If you live outside Canada and are planning to sell Canadian real estate, it is important to understand the tax rules before you close. Many non-resident sellers are surprised to learn that Canadian tax law can affect how much of the sale proceeds they receive on closing and what filings are required afterward.
With early planning and the right advice, these issues can often be addressed before they interfere with closing.
Why non-resident sellers need to plan ahead
When a non-resident sells real estate in Canada, Canada may tax the profit from the sale. To protect the government’s ability to collect that tax, the rules can make the purchaser responsible for withholding and remitting part of the purchase price unless the seller obtains the proper CRA certificate.
In practical terms, if no advance steps are taken, the purchaser may need to hold back:
- 25% of the purchase price in many cases, or
- 50% in some cases, such as certain depreciable property.
Because this holdback is based on the purchase price rather than the actual profit, it is often much higher than the seller’s final tax liability. That can create an unnecessary cash-flow problem at closing.
How the holdback can often be reduced
The good news is that a non-resident seller can often reduce this holdback by applying to CRA for a certificate of compliance under section 116 of the Income Tax Act, commonly referred to as a clearance certificate.
To do this, the seller must notify CRA of the sale using the required forms. It is best to begin the process before closing, although in some cases the filing can be made shortly afterward. Starting early is important since delays can affect closing and late filings may result in penalties.
Once CRA reviews the application and any required payment or security is provided, the certificate can be issued. This usually allows the purchaser to reduce the amount withheld and helps the transaction proceed more smoothly.
Outstanding compliance issues can delay or prevent the certificate
One often-overlooked issue is that CRA may delay or refuse to issue the certificate if important compliance matters are still outstanding. In particular, for residential property, CRA may refuse to issue the certificate if it is not satisfied that required Underused Housing Tax returns have been filed and any related amounts owing have been paid.
This can be costly for a seller. Without the certificate, the purchaser may insist on holding back a sizable portion of the sale price, as outlined above.
As a result, failing to obtain the certificate can tie up a large amount of cash for months, create pressure at closing, and delay access to sale proceeds until the tax filings are completed and CRA processes the matter.
Extra care is needed for rental or depreciable property
If the property was used to earn rental income, or is otherwise depreciable property, the tax process can be more involved.
This is because the seller may need to deal not only with any capital gain, but also with possible recapture of depreciation claimed in prior years. In those situations, additional forms may be required and the amount payable to CRA may not be a simple percentage of the gain.
For this reason, sales of rental, commercial, or other depreciable property should be reviewed carefully well before closing.
The tax process does not end at closing
Obtaining a CRA clearance certificate does not eliminate the seller’s filing obligations. In most cases, a non-resident seller must still file a Canadian income tax return for the year of sale.
That return reports the actual results of the transaction and reconciles the final tax liability. If too much was remitted to CRA at closing, the excess may be refunded after the return is filed and assessed.
Other tax issues may also apply
GST/HST may also apply depending on the type of property being sold. Sales of used residential property are often exempt, while commercial real estate and certain other types of property may be taxable. The GST/HST rules should be reviewed separately since the section 116 clearance certificate process does not determine whether GST/HST applies.
If the property is residential, prior Underused Housing Tax compliance may also affect CRA’s ability to issue the certificate.
And if the property is located in Quebec, separate Quebec tax filing or clearance requirements may apply in addition to the federal rules.
Given the complexities non-resident vendors face, it is beneficial to seek professional advice before selling. Here at Welch LLP, one of our tax specialists can help you avoid costly mistakes. Contact us now to learn more.
