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This article is one in a series of related topics on Canadians owning & renting property in the United States. Prior to implementing any strategies contained in the articles, individuals should consult with a qualified tax advisor, accountant, legal professional or other professional to discuss implications specific to their situation.

Calculating Taxable Capital Gain/Loss

Should you sell your U.S. real estate, you will be required to file a U.S. tax return to report any capital gain/loss on the disposition and to pay U.S. capital gains tax on any profit. You will also be required to report this capital gain/ loss on your Canadian tax return (as discussed above, foreign tax credits may offset or minimize any double taxation issue). Your taxable gain will be determined by the difference between your net proceeds and your original cost base. This cost for U.S. tax purposes is referred to in the U.S. as your “adjusted basis,” which is generally calculated as your total purchase price plus the cost of improvements less mandatory depreciation deductions (if you fail to deduct appropriate depreciation, the IRS will generally reduce the adjusted basis as if you had claimed it).

Maximum Capital Gains Tax Rate: 12-Month Rule

If you held your property for longer than 12-months prior to disposition, then the current maximum capital gains rate that you may be subject to in the U.S. is 15% (for 2011 – 2012). Alternatively, if you held your property for under 12 months, then regular graduated tax rates will apply to any resulting taxable capital gain. Currently, the highest tax rate for U.S. federal tax purposes is 35% (2011 – 2012). There may also be a U.S. state tax liability to consider. For Canadian tax purposes, the current average highest marginal tax rate on capital gains is effectively 22% (i.e. 44% divided by 2) because Canada only taxes one-half of the capital gain.

Principal Residence Exemption for Canadian Tax Purposes

If the property qualifies, you can shelter the amount of the gain taxed in Canada by claiming the principal residence exemption for Canadian tax purposes. Note that if you were to use this exemption, there is a possibility that the foreign tax credit may not be fully credited unless you have other taxable Canadian income. Similar rules for principal residences exist in the U.S.; however, with certain limits these may apply on the amount of the gain that can be excluded. It may be difficult for many Canadians to claim the exclusion for U.S. tax purposes since a principal residence for U.S. purposes must generally be the home you use the most. A discussion of these U.S. tax rules is beyond the scope of this article. You should consult with a qualified cross-border tax advisor for more details.

10% Withholding Tax

In addition to being subject to U.S. tax on any capital gains, you may also be subject to a withholding tax of 10% of the gross sale price that could potentially be applied at time of sale. If the withholding tax is applied, it can be taken as a credit on the U.S. tax return. There are two exceptions to this withholding tax requirement:

Exception 1:
Sale Price Less Than U.S. $300,000

If you sell your U.S. real property for less than U.S. $300,000, and provided that the purchaser intends to use your property as a principal residence, then the 10% withholding tax will not apply.

Exception 2:
Sale Price Greater Than U.S. $300,000 - Withholding Certificate

If the proceeds are greater than $300,000 and you have an expected tax liability on the gain that is less than 10% of the gross sale price, you can potentially reduce or eliminate this withholding tax requirement by filing IRS Form 8288 to request a Withholding Certificate. This form must be filed before the closing date of the sale. If granted, the certificate will indicate the amount of tax that should be withheld instead of the full 10%.