A tax update is planned on U.S. GILTI tax system. Here’s what U.S. shareholders of a Canadian corporation need to know.
Joe Biden’s arrival in the White House may increase the tax burden on U.S. shareholders of Canadian corporations that are subject to the U.S. GILTI (global intangible low-taxed income) tax system.
If the new U.S. President’s tax proposals are implemented, the U.S. corporate tax rate will increase from 21% to 28% and the GILTI tax rules will be tightened.
For U.S. shareholders of a U.S.-controlled Canadian corporation (which includes certain Canadian entrepreneurs with dual citizenship), these changes could restrict access to a new tax relief measure introduced in the summer of 2020 called the GILTI high-tax exclusion (GILTI HTE).
What is GILTI?
The GILTI tax regime was introduced by the Trump administration as part of the December 2017 tax reform.
Under the GILTI plan, a U.S. shareholder who owns at least 10% (by number of votes or by share value) of a non-U.S. corporation controlled (more than 50%, as defined) by Americans may be required to include its share of such a corporation’s net income in its gross income. (Note that net income is calculated according to the special rules of the GILTI plan).
This share is equal to the U.S. shareholder’s share of the foreign corporation’s net income based on the U.S. shareholder’s ownership percentage less 10% of the value of certain tangible assets of the foreign corporation (pro-rated based on the U.S. shareholder’s ownership percentage).
The amount so determined is included in the U.S. shareholder’s gross income even if the foreign corporation has not made any distributions.
This additional income is subject to U.S. personal income tax (currently up to 37%, but which Joe Biden wants to increase to 39.6%). A foreign tax credit is not available, since this income is not subject to personal income tax on dividends in the foreign country.
New tax relief
Following the enactment of the GILTI HTE measure, a U.S. shareholder of a Canadian corporation can now claim a high foreign tax exception if the Canadian corporation is subject to an effective tax rate that exceeds 90% of the U.S. corporate tax rate.
Currently, this rate is 21%. This means that if the effective Canadian tax rate is above 18.9% (as is generally the case), a U.S. shareholder subject to GILTI tax can benefit from GILTI HTE. Therefore, the U.S. shareholder will not have to include the additional income in its taxable income under the GILTI Plan.
However, be careful, as the measure refers to the concept of effective tax rate. The effective tax rate could be less than 18.9% for certain Canadian corporations, including those that have a high refundable dividend tax (RDT) for the year or those that benefit from certain tax credits, such as research and development related credits.
Access restricted to new measure
In his tax reform package, President Biden proposes to increase the U.S. corporate tax rate to 28% and to double the GILTI tax rate from 10.5% to 21%.
As a result, if such measures are implemented, the effective Canadian tax rate would have to be higher than 25.2% (90% of 28%) instead of 18.9% (90% of 21%) in order to benefit from GILTI HTE. With Democrats having a majority in both houses, it is possible that these tax changes could be passed within two years, before the mid-term elections.
It should be noted that Biden’s tax changes would also restrict access to another means of eliminating the GILTI tax. This alternative, which is more complex to implement than the GILTI HTE, is the tax election under section 962 of the Internal Revenue Code (IRC). With this alternative, to eliminate the GILTI tax, the effective foreign tax rate would have to be higher than 26.25%, instead of the current threshold of 13.125%.
In conclusion, the GILTI tax may be an additional tax burden for our Canadian entrepreneurs with dual citizenship, especially if the measures proposed by Biden are adopted. For this reason, it is important to consult a cross-border tax expert who can assess the present and future risks of the GILTI tax system and suggest solutions to mitigate the impact of this additional tax.
Our team of international tax experts offers personalized advice based on the specific considerations of each case. Contact us to speak with one of our specialists.
01 Feb 2021 | Written by :
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Canadian businesses that carry people or goods to the United States are subject to various tax obligations.
Carriers are subject to both U.S. federal and state tax rules. Note that tax obligations vary greatly from state to state, and in some states, simply transiting through a state may trigger a state tax obligation.
Federal requirements
Under the Canada-U.S. tax treaty, a Canadian carrier is not subject to U.S. federal tax provided it does not have a permanent establishment in the U.S. and is only involved in international transportation (Canada to the U.S. and U.S. to Canada).
However, the carrier must file the required form to invoke the tax treaty and a non-resident tax return with the U.S. tax authorities. These documents must be submitted within five and a half months of the fiscal year-end. In the absence of this return, the Canadian carrier would be taxable at the U.S. federal level.
Generally, carriers must also file an information return with the federal government and pay the annual highway use tax. This tax is based on the number and weight of heavy vehicles on U.S. highways. The required return covers the period from July 1st to June 30th. The return and payment must be submitted by August 31st of the year to which they apply.
Each state has its own rules
To be subject to U.S. state taxes, a business must have a sufficient presence or Nexus in a state. For example, having an office or inventory on consignment in a state will generally trigger Nexus.
Each state has its own definition of Nexus. For a Canadian carrier, Nexus could be triggered by one or more of the following criteria:
- Annual total number of pick-ups and deliveries in a state;
- Annual total number of trips in the state;
- Annual total kilometrage travelled in a state.
Several states are party to the Canada-U.S. tax treaty. In these states, a Canadian carrier does not have to pay state income tax (if it does not maintain a permanent establishment there). On the other hand, it could be subject to another form of taxation, such as a minimum tax based on sales or a capital tax.
It should be noted that major states such as New York, Pennsylvania and California are not party to the tax treaty.
The company must file an annual tax return in each state where it has Nexus (whether or not the state is party to the tax treaty), within three and a half months of the fiscal year-end (two and a half months if the year-end is June 30th).
To determine its state tax obligations, a Quebec carrier usually relies on its internal pick-up and delivery reports, as well as on its quarterly fuel tax returns submitted to the Quebec government. These returns determine the kilometrage travelled in each territory: Canadian provinces/territories and U.S. states.
U.S. taxation is complex, and there are several tax implications that must be considered in the case of cross-border transportation activities with that country. Do you have questions or need advice? Contact our international tax experts.
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