It wasn’t that long ago that the Canadian dollar was par with the U.S. dollar. Many Canadians took advantage of this and purchased various U.S. assets (ex. U.S. vacation/rental properties, U.S. securities, etc.).
However, over the last few years, the Canadian dollar has been steadily depreciating leaving many Canadians with foreign exchange gains on any U.S. denominated assets that they hold.
These gains, which depending on when individuals purchased the asset, can be substantial and many people are unaware of the potential tax consequences that can arise if the asset is sold.
For example, let’s assume that in 2010 Mr. Jones purchased a home in Phoenix, Arizona. Mr. Jones is a snowbird; he lives in Canada during the summer and spends his winters in Phoenix enjoying the hot weather. Mr. Jones purchased his Phoenix home for $300,000 U.S. when the exchange rate was $0.95 ($1 U.S. = $0.95 CDN).
Using this exchange rate, Mr. Jones’ adjusted cost base (ACB) for this property for Canadian purposes is $285,000 ($300,000 x $0.95).
In 2015, Mr. Jones decides he wants to sell his Phoenix Arizona house. The U.S. housing market has enjoyed a decent recovery, so his home is now worth $400,000 U.S. He manages to sell the property for $400,000 U.S. on August 15, 2015 when the exchange rate was $1.31 ($1 U.S. = $1.31 CDN).
Using this exchange rate, Mr. Jones’ proceeds from his sale are $524,000 CDN. His capital gain for Canadian purposes is $239,000 ($524,000 – $285,000) whereas his capital gain for U.S. purposes is only $100,000 ($400,000 – $300,000).
Mr. Jones’ will receive a foreign tax credit in Canada for the taxes that he pays to the U.S. on the gain, but he will most likely be looking at a hefty tax bill on his Canadian tax return due to the substantial swing in the foreign exchange.
For individuals or businesses earning U.S. source income these foreign exchange gains and the potential taxes owed on them could be just as substantial.
For example, Ms. Smith is a Canadian resident and has a consulting business. Her consulting business has various contracts with U.S. companies who pay her in U.S. dollars. For the period of January 1, 2015 – December 31, 2015 she earned $150,000 of U.S. consulting income. The average exchange rate for this period, per the Bank of Canada website, was $1.28 ($1 U.S. = $1.28 CDN).
Ms. Smith may not be aware, but for Canadian purposes she will have to report the U.S. consulting income in Canadian dollars on her Canadian tax return. Due to the Canadian dollars devaluation when compared with the U.S. dollar, Ms. Smith will be reporting $192,000 of consulting income on her Canadian tax return.
Due to the complexities of the U.S. and Canadian tax codes it is important to discuss your specific situation with one of our qualified professionals when earning income from the U.S. to ensure that your filing obligations have been satisfied.