These days, those propositions are not sure things. The United States has been extending its reach, and the various states have been doing likewise in other respects. Here are a few items to take note:
Pre-emptive tax filing with the IRS for foreign corporations
A recent newsletter from BDO summarizes the tax position quite well:
- A non-resident—whether an individual or corporation—is subject to U.S. federal tax if they have income that is “effectively connected with the conduct of a trade or business within the United States.” The threshold for what constitutes "trade or business" is quite low, as even making sales calls to customers for soliciting orders, or shipping product to the US where title will pass there, will qualify.
- The Canada-US tax treaty will generally protect such income from being taxed by the IRS if it is not attributable to a "permanent establishment" as defined by that treaty. However, US law requires a foreign corporation to file form 1120-F (US Income Tax Return of a Foreign Corporation), together with form 8833 (Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b)), in order to claim such treaty protection. Individuals would need to file form 1040NR (US Nonresident Alien Income Tax Return) or 1040NR-EZ (US Income Tax Return for Certain Nonresident Aliens With No Dependents) plus form 8833 to claim similar protection. If not filed, you will be taxed on your gross income. Penalties and interest will apply if these forms are late-filed, even where you claim protection.
- US customers are now required to confirm that you qualify as either a US or foreign person through filing any of forms W-8BEN, W-8ECI, W-8IMY or W-8EXP (depending on your situation). Failure to file could result in a 30% withholding tax on any payments to you, but the appropriate return can be used to claim back improper withholdings.
- In order to file any of these forms, you will require a Social Security Number or Individual Tax Identification Number or, for corporations, an Employer Identification Number.
- Reporting obligations generally begin once eligible activity occurs.
There are other implications:
- The various states have even more aggressive rules for determining taxable income, and they are not bound by the tax treaty. Many of them have rules governing taxation of part-year residents (ie, taxing based on the days in the year in which you may have been in the state earning subject income), which does not exist in Canadian provinces. This is an area where you will really need professional help.
- For Canadian-controlled private corporations, income attributable to foreign sources will not be eligible for the Canadian small business deduction.
Permanent filing requirements for "US persons"
Of course, it could be worse: if you are a US citizen or green card holder, you have to file every year, no matter where you live in the world. Even if you are not, you are still required to file as a resident alien where:
- you have been in the US for 183 days or more in a given year, or
- you have been there for at least 31 days that year, and that number, plus 1/3 of such days the year before, and 1/6 of such days the year before that equal 183 or more (but there are exceptions), or
- you are a nonresident alien spouse of a resident alien who has elected to file jointly.
The rules concerning corporations are somewhat clearer: if it is formed under the law of any US jurisdiction, it is a US person. If it is formed outside the US, it is a foreign person. There is no residency or control test that would override this. The distinction makes a difference, as a US person is subject to tax on worldwide income, while a foreign corporation could face taxation on what was earned within the US. There are, however, complications that will arise in both scenarios that are too numerous to list here.
Are you employing a "US person"?
This is a serious question, and the IRS has asserted since 1992 that, if you are employing a US citizen or resident alien anywhere in the world, you are actually obliged to deduct US federal income tax from any related pay. This is subject to two important caveats:
- Such wages are not subject to US federal income tax withholding to the extent that such wages are already subject to the income tax withholding of a foreign country.This effectively means that, under the Canada-US tax treaty, income earned in Canada would be subject to Canadian taxes, but income earned outside Canada may be caught (subject to any treaties the US may have with other jurisdictions).
- Subject individuals may otherwise be entitled to a foreign earned income exclusion (worth USD 97,900 in 2014), but they must file Form 673 (Statement for Claiming Exemption From Withholding on Foreign Earned Income Eligible for the Exclusions Provided by Section 911) with their employer in order to reduce any applicable source deductions.
If you have any significant dealings with the US, you might need to review your payroll procedures, as the IRS is really becoming serious in enforcing this. Cathay Pacific announced this year that they were starting to make such deductions, which affected 18% of their cockpit crew. This may have something to do with ensuring that they keep their landing rights in the States.
Of course, if you have anyone working on United States soil—no matter what their status—you are obliged to deduct and remit the appropriate amounts to the appropriate jurisdictions. That's perfectly fair—after all, Canada asserts the same rule for anyone working here, whether the workers are residents or nonresidents.
The long arm of US jurisdiction
Taxation is not the only area in which you should be concerned with being caught up with United States jurisdiction. There is significant regulatory and legal exposure for actions you pursue outside their borders:
- In the 1950s, Eaton's was sued for violating US trademark law under the Lanham Act (Vanity Fair Mills, Inc. v. T. Eaton Co., 234 F. 2d 633 (2d Cir. 1956)). The suit was dismissed, but the court declared that extraterritorial jurisdiction was possible in certain circumstances.
- In 2011, a Chinese company was barred from exporting its products to the US, because it had ripped off certain trade secrets of an American manufacturer in violation of the Economic Espionage Act of 1996 (Tianrui Group Company Limited LLC v International Trade Commission, 661 F.3d 1322 (Fed. Cir. 2011)).
- There's also a catch-all provision in the US Criminal Code about making false statements, under which the Feds have been securing many convictions (for which Martha Stewart comes to mind), so be careful in answering any queries arising from investigations being undertaken. This is a separate offence from that relating to filing false returns under taxation laws.
- Let's not forget the amazing reach of the International Traffic in Arms Regulations, which regulate any export, re-export and deemed export of arms and technology between "US persons" and "foreign person," no matter where they are in the world. Canadian companies enjoy some relief due to a bilateral agreement, but there are still some very real barriers to be aware of.
- They are subject to US economic sanctions, which can affect dealings occurring outside the country, especially with respect to funds transfers and transportation of goods.
Be very careful, and investigate what you are getting yourself into, when you are dealing with US customers and suppliers, and with the American market in general. It's a different world down there!