In most cases, U.S. individuals who live and work in Canada do not end up owing any income taxes on their U.S. tax return because the taxes paid in Canada will generally offset any U.S. tax liability.
However, with the implementation of “Obamacare” this may longer be the case. Some high income U.S. individuals who live abroad may start owing tax to Uncle Sam.
Basics of Obamacare
Obamacare, or the Net Investment Income Tax (NIIT) as it’s officially known, went into effect on January 1, 2013. The NIIT imposes a 3.8% surtax on net investment income.
The NIIT will affect income tax returns of all U.S. individuals, estates and trusts for the tax year beginning January 1, 2013 that are above the thresholds described below.
Who is subject to Net Investment Tax?
U.S. individuals will be subject to the NIIT if they have Net Investment Income and also have modified adjusted gross income over the following thresholds:
Married filing jointly
Married filing separately
Head of household (with qualifying person)
Qualifying widow(er) with dependent child
Essentially, if the U.S. individual’s total income is greater than the threshold and you have Net Investment Income, you will most likely be subject to the NIIT.
Net Investment Income generally includes the following: interest, dividends, capital gains, rental and royalty income, non-qualified annuities, businesses that are passive activities to the taxpayer (within the meaning of IRC section 469), less allowable investment expenses (ex. investment advisory fees, expenses related to rental and royalty income).
Examples of NIIT Calculation
Example #1 – Mr. Smith’s filing status is single and he has $150,000 of wages. Mr. Smith also received $75,000 of net rental income from various rental properties and $10,000 of interest income. Mr. Smith’s modified adjusted gross income is $235,000.
Mr. Smith’s modified adjusted gross income exceeds the threshold of $200,000 for single taxpayers by $35,000 and his net investment income is $85,000 ($75,000 +$10,000).
The NIIT is based on the lessor of $35,000 (the amount that Mr. Smith’s modified adjusted gross income exceeds the $200,000 threshold) or $85,000 (Mr. Smith’s net investment income).
Mr. Smith’s will owe $1,330 of NIIT ($35,000 x 3.8%).
Example #2 – Mr. and Mrs. Johnson’s filing status is married filing jointly. They have wages of $200,000 and have interest and dividend income of $100,000. Mr. and Mrs. Johnson’s modified adjusted gross income is $300,000.
Their modified adjusted gross income exceeds the threshold of $250,000 for taxpayers who are married filing jointly and their net investment income is $100,000.
The lessor of the amount that their modified adjusted gross income exceeds the threshold or their net investment income is $50,000.
Mr. and Mrs. Johnson will owe $1,900 of NIIT ($50,000 x 3.8%).
Example #3 – Mrs. Jones filing status is single and she has $100,000 of wages and received $50,000 dividends and $10,000 of net rental income.
Mrs. Jones’ modified adjusted gross income is $160,000 which is less than the $200,000 threshold. Mrs. Jones is therefore not subject to the NIIT.
How this Affects Non-Resident U.S. Individuals
For non-resident U.S. individuals earning more than $200,000 the NIIT could have significant consequences because foreign taxes (i.e. taxes paid in Canada) will most likely not be credited against the 3.8% NIIT.
By not being able to use foreign taxes to offset this additional tax, U.S. individuals living in Canada could potentially see themselves cutting cheques to the IRS for their share of the NIIT.
The information contained in this article is for general use only and should not be viewed as professional advice. Accounting and tax rules and regulations regularly change and individuals should contact a competent professional to obtain accounting and tax advice based on their specific situation.
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