Backgrounder: Intergovernmental Agreement for the Enhanced Exchange of Tax Information under the Canada-U.S. Tax Convention
In March 2010, the U.S. enacted the Foreign Account Tax Compliance Act (FATCA). FATCA would require non-U.S. financial institutions to report to the U.S. Internal Revenue Service (IRS) accounts held by U.S. taxpayers. Failure to comply with FATCA could subject a financial institution or its account holders to certain sanctions including special U.S. withholding taxes on payments to them from the U.S.
FATCA has raised a number of concerns in Canada—among both dual Canada-U.S. citizens and Canadian financial institutions. One key concern was that the reporting obligations in respect of accounts in Canada would compel Canadian financial institutions to report information on account holders who are U.S. residents and U.S. citizens (including U.S. citizens who are residents or citizens of Canada) directly to the IRS, thus potentially violating Canadian privacy laws.
Without an agreement in place, obligations to comply with FATCA would have been unilaterally and automatically imposed on Canadian financial institutions and their clients as of July 1, 2014.
Canada and the U.S. have a long history of exchanging tax information, going back to the first comprehensive tax treaty signed between the two countries in 1942. The current Convention Between Canada and the United States of America with Respect to Taxes on Income and on Capital was first signed on September 26, 1980, and has been amended several times since.
The purpose of the Convention is to avoid double taxation (i.e., a situation where a taxpayer would have to pay tax on the same income twice, once in the U.S. and once in Canada) and to prevent the evasion of taxes on income and on capital, including through the exchange of tax information. The intergovernmental agreement (IGA) signed by Canada and the U.S. on February 5, 2014, will enhance that information exchange and support international efforts to improve the automatic exchange of tax information to increase tax compliance and fight tax evasion.
The IGA is consistent with Canada's support for the recent G-8 and G-20 commitments to develop a global standard for the automatic exchange of tax information.
The IGA takes into account the objectives and provisions of the U.S. FATCA legislation, while supporting Canada's objectives for improving the integrity and fairness of the Canadian tax system. The IGA addresses the Canadian concerns about FATCA described above, as well as others.
The IGA between Canada and the U.S. is similar to the ones negotiated with the United Kingdom and several other countries. To date, over 90 countries have either signed an agreement or reached an agreement in substance with the U.S.
Legislation to implement the IGA, including related amendments to the Income Tax Act, was set out in Part 5 of Bill C-31, which received Royal Assent on June 19, 2014.
Below are some key features of the IGA.
Reporting and Privacy
Canadian financial institutions will report information on their U.S. clients directly to the Canada Revenue Agency (CRA), which will ensure that the collection and use of the information is consistent with Canadian privacy laws. In addition, exchanged information will be protected by the provisions of the Canada-U.S. Tax Convention.
U.S. Taxes and Penalties
The IGA will not impose any new U.S. taxes or penalties for non-compliance with U.S. tax laws on U.S. persons holding accounts at Canadian financial institutions, or provide for additional assistance in collection beyond that already permitted by the Canada-U.S. Tax Convention. The IGA is strictly an information-sharing agreement.
The IGA also protects Canadians and Canadian financial institutions from the tax withholding provisions in FATCA.
Limits on Reporting
The IGA exempts key Canadian savings vehicles from being reviewed and reported on, including most federally registered accounts such as:
- Registered Retirement Savings Plans
- Registered Retirement Income Funds
- Pooled Registered Pension Plans
- Registered Pension Plans
- Tax-Free Savings Accounts
- Registered Disability Savings Plans
- Registered Education Savings Plans
- Deferred Profit Sharing Plans
Smaller deposit-taking institutions, such as credit unions, with assets of less than $175 million will be exempt.
The IGA is reciprocal, meaning that information will flow both ways between the tax administrations of the two countries to assist each in administering its own domestic tax laws. The information exchanged will provide tax authorities with greater information on accounts held by their taxpayers in the other country.
In accordance with the IGA, the implementing legislation, and the CRA guidance, financial institutions in Canada will begin applying due diligence procedures starting in July 2014. Information reporting by financial institutions to the CRA will begin by May 1, 2015 and exchanges of information by the CRA with the U.S. pursuant to the IGA will begin by the end of September 2015.
U.S. Tax Filing Obligations
Since 1913, U.S. persons in Canada, including dual citizens, have been required under U.S. tax law to file an annual U.S. federal income tax return with the U.S. Internal Revenue Service (IRS). In addition, since 1972, these persons have been obliged to file an annual Foreign Bank Account Reporting (FBAR) form with the U.S. Department of the Treasury.
The IRS has a streamlined process to recognize that some U.S. persons living abroad have not filed timely U.S. federal income tax returns or FBAR forms. Information on this process can be found on the IRS website.