Canadians who merely acquire real estate in the US for rental purposes and do not physically reside or have a substantial presence in the US are generally taxed differently than US citizens and residents. A nonresident alien’s income that is subject to US income tax must be divided into two categories: (1) Income that is effectively connected with a trade or business in the US, and (2) Income that is not effectively connected with a trade or business in the US.
The difference between these two categories is that effectively connected income, after allowable deductions, is taxed at graduated rates. These are the same rates that apply to U.S. citizens and residents. Income that is not effectively connected is taxed at a flat 30% (or lower treaty) rate.
As an example, let’s assume you are a nonresident alien and you are not engaged in a U.S. trade or business. You own a single family residence in the US that you rent out. Your rental income for the year is $10,000 and this is your only US source income. In addition, you have $6,000 in expenses, which includes property management fees, insurance, property taxes, repairs and maintenance, depreciation and other miscellaneous costs. The gross rental income would normally be subject to a tax at a 30% (or lower treaty) rate, which would amount to $3,000.
But if you make a certain on your tax return, you can offset the $10,000 income by all of your rental expenses. You are then tax on the net income of $4,000 (reduced by your exemption and any itemized deductions). Any resulting net income is taxed at graduated rates. The result is a tax savings of potentially thousands of dollars.
In order to be taxed at the lower rate and to allow your deductions to be considered, you must attach an election statement to your first tax return. This election statement merely informs the Internal Revenue Service (IRS) of your intent. But be careful. The statement must disclose specific information regarding the property and should only be completed by an experienced tax professional or someone familiar with making such elections.
We are an experienced Arizona CPA firm and we work with foreign real estate investors who acquire real estate in Gilbert, Chandler, Phoenix, Scottsdale, Mesa and Queen Creek areas. Call us today at 480-361-9400 or visit us at http://www.sundincpa.com.
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This release is solely intended for informational purposes and is not intended to be tax or legal advice. You should contact a CPA or other tax or legal professional to discuss your situation. To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice contained in this communication is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein. Gilbert, Phoenix, Chandler, Queen Creek, Scottsdale, Mesa, Arizona, Canadian, Canada.