What are tax implications of owning (or inheriting) U.S. assets on your death?
Regardless of the temporary interruption to travel caused by COVID-19, we are living in an increasingly globalized society. Individuals frequently cross international borders to live, work, invest and do business. The long-standing friendly relationship between Canada and the United States has resulted in many Canadians and Americans developing connections and acquiring assets on both sides of the border.
Although Canada and the United States are similar in many ways, each country's system of taxation when an individual dies is very different. To many persons' surprise, Canadians who are dual citizens or who have U.S.-situs assets (such as U.S. real estate, shares in U.S. corporations and U.S. pension plans and IRAs) may be exposed to U.S. estate taxes on their death. Absent proper estate planning, such individuals may also unnecessarily expose their beneficiaries to U.S. estate taxes upon their own deaths.
What is the U.S. estate tax?
The U.S. estate tax is imposed on the death of both U.S. citizens (based on their worldwide estates) and non-U.S. citizens (to the extent that they hold certain U.S.-situs assets). In 2021, U.S. citizens are exempt from estate taxes on their first US$11.7 million of worldwide assets. Any worldwide assets in excess of this amount are taxed at a rate of up to 40 per cent.
For non-U.S. citizen Canadians with U.S.-situs assets, the estate tax exemption is “ground down” based on the proportion of their U.S.-situs assets to their worldwide estate and then their estates are subject to estate taxes on the value of their U.S.-situs assets in excess thereof.
For example, a Canadian's U.S.-situs assets that comprise only 10 per cent of her worldwide assets at death will only be entitled to an exemption of US$1.17 million and the value of any U.S.-situs assets in excess of this amount will be subject to estate taxes at a rate of up to 40 per cent.
The current estate tax exemption of US$11.7 million is the highest that the estate tax exemption has ever been. The Biden campaign has proposed to reduce the estate tax exemption amount to US$3.5 million and to increase the top tax rate applied to estates to 45 per cent. The reduction in the exemption will subject many more individuals to U.S. estate taxes.
How can I reduce my beneficiaries' exposure to U.S. estate taxes?
There are estate planning strategies that can be implemented to limit (or even eliminate) a beneficiary's exposure to U.S. estate taxes on his or her own death. In order to be effective, this planning must be completed prior to a beneficiary inheriting.
U.S. estate tax protection is most commonly achieved by using certain “Americanized” trusts which cause the assets to never formally vest in the beneficiary for U.S. tax purposes (and thus not be subject to U.S. estate taxes upon his or her death). Such trusts limit payments to the beneficiary of income and capital for “health, education, maintenance or support” purposes.
Notwithstanding these income and capital limitations, there is some flexibility in these trusts if payments of income and/or capital beyond these limitations is required. Further, beneficiaries can generally be trustees of their own trusts — affording the beneficiary a certain level of control over the assets.
As Canadians and Americans increasingly take advantage of opportunities to live and work on both sides of the border, estate planning becomes more complicated.
Originally Published by The Lawyer's Daily
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
