Jun 21, 2023
What is Canadian Departure Tax?
When taxpayers emigrate from Canada, for tax purposes they are deemed to have disposed of their capital assets even though no assets are actually sold. Capital gains earned from the disposition of these assets will be taxed. This tax is known as departure tax or emigration tax.
The emigration referred to in this article is based on tax residence – an individual who was a tax resident of Canada becoming a tax resident of another country. Tax residence is separate from residence for immigration purposes. Instead, tax residence is determined based on a set of factors. The primary factors, those that have more weight in the determination of an individual’s residence, are: home in Canada, spouse or common-law partner in Canada and dependents in Canada. Secondary factors include driver’s license in Canada, economic ties to Canada, maintaining a Canadian passport, health insurance, bank accounts in Canada and social ties to Canada. A tax treaty between Canada and the country the taxpayer is emigrating to may also determine the residence of the taxpayer.
Does Departure Tax Apply to All Assets?
Departure Tax does not apply to all assets. No departure tax is paid on
- Real property located in Canada
- The Canadian property of a business, including capital property and inventory, which has a permanent establishment in Canada
- Excluded right or interest including Tax-Free Savings Accounts (TFSA) and Registered Retirement Savings Plans (RRSP)
- Property a taxpayer owned either when the taxpayer last became a resident of Canada or inherited after the taxpayer last became a resident of Canada. This exception applies only where the taxpayer was a resident of Canada for no more than 60 months during the ten year period prior to the taxpayer’s emigration.
How is Departure Tax Calculated?
Departure tax is calculated by determining the fair market value (FMV) of the asset when it was acquired less the FMV of the asset when the asset is deemed to have been disposed. Departure tax generates a capital gain or loss meaning only 50 percent of the difference between the FMV at acquisition and the FMV at disposition is included in the taxpayer’s taxable income.
If a taxpayer previously immigrated to Canada, the taxpayer is deemed to have acquired the asset on the date of the taxpayer’s immigration even if the asset was actually acquired prior to immigration. Otherwise, the date of acquisition will be when the taxpayer took legal title of the asset.
When is Departure Tax Reported?
Departure tax is reported with the taxpayer’s return for the year the taxpayer emigrates. For example, if Susan emigrated on March 18th 2020, she would report her departure tax with her 2020 Canadian tax filings.
If the FMV of all reportable property owned when the taxpayer emigrated from Canada exceeds $25,000 CAD, the taxpayer will need to complete the T1161 List of Properties by an Emigrant of Canada form. Reportable property excludes the following:
- Canadian currency
- Personal-use property, such as clothing and cars, valued at less than $10,000 CAD.
- Excluded right or interest, with some exceptions
- Property a taxpayer owned either when the taxpayer last became a resident of Canada or inherited after the taxpayer last became a resident of Canada. This exception applies only where the taxpayer was a resident of Canada for no more than 60 months during the ten year period prior to the taxpayer’s emigration.
This form is due by the tax filing deadline for the year the taxpayer emigrates. There is $25 a day penalty for late filing this form, with a minimum penalty of $100 and a maximum penalty of $2,500.
Delaying Departure Tax
Departure tax is usually paid when taxes for the tax year the emigration occurred are due to be paid. Taxpayers can, instead, choose to delay paying the departure tax until the actual disposition of the asset occurs. No interest will accrue on the unpaid departure tax during this time. This election does not apply to the deemed disposition of an employee benefit plan.
Taxpayers wishing to use this method must file Form T1244, Election, Under Subsection 220(4.5) of the Income Tax Act, to Defer the Payment of Tax on Income Relating to the Deemed Disposition of Property. If the federal amount of departure tax is more than $16,500, the taxpayer must arrange with the Canada Revenue Agency to provide adequate security, such as cash, shares in a Canadian corporation or Canadian real property. This limit is $13,777.50 for former residents of Québec.
The T1244 form and arrangements for security must generally be made prior to the tax filing deadline for the year in which the taxpayer emigrates from Canada. This deadline can be extended if there is “just and equitable” cause to do so.
An Exception to Departure Tax – Unwinding Departure Tax
If a taxpayer emigrates after October 1, 1996, and subsequently becomes a tax resident of Canada again, the taxpayer can claim back some of the departure tax previously paid per paragraph 128.1(6) of the Income Tax Act. If the taxpayer deferred the departure tax as explained above, the taxpayer’s security will be returned to them if appropriate.
If this election is made in respect of taxable Canadian property, the deemed disposition and reacquisition do not apply. There is no departure tax paid in respect of these properties related to the taxpayer’s most recent emigration. Please note the definition of taxable Canadian property has changed over time. If a particular property was taxable Canadian property at time of emigration but is no longer taxable Canadian property at time of immigration, special rules apply.
If the election is made in respect of assets which are not taxable Canadian property, the taxpayer may reduce the proceeds of disposition from the deemed disposition by whichever of the following has the least value. The taxpayer must have continued to own the property for the entire period the taxpayer was a non-resident of Canada.
- The amount of the gain reported on the taxpayer’s tax return in the tax year in which the taxpayer emigrated.
- The FMV of the asset on the date the taxpayer returns to Canada
- Another amount not in excess of any of the two above amounts.
This election does not impact penalties or interest. Even if the underlying tax is decreased because of the election, the taxpayer will still owe any penalties and interest assessed as if no reduction of the tax had occurred.
There is no particular form for filing this election. Instead, a taxpayer can have an experienced Canadian tax lawyer prepare a written request for this election including a list of all properties and their FMVs. This request is due by the filing deadline for the tax year during which the taxpayer re-establishes his or her Canadian tax residency.
Pro Tax Tips: Initial Reporting is Vital for Canadian Departure Tax
Departure tax can be confusing for many Canadian taxpayers. It does not apply to all assets, and those it does apply to, it assumes a pretend or artificial transaction. Incorrectly reporting departure tax can lead to penalties and interest for the taxpayer. Certain tax treaties, including the Canada-United States tax treaty even allow Canada to request another country collect this departure tax where the taxpayer refuses to pay and has no assets in Canada.
Departure tax must be reported in the tax year in which the taxpayer emigrates. The elections discussed above are also due by the relevant tax return filing deadline. Taxpayers are therefore advised to be proactive with understanding their tax reporting requirements for departure tax to avoid any reporting issues. Our experienced Canadian tax lawyers can advise on the appropriate reporting for departure tax, as well as tax residence and tax planning for emigration and immigration to Canada.
