This article was originally published on Apr. 16 2019 by The Lawyer’s Daily (www.thelawyersdaily.ca), part of LexisNexis Canada Inc.

The 2017 Tax Reform Act (the Act) signed into law by U.S. President Donald Trump in December 2017 affects taxpayers who are getting a divorce — even if one is a Canadian resident.

Before the Act, individual taxpayers could deduct alimony or separate maintenance payments under Internal Revenue Code (IRC) s. 215. The alimony recipient was required to include the alimony as gross income under IRC sec. 61(8) and sec. 71(b) on the U.S. tax return.

A payment is considered alimony if:

  • Payment is received by (or on behalf of) a spouse under a divorce or separation instrument;
  • The divorce or separation agreement doesn’t specify that the payment is not includible in gross income of the payee spouse or is not deductible to the payor spouse;
  • The spouses/former spouses don’t live in the same household when payment is made; There is no requirement to continue making payments following the death of the recipient spouse;
  • The payment isn’t a fixed sum under the terms of the divorce or separation agreement for the support of the children.

Under the Act, alimony payments are no longer deductible on the U.S. income tax return if the separation or divorce agreement is executed after Dec. 31, 2018. On the other hand, the recipient spouse will no longer have to report alimony as taxable gross income.

However, for those agreements in place prior to Jan. 1, 2019, these changes do not apply as the original provisions are grandfathered into the agreement unless changes are made after Dec. 31, 2018, to the original agreement, in which case, new rules apply.

The bottom line? The new rules affect how alimony payments are negotiated and calculated under a divorce settlement. Prior to the Act, the recipient spouse had a bargaining chip that allowed the payor spouse to deduct alimony payments. Now, negotiations may become a drawn-out affair as divorcing parties try to reach an agreement.

What if the recipient spouse is not a U.S. person and resides in Canada, and the payor spouse resides south of the border? Under Canadian domestic law, a Canadian resident receiving alimony from the U.S. must report the income on their tax return, but the payor spouse will not have a corresponding deduction for the alimony payments. There is no longer a benefit on both sides of the border. Instead, both parties are at a disadvantage as Canadian tax is owed on the alimony income, and U.S. tax of the payor spouse is not reduced by the amount of alimony payments.

The result is more U.S. tax owing than under the old rules. However, there is relief under the U.S.- Canada Income Tax Convention (1980) (the Treaty), which allows Canadian residents receiving alimony payments from a U.S. payor to exclude the payments as taxable income if the agreement was executed in the U.S.

A U.S. citizen payor resident in Canada can deduct alimony payments on his/her Canadian tax return, but not in the U.S. However, the Canadian tax on the alimony payments can be claimed as a foreign tax credit on the U.S. tax return only on certain U.S. source income (i.e., employment income, other U.S. source private pension). Therefore, there may still be some benefit to a U.S. citizen payor who is resident in Canada.

Because alimony deductions are no longer available for U.S. tax purposes, adjustments to withholding taxes are a consideration for a payor spouse under an otherwise grandfathered divorce agreement that was revised after 2018. Under prior law, alimony payments reduced taxes withheld against the payor spouse’s wages. Under the new law, the payor spouse must increase withholdings due to the loss of the alimony deduction. The payor spouse will have to provide their employer with an updated Form W4 Employee’s Withholding Allowance Certificate.

A Canadian resident payor spouse isn’t required to withhold Canadian, non-resident tax from support payments to a former spouse who resides outside Canada and the U.S., provided certain conditions are met. On the U.S. side, the payor must withhold tax at 30 per cent, unless there is a treaty in force with the country where the payee spouse resides. Form 1042-S, Foreign Person’s U.S. Source Income Subject to Withholding, is required to report the alimony payments to a non-U.S. payee, whether or not the payment is subject to withholding tax or is exempt under a bilateral treaty.

Therefore, it is important that the payor spouse obtain from the payee spouse a duly completed and signed Form W-8BEN, Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting (Individuals). This will ascertain the residency status of the payee spouse and eligibility for treaty exemption. Otherwise, the payor spouse would be liable for any withholding taxes that are under-withheld.

The best advice for divorcing parties is to ensure that both parties work with competent cross-border divorce lawyers in tandem with a competent cross-border tax adviser. This will ensure tax compliance on both sides of the border and at the negotiating table

On October 29, 2018, through technical interpretation (TI 2018-0750411E5), the Canada Revenue Agency (CRA) confirmed a couple of things regarding US individual retirements accounts (IRAs) that are transferred to an RRSP upon expatriation (giving up US citizenship or surrendering/abandoning a green card). First they may be subject to both US and Canadian income tax, and second, later contributions to an RRSP comprising funds rolled over from an IRA are not deductible in Canada.

In other words…

Let’s say you are a Canadian citizen who once lived and worked in the US and held US lawful permanent resident (“green card”) status for at least 8 years (caution must be exercised with the definition of 8 years!). During that time, you were contributing to an IRA. You later decide to move back to Canada and, of course, you want to take your IRA investments with you. You decide to relinquish your green card, but your net worth on the day of relinquishment is more than $2 million USD (or your average tax payable in the US is above a certain threshold). For US tax purposes, you will be viewed as having expatriated for tax reasons and will be deemed to have received a distribution of your entire interest in the IRA. As a result, you will have to pay US income tax on the entire amount in the IRA that is deemed distributed. Canada would view the deemed distribution to be a payment received out of the IRA and simultaneously tax it.

As a bonus (tongue in cheek), the US taxes paid in respect of the “deemed distribution” on expatriation are not creditable against Canadian taxes!!! When the funds in the IRA are actually withdrawn, you transfer them to an RRSP and claim the deduction, right? Not in this case. You’ve already paid US and Canadian taxes, therefore, it will not be subject to further US and Canadian tax on withdrawal. However, even if the IRA amount is already taxed in Canada, any contributions you make to the RRSP that holds IRA funds cannot be claimed as a deduction for the tax year of the withdrawal from the IRA.

The above treatment equally applies to former US citizens who renounce or relinquish their citizenship as “covered expatriates”.

The CRA has noted that this matter will be brought to the attention of the Department of Finance for the consideration of a possible legislative change.

Non proprietary. This article was originally published by Paul Jones on April 10 2019 on Taxnotes.com

The California State Legislature has passed a remote seller and marketplace facilitator bill with a $500,000 sales threshold.

The Senate passed A.B. 147 with amendments on a 36–0 voteApril 4, and the Assembly concurred with the Senate changes on a 67–0 vote April 8. The bill now goes to the desk of Gov. Gavin Newsom (D).

A.B. 147 would require remote retailers and marketplace facilitators to collect and remit state and local sales tax when the value of their annual sales into California exceeds $500,000. For marketplaces such as Amazon and eBay, the sales counting toward that threshold would include both their own sales and those they facilitate for their third-party sellers.

Following the Supreme Court’s decision in South Dakota v. Wayfair Inc., California implemented stopgap regulations that required remote retailers to collect and remit sales tax when their annual sales into the state meet $100,000 or 200 separate transactions, effective April 1. A.B. 147 would eliminate those thresholds in favor of the $500,000 limit. The bill’s remote seller provisions would also be effective back to April 1.

This article was originally published on April 4 2019 on The Financial Independence Hub (www.findependencehub.com.com)

On December 22, 2017, the largest U.S. tax reform in over 30 years was signed into law by U.S. President  Donald Trump. The new law brought with it several important changes that affect individual taxpayers who are going through, or have gone through, a divorce. As if divorce isn’t already costly enough!

Prior to the 2017 Tax Reform Act, Section 215 of the U.S. Internal Revenue Code  allowed individual taxpayers to claim alimony payments as a legitimate deduction. The deduction was permitted because section 71(a) of the IRC required the recipient spouse to include the alimony received in his/her adjusted gross income.

For tax purposes, a payment is considered alimony if all of the following criteria are met:

  • Each spouse files a separate return
  • Payment is made in cash (including check or money order)
  • Payment is made to a spouse/former spouse pursuant to a divorce or separation agreement
  • The divorce or separation agreement does not specify that the payment is “not alimony”
  • The spouses/former spouses are not living in the same household when payment is made
  • There is no requirement to continue making payments following the death of the recipient spouse
  • The payment is not treated as child support or a property settlement.

However, under the new Act alimony payments are no longer deductible on U.S. income tax returns if the separation or divorce agreement is executed after December 31, 2018. In addition, the person receiving alimony no longer has to claim these payments on their tax return as part of their gross income.

These changes are permanent, unlike other personal tax measures included in the Tax Reform Act. For those who have agreements in place prior to January 1, 2019, these changes do not apply because the original provisions are grandfathered into the agreement. But, as of January 1, if changes are made to the original agreement, the amended agreement must state that the new rules will not apply, or else they will. In other words, the parties must “opt-in” to the 2017 provisions if there is a modification of the separation or divorce instrument after 2018.

Prior to these changes, the recipient spouse had something of a bargaining chip when negotiating alimony payments. Why? The paying spouse could deduct the payments dollar-for-dollar, making the amount of the alimony payment almost a non-issue as it would come back to the party paying it in the end. Now, it is likely that negotiations will become a more drawn-out affair as divorcing couples struggle to come to an agreement as to what is fair to both parties under the new law.

With any major tax law overhaul, we can always speculate as to the rationale for certain changes. This is one of those situations where there doesn’t seem to be any real benefit to either party and, in fact, simple calculations show that these changes typically result in less after-tax income for both the payor and the payee. Perhaps, U.S. lawmakers were looking out for families by making divorce a less-attractive option in times of trouble?

Overall, these changes are quite a departure from laws that have been in place for decades, and they will bring upheaval and adjustment for divorce lawyers and divorcing taxpayers alike. That’s why it’s so important to consider all the factors, and geographies, involved when drafting up new settlement agreements.

What if recipient spouse resides in Canada?

Now let’s consider a twist to the post-marital arrangement. The spouse paying alimony is a U.S. resident, and the recipient spouse is a nonresident alien, residing in Canada. Domestic laws in Canada remain unchanged in that the Canadian resident receiving alimony from the U.S. must report the income on their Canadian tax return. The result is a situation where the alimony payment is now taxed twice – once in the U.S. where alimony is no longer deductible, and again in Canada where it is taxable income for the recipient. Fortunately, there is relief under the U.S.-Canada Income Tax Convention (1980) which we will call the Treaty.

The Treaty provides relief by allowing Canadian residents receiving alimony payments from a U.S. payor to exclude the payments as taxable income if the agreement was executed in the U.S. Conversely, a payer of alimony who is resident in Canada will not be eligible to deduct the payments in computing their Canadian tax liability if the divorce or separation agreement was executed in the U.S. The trouble here, however, is that under Canadian law the Treaty overrides the domestic law, while under U.S. law, the most recently enacted law prevails. What does this mean?

If the agreement is initiated in the U.S., it’s unlikely that the Treaty will mitigate the potential for double taxation. Remember what realtors say about the importance of “location, location, location, location”?  The same is true here. It will matter on which side of the border the separation or divorce was initiated.

Because alimony deductions are no longer available for U.S. tax purposes, you may want to consider updating your Form W4 Employee’s Withholding Allowance Certificate with your employer because tax withholding from your wages should be increased.

Is withholding required when the two parties reside in different countries?  Good question. A person who is paying alimony who is resident in Canada does not have to withhold nonresident tax from the support payment as long as certain conditions are met. But on the U.S. side the payer must withhold tax at 30%, unless there is a treaty in force with the country where the recipient lives. However, unlike Canada, the treaty exemption from withholding does not absolve the payer from the reporting obligation on Form 1042-S. Therefore, it is important that the payer obtain a current Form W-8BEN from the recipient in order to document his or her residency status.

If you’re in this boat, it is best to ensure that your divorce lawyers work closely with a knowledgeable tax advisor who knows U.S. law. That way, everyone will have compliance on both sides of the border: and at the negotiating table. In short, peace is always better than war.