PLEASE NOTE: THIS INFORMATION WAS ORIGINALLY SUBMITTED BY COOPERS & LYBRAND, CANADA
1. Which U.S. Social Security Benefits Are Affected By The Proposed Changes To The Tax Treaty?
The benefits that are affected are those provided under Title II of the U.S. Social Security Act. These include retirement, survivor, and disability benefits. Railroad retirement benefits provided under Tier 1 of the Railroad Retirement Act are also affected. In these questions and answers we use the term "U.S. social security benefits" to refer to all of these benefits.
2. How Are U.S. Benefits Paid To Canadian Residents Currently Taxed?
Currently, the country that pays a benefit to a resident of the other country can tax all of it. The country where the recipient lives cannot tax it at all.
In conformity with the above rules, the U.S. currently taxes outbound social security benefits at a rate of 25.5%. This amount is withheld at source and is non-refundable. Since the U.S., unlike Canada, does not allow non-resident pensioners (other than U.S. citizens and resident aliens) to file tax returns, the 25.5% flat tax is fixed and final, regardless of the recipient's circumstances. (By contrast, because Canada allows any non-resident pensioner to file a Canadian tax return and pay tax at ordinary Canadian rates rather than the flat withholding tax rate, many low-income U.S. recipients pay little or no Canadian tax on their Canadian benefits.)
Since Canada does not tax social security benefits paid by the U.S., it does not allow the recipient to use the tax that was withheld as a credit on the recipient's Canadian tax return. Canada does require the recipient to include U.S. social security benefits in net income, but allows the recipient to deduct an equal amount in calculating taxable income.
3. How Will These Benefits Be Taxed Under The Proposed New Rule?
The proposed new rule will give the country of residence the exclusive right to tax social security benefits. This means that the U.S. will stop withholding tax, as U.S. social security benefits that are received by a resident of Canada will be taxable in Canada. However, Canada will include in taxable income only 85% of the benefits that are received in a year. The other 15% will be exempt from tax.
As a result of these changes, residents of Canada will be taxed on 85% of their U.S. pensions social security benefits at roughly normal ordinary Canadian rates (i.e., allowing for the 15% exemption) instead of a flat 25.5% that takes no account of their individual circumstances.
The new rules will apply back to the beginning of 1996. There will be retroactive relief to anyone who paid an excess of tax, but no one's taxes will be increased for the retroactive period.
4. I Live In Canada And In 1996 I Paid United States Tax On My U.S. Social Security Benefits. When Will I Get A Refund?
The proposed agreement (known as a protocol) will become law only when both countries have signed and ratified it. You should be able to get your 1996 refund shortly after the protocol has been ratified.
5. Will The Government Of Canada Refund My 1996 U.S. Tax?
Your 1996 U.S. tax will come to you through the Government of Canada. It will be based on tax information provided by the United States Government.
Most Canadians who have paid U.S. tax on U.S. social security benefits will not have to fill out any forms or take any special steps. Revenue Canada will set up a simple and fast refund system that will handle their refunds automatically. However, if you have recently moved to Canada or you did not file a 1996 Canadian income tax return, this automatic system may not apply to you. You should contact Revenue Canada for more information.
6. How Much Tax Will I Get Back?
You will not have to pay any U.S. tax on U.S. social security benefits you have received since the beginning of 1996. Because your U.S. social security benefits will be taxable in Canada instead, you may have to pay some additional Canadian tax. How much, if any, Canadian tax you pay will depend on your own circumstances. But the Canadian tax for 1996 (and 1997) on your U.S. social security benefits will be no greater than the U.S. tax rate.
In most cases, Revenue Canada will be able to compute your Canadian tax based on your Canadian income tax return and the information provided by the United States Government. Revenue Canada will then refund you the difference between the U.S. tax you have paid and any Canadian tax on your U.S. social security benefits.
7. Will The Canadian Tax On My Benefits Be Higher Than The U.S. Tax?
For 1996 and 1997, when the U.S. withheld tax from your U.S. social security benefits, your Canadian tax on those benefits will not be any more than the U.S. tax you have already paid.
For the future, the Canadian tax you pay will reflect your total income. This means that the Canadian tax on your benefits may be higher than the U.S. tax now is. This is because total Canadian tax rates (including provincial tax) are usually higher than the U.S. withholding rate. However, if your income is very low you will pay little or no tax on your U.S. social security benefits.
8. Will This Change Affect My 1996 Canadian Income Tax Return?
It will not affect how you complete your 1996 income tax return. If you have not already filed your 1996 return, you should do so according to the present law. That is, you should include all your U.S. social security benefits in your income, then deduct them in computing your taxable income.
Once the proposed protocol has been ratified, your 1996 Canadian tax may change. You may have to pay Canadian tax on your U.S. social security benefits. But the Canadian tax on your 1996 U.S. social security benefits will not exceed the U.S. tax rate on those benefits.
We will put in place a system to make the adjustment of your 1996 taxable income as simple as possible for you. In most cases, Revenue Canada will make all the necessary calculations.
9. When Will The U.S. Stop Taking Tax Off My Benefits?
Neither Canada nor the U.S. can stop taking tax off the benefits it pays until the proposed protocol has been ratified by both countries.
Once the proposed protocol has been ratified, it may take some time for the tax systems to change over. But any excess tax the U.S. continues to collect on your U.S. social security benefits will be refunded.
10. I Am A U.S. Citizen. What Does This Change Mean For Me?
You will be treated the same as other residents of Canada. Your U.S. social security benefits will be subject to tax only in Canada. For the retroactive period since the beginning of 1996, the Canadian tax on those benefits will not exceed your U.S. tax.
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 PricewaterhouseCoopers 145 King Street West Toronto, Ontario M5H 1V8 Canada Fax: 1-416-941-8415 E-mail: Click Contact Link
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