Canada: Canada-United States Tax Treaty Changes

Last Updated: April 10 1997


A draft protocol to amend the current income tax treaty between Canada and the United States was initialled in Washington on April 9, 1997. When signed in final form and ratified by both countries, the amendments will:

  • exempt U.S. residents selling shares of U.S. corporations holding Canadian real estate or resource property from exposure to Canadian income tax arising from proposed Canadian domestic law changes, and
  • give the recipient's country of residence the exclusive right to tax social security benefits.


The current Canada-U.S. tax treaty provides that Canada can tax capital gains realized by a resident of the U.S. on the shares of (or an interest in) any corporation, trust or partnership whose value is mostly made up of Canadian real estate. Similarly, the United States can tax gains realized by a resident of Canada on what is known in U.S. law as a "United States real property interest".

The definition of "United States real property interest" currently includes some Canadian partnerships and trusts that hold U.S. property, but does not include shares of any non-U.S. corporations. Canadian law currently taxes non-residents' gains on some non-Canadian partnerships, but not on non-resident trusts or corporations.

In 1995, Canada proposed to amend its Income Tax Act to tax non-residents' gains on shares of non-resident corporations, and interests in non-resident trusts, where most of the value of the shares or interests is attributable to Canadian real estate to resource property. Except where a tax treaty precludes such tax, the new rule would apply to gains that accrued (measured proportionally) after April 26, 1995.

The protocol amendments will limit the application of this proposed Canadian tax change in the case of United States residents. Canada will agree not to tax U.S. residents' gains on shares of corporations that are not resident in Canada. Similarly, the United States will agree that "United States real property interests" will not include shares of corporations that are not resident in the U.S. The change is to apply as of April 26, 1995.

The change means that Canadians who invest in U.S. real estate through Canadian companies will continue to pay Canadian tax, rather than any possible future U.S. tax, when they sell their shares. In addition, U.S. investors in U.S. companies that hold property in Canada will still pay U.S. tax when they sell their shares, rather than Canadian tax.


Both Canada and the United States pay social security benefits to large numbers of people in the other country. Most of these are people who worked in one country and retired to the other. Others are persons with disabilities or surviving spouses or children of cross-border workers.

The Canada-U.S. tax treaty sets out which country can tax these benefits. Before 1996, the country that paid a benefit to a resident of the other country could not tax the benefit at all. The country where the recipient lived could include half the benefit in the recipient's taxable income. The other half was entirely tax-free.

In 1996, the tax treaty was changed. Currently, under those treaty changes, the country that pays a benefit can tax all of it. The country where the recipient lives cannot tax the social security benefits paid by the other country.

Canada ordinarily taxes outbound Canada Pension Plan and Old Age Security (OAS) benefits at a 25% rate. Canada also applies an OAS recovery tax "clawback". However, any non-resident pensioner can choose to file a Canadian tax return and pay tax at ordinary Canadian rates, rather than the flat 25%. Many low-income U.S. recipients thus pay little or no Canadian tax on their Canadian benefits.

The United States taxes outbound social security benefits at a rate of 25.5%. But unlike Canada, the U.S. does not allow non-resident pensioners (other than U.S. citizens and resident aliens) to file tax returns. The 25.5% tax is fixed and final.

The protocol change will give the country of residence the exclusive right to tax social security benefits. This means that only Canada will be able to tax U.S. benefits paid to Canadian residents, and vice-versa. This taxation in the country of residence will be subject to some special rules that take into account how benefits are taxed in the source country.

Once the treaty protocol change is signed and ratified, the new rule will apply as of January 1, 1996. Excess tax collected since that date will be refunded to social security recipients in both countries. Canadian and U.S. authorities are to work together to ensure that refunds can be paid out, after ratification, as quickly and efficiently as possible.

The information provided herein is for general guidance on matters of interest only. The application and impact of laws, regulations and administrative practices can vary widely, based on the specific facts involved. In addition, laws, regulations and administrative practices are continually being revised. Accordingly, this information is not intended to constitute legal, accounting, tax, investment or other professional advice or service.

While every effort has been made to ensure the information provided herein is accurate and timely, no decision should be made or action taken on the basis of this information without first consulting a Coopers & Lybrand professional. Should you have any questions concerning the information provided herein or require specific advice, please contact your Coopers & Lybrand advisor, or:

David W. Steele
145 King Street West
Toronto, Ontario  M5H 1V8
Fax:    1-416-941-8415
E-mail:    Click Contact Link 

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