It's 2022 and time to revisit the issue the US taxation of the #TFSA: "Canada U.S. Tax Treaty: Why the 5th protocol of the Canada US Tax Treaty Clarifies that the TFSA is a pension within the meaning of the Canada U.S. Tax Treaty" https://t.co/1qVKlrz0Po via @expatriationlaw
— John Richardson – lawyer for "U.S. persons" abroad (@ExpatriationLaw) March 10, 2022
In 2018 I wrote a post arguing that it is reasonable to conclude that the text of the Canada US Tax Treaty should be interpreted to mean that a Canadian TFSA is – like a US ROTH IRA – a pension within the meaning of the Canada US Tax Treaty. The 2018 post was arguing for equal treatment without the intervention of the respective Canadian and American Competent Authorities.
The Punitive Taxation Of US Citizens Living Outside The United States Continues
I have previously and repeatedly made the point that:
The United States imposes a separate and more punitive system of taxation on US citizens living outside the United States than on US citizens living in the United States.
Assuming that income earned inside the Canadian TFSA is taxable by the United States:
The failure to treat the both US ROTH IRA and the Canadian TFSA as “pensions” under the tax treaty, is another example of the more punitive form of US taxation imposed on US citizens living outside the United States. A US citizen living inside the United States has the benefits of the ROTH and a US citizen living in Canada cannot take advantage of the benefits of the TFSA – a similar program in Canada.
2022 Revisiting The Topic
It’s 2022. I believe the time has come to encourage the Canadian Competent Authority to raise this issue with its US counterparts and seek “agreement” that the TFSA, like the the ROTH IRA, is to be treated as a “pension” within the meaning of the treaty. (Why should Canada afford special tax treatment to the ROTH IRA without expecting similar treatment for the TFSA?) The purpose of this post is to explain my thinking and to seek a suitable representative to raise this issue. I will undertake to supply the legal support. If successful, this endeavour will be a great public service. If not successful, the situation is no worse than it currently is (which is as bad as it can get).
The bottom line is:
US citizens living in Canada should not be required to pay US tax on on the income earned inside their TFSAs. The time has come to bring this issue “to a head” and to seek relief for the large number of Canadian tax residents who are subject to US taxation!
I note that the most recent protocol (which clarified that ROTH IRAs were pensions within the meaning of the US Canada Tax Treaty) was signed on September 21, 2007. For reasons that are clear from the text of the treaty this date is important. The TFSA was created in 2008 and was effective for the 2009 tax year.
Article XVIII of the Canada US Tax Treaty includes Paragraph 3 as follows:
3. For the purposes of this Convention:
(a) the term “pensions” includes any payment under a superannuation, pension or other retirement arrangement, Armed Forces retirement pay, war veterans pensions and allowances and amounts paid under a sickness, accident or disability plan, but does not include payments under an income-averaging annuity contract or, except for the purposes of Article XIX (Government Service), any benefit referred to in paragraph 5; and
(b) the term “pensions” also includes a Roth IRA, within the meaning of section 408A of the Internal Revenue Code, or a plan or arrangement created pursuant to legislation enacted by a Contracting State after September 21, 2007 that the competent authorities have agreed is similar thereto.
Notwithstanding the provisions of the preceding sentence, from such time that contributions have been made to the Roth IRA or similar plan or arrangement, by or for the benefit of a resident of the other Contracting State (other than rollover contributions from a Roth IRA or similar plan or arrangement described in the previous sentence that is a pension within the meaning of this subparagraph), to the extent of accretions from such time, such Roth IRA or similar plan or arrangement shall cease to be considered a pension for purposes of the provisions of this Article.
The operative language is “that the competent authorities have agreed is similar thereto”.
The ROTH IRA and Canadian TFSA Are Similar In Intended Purpose
Both the ROTH IRA and the Canadian TFSA provide for retirement plans that allow for “after tax” money to be invested into a plan that grows tax free. Furthermore, distributions from the plans are also tax free. Although there are some differences, it is reasonable to conclude that the TFSA is a “similar plan” in relation to the purpose of the plans and the role that it plays in Canadian financial and retirement planning.
Conventional wisdom in Canada has been that the income earned inside a TFSA is taxable for those Canadians who (because they are US citizens or Green Card holders) file US tax returns. It is clear the Tax Treaty provides the opportunity for the “Competent Authorities” to agree that the TFSA (like the ROTH) should be considered to be a pension within the meaning of the Canada US Tax Treaty. In practical terms this would mean that (in the context of Article XVIII):
1. Paragraph 3(b): The TFSA would be treated as a “pension” under the treaty
2. Paragraph 7: The income earned inside the TFSA would/should be subject to deferral (I agree that the word “exclusively” may create problems. That said, the US policy of citizenship taxation should not be construed to deny US citizens in Canada the same conceptual benefits that US residents are entitled to with the ROTH.)
3. Paragraph 1: The distributions would be tax free
Income earned inside the TFSA would/should not be subject to US taxation.
I can report that many Canadians with dual citizenship have renounced US citizenship specifically because of this issue.
I am surprised that (to the best of my knowledge) this issue has not been raised with the Competent Authorities. The time has come to raise this issue.
If you are interested …
I interpret the rules to mean that this can be raised by and only by an individual who has been impacted by this issue. The best case would be for it to be raised by a person who has taken the position that the TFSA is not taxable under the Canada US tax treaty and this position has been refused.
That said … You can interpret this is a “call out” to find someone who is interested in raising the issue of whether the TFSA should be given the same generous treatment that the ROTH IRA is given under the tax treaty. Nothing ventured, nothing gained!
John Richardson – Follow me on Twitter @Expatriationlaw