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The U.S. estate tax for Canadian property holders

The U.S. estate tax for Canadian property holders

When an individual dies, the issue of the US estate tax arises.  US estate tax is applied at graduated rates based on the value of the individual’s taxable estate. US estate tax rates are the same regardless of if the individual is a U.S. citizen, resident, or non-resident.  The main difference is that for non-residents, only the value of property with a U.S. location or connection is included in calculating the estate that is subject to the tax. In this section, we’ll consider some of the U.S. estate tax issues that Canadian residents (who are not U.S. citizens or Green Card holders) should keep in mind if they own – or are considering buying – U.S. property.


How the estate tax applies 
U.S. estate tax applies to the fair market value of the world-wide property of a U.S. citizen, a Green Card holder, and an individual resident in the U.S. at the time of their death. As well, U.S. estate tax generally applies to property situated in the U.S. that is owned by non-residents of the U.S. In calculating an individual’s taxable estate, deductions for debts and certain expenses are permitted. However, for Canadian residents, the permitted deductions are prorated based on the value of their U.S. gross assets over their world-wide assets.
Unlike the U.S., Canada does not have an estate tax. But, when Canadian residents die, they are deemed to dispose of all of their capital property at fair market value, unless the property transfers to a spouse or a spousal trust. As a result, in the year of death, if you are a Canadian resident and you own U.S. real property, for Canadian purposes you may have a large “deemed” capital gain with respect to such property, in addition to a possible U.S. estate tax liability. In some cases, the combination of the Canadian tax and U.S. estate tax liability could end up being a substantial percentage of the value of the property.


U.S. estate tax changes
In June 2001, the U.S. passed a law that phases out the estate tax over the next decade. Under the legislation, the estate tax rate is gradually being reduced and the exemption amounts are being increased. Based on the changes made, the estate tax will be repealed for the 2010 year. However, this change may not be permanent.
Unlike Canadian tax law, the 2001 changes were contained in legislation referred to as a reconciliation act, and consequently, it was necessary to include a “sunset clause” to comply with U.S. law. Ignoring the legalities, what this really means is that the changes enacted will not apply after December 31, 2010. So, unless further steps are taken, the repeal of the estate tax will only actually last for one year – 2010. In 2011, the system will revert back to the rules that applied just before the 2001 reconciliation bill was enacted. Unfortunately, it is difficult to predict whether further steps will be taken to make this repeal permanent, or to perhaps continue the rules as they apply for 2009.


Estates of non-residents 
U.S. estate taxes can impose a burden on the estate of Canadians who owned U.S. real estate at death. U.S. federal estate tax applies to a decedents U.S. taxable estate at rates ranging from 18% to 55%, minus a unified credit (capped at U.S. $13,000 for non-U.S. citizens/residents). For U.S. estate tax purposes, non-residents are taxed on the fair market value of their U.S. “situs” property. U.S. situs property is basically property situated in the U.S. and includes, for example:


  • real property and tangible personal property situated in the U.S. at death,
  • U.S. securities,
  • certain U.S. debt obligations,
  • U.S. mutual funds including money market funds,
  • interests in certain trusts if the assets held by that trust have a U.S. situs, and any business-related assets owned by a sole proprietor and used in a U.S. business activity that are included in the sole proprietor’s gross estate. For example, these assets might include land, machinery and equipment, patents, accounts receivable and goodwill.


Assets normally excluded from the definition include: shares of a non-U.S. corporation (regardless of where the corporations assets are situated), U.S. bank deposits, certain U.S. corporate bonds that are publicly traded outside the U.S., certain debt obligations that qualify for the portfolio debt exemption from U.S. tax, life insurance proceeds payable on a non-resident aliens death.
The taxable estate for estate tax purposes is the gross value of all of the deceased’s property situated in the U.S., minus certain allowable deductions. The most significant deductions are:

  • Amounts left to the deceased’s spouse if the spouse is a U.S.
  • citizen (and will therefore be subject to U.S. estate tax on death)
  • amounts transferred to a qualified domestic trust a deduction for an allocable share of the deceased’s liabilities at time of death in respect of which the estate becomes liable including Canadian income taxes payable
  • a deduction for a non-recourse mortgage encumbering U.S. property