated in the jurisdiction. In short, it can very quickly get very complicated.
This means that planning is needed from the point where the decision is made to purchase foreign real estate and, ideally, not on an ex post facto basis. There are additional complexities attaching to United States real properties, particularly given the different tax regimes at play in the United States. There are excellent papers and articles readily available on that topic, such that it is beyond the scope of this blog post.
Most often, counsel in foreign jurisdictions recommend a Will be prepared in that country for the succession of property, including real property, in that country. This Will could, particularly in European jurisdictions, elect for the laws of Canada to apply, assuming that Canada is the jurisdiction of the owner’s citizenship, domicile and/or ordinary residence (as may be relevant). Otherwise, the foreign Will may be a highly useful tool to ensuring swift succession of property from a foreign legal perspective, while Canadian estate administration is carried out in the relevant Canadian province or territory. The foreign Will should interact, as necessary, with the Canadian Will. At the most basic level, the foreign Will should not revoke the Canadian Will and vice-versa. All Canadian and foreign Wills should operate concurrently. Yes, this means more complicated and expensive estate planning is required, but shortcut approaches can have highly unattended, and potentially disastrous consequences.
