Canada: Significant Changes To Foreign Property Reporting For Canadian Taxpayers

For taxation years ending after June 30, 2013, Canadian resident taxpayers who are required to report their specified foreign property holdings to the Canada Revenue Agency must use a revised version of Form T1135.1 Generally, most taxpayers will be required to file Form T1135 for a taxation year if the total tax cost of their specified foreign property (as described below) exceeds C$100,000 at any time in the year. Taxpayers and their advisors need to be aware that the revisions to Form T1135 are anything but cosmetic: the new form significantly increases the compliance burden on taxpayers and introduces severe consequences where there has been a failure to comply.

In addition to existing monetary penalties, failing to report specified foreign property correctly on new Form T1135 could result in the extension of the normal reassessment period for the relevant taxation year by three additional years. The normal reassessment period will be extended if both of the following conditions are met:

  1. The taxpayer (or a partnership of which the taxpayer is a member) fails to file the return as required or files the return but fails to properly report information required in respect of the specified foreign property; and
  2. The taxpayer fails to report in his or her income tax return an amount in respect of the specified foreign property that is required to be reported.

Presumably this means that all taxpayers who are members of partnerships will have to determine if the partnership has an obligation to file a T1135 and, if so, ensure that the partnership has correctly reported the required information. Important questions to ask are whether the existing partnership agreement currently provides the partners with these rights and imposes these reporting obligations on the partnership, and if not, whether the agreement can be amended to add these rights.

Under the conditions, it appears that, for example, a taxpayer who unintentionally makes a minor error in reporting income from specified foreign property (e.g., as a result having to convert a foreign currency amount into Canadian dollars), but otherwise fully complies with his/her T1135 return reporting obligations will nevertheless be subject to the extended limitation period if a partnership in which the taxpayer is a member fails to comply (or files the T1135 but fails to report correctly). On a plain reading of the relevant provision of the Income Tax Act (Canada) (the "Act"), even a small error or typo in reporting an amount in respect of the specified foreign property could pose a problem.

In an even more punitive measure, the extended limitation period applies to all taxation matters in the relevant taxation year, even those that have no connection to the foreign income or information in question.2

The T1135 return must be filed on paper (not e-filed) by the taxpayer's filing due date for the year. The T1135 return has detailed and complicated instructions, many of which make reference to specific provisions of the Act, making it difficult to understand even for the average sophisticated taxpayer. Furthermore, although the form itself contemplates that it can be filed on an amended basis, it may not be possible to "cure" an error (and therefore avoid the extension of the normal reassessment period) by filing an amended T1135 after its due date. It is therefore essential to ensure that the return is filed correctly and on time.

Not only are the consequences of imperfect compliance severe, perfect compliance may be challenging to achieve. Specified foreign property that must be reported in the T1135 return includes:

  • Funds held outside Canada;
  • Shares of non-resident corporations (other than foreign affiliates);
  • Indebtedness owed by non-residents (other than foreign affiliates);
  • Interests in certain non-resident trusts;
  • Real property situated outside Canada (other than personal use property and real property used in an active business); and
  • Other types of foreign property such as intangible property not used in a business and certain rights under contract.

Each property must be examined to determine if it is properly categorized as specified foreign property or not. For each specified foreign property the following information must be provided:

  • The relevant country code;
  • Its maximum cost amount during the year (or, in the case of funds held outside Canada, the maximum funds held during the year);
  • Its year-end cost amount (or, in the case of funds held outside Canada, the funds held at year-end);
  • The income, loss or gain from the property (and, in the case of an interest in a non-resident trust, the capital received).

As an administrative concession, the CRA has provided a safe harbour "check the box" exclusion for investments held in a Canadian reporting entity for which income is reported to the taxpayer on a T3 or T5 slip. Note that a particular property may qualify for the reporting exclusion in one year and not in another year depending upon whether sufficient income was earned for which a T3 or T5 slip was issued. Also, even if a T3 or T5 slip was issued in respect of all specified foreign property held by the taxpayer during the taxation year, the taxpayer must still file Form T1135 by the filing due date. In that case, the taxpayer must complete the identification information and check the reporting exclusion box on Form T1135.

In addition, on February 26, 2014, the CRA announced transitional reporting guidance, for the 2013 tax year only, to help taxpayers transition to the new reporting requirements. First, the CRA has extended the due date for filing Form T1135 for the 2013 tax year to July 31, 2014. Second, if a taxpayer held specified foreign property in an account with a Canadian registered securities dealer in the 2013 tax year, the taxpayer may report the combined value of all such property in the account at the end of the tax year, instead of having to report the details of each property as described above. If a taxpayer chooses to use this transitional reporting method, the method must be used for all of the taxpayer's accounts with Canadian registered securities dealers, and the taxpayer should report the combined value of all specified foreign property in each such account in Category 6 (other property outside Canada) on Form T1135.

CONCLUSION

The revised T1135 represents a significant change in foreign property reporting for Canadian taxpayers. For some taxpayers, the costs of compliance will dramatically increase. Tax preparers will have to assess the work involved in assisting their clients in completing this return, and the consequences of incorrect reporting. These practical factors, together with difficulties in obtaining adequate information from foreign sources, and the severe consequences of failing to perfectly comply, may cause some taxpayers to re-evaluate their current holdings. Taxpayers and their advisors should seriously consider the implications of these new foreign reporting requirements at their earliest opportunity.

Footnotes

1 Form T1135 is the return prescribed under subsection 233.3(3) of the Income Tax Act (Canada).

2 This was recently confirmed by the Canada Revenue Agency at the Canadian Tax Foundation 65th Annual Conference CRA Roundtable on November 27, 2013.

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