Many Canadian residents took advantage of the depressed US housing market and the strong Canadian dollar during the last few years and have purchased vacation homes in the US. Some of these individuals will use their US homes exclusively for their own enjoyment while others may decide the rent the homes out during certain periods to defray the costs of home ownership.
The US tax implications of owning a vacation home by a Canadian resident who is not a US citizen, US green-card holder or a US resident (by virtue of meeting the 183 day count test) will largely depend on the use of the home.
100% Personal Use: No US tax implications or annual filing requirement in the US until the home is sold.
100% Rental Use: Required to file US federal and applicable state tax returns to report the net rental income or loss. The filing of tax returns will allow the owner to keep track of net rental losses (rental expenses in excess of rental income) to offset potential net rental income in other years or to offset capital gain realized in the year the property is sold.
Partial Personal and Rental Use: If the US vacation home is rented for no more than 14 days during the year, any rental income derived is exempt from US federal income tax. This is particularly useful where the value of the rental income is great relative to the rental expenses so the individual owner could earn income in the US without incurring a US federal tax liability or filing requirement. However, depending on the state in which the property is located, there still may be a state income tax filing requirement. It is important to note that the US net rental income will still be subject to tax in Canada as there is no de-minimis rule in Canada. If there is a state income tax liability, it can be used as a tax credit on the Canadian income tax return.
If the US vacation home is rented for more than 14 days, the gross rental income may be subject to a flat 30% withholding tax rate without additional US federal income tax filing requirements. However, as rental income is generally considered income connected with a trade or business in the US, the owner of the vacation home is subject to US graduated tax rates on the net rental income (after deduction of expenses) instead of the 30% withholding tax rate on the gross rent. An IRS Form W-8 ECI, “Certificate of Foreign Person’s Claim That Income Is Effectively Connected with the Conduct of a Trade or Business in the United States” should be completed and filed with the withholding agent to notify him or her that the 30% withholding is not appropriate. Again, state tax filing may be required depending on the state where the vacation home is located.
If the personal use of the vacation home is more than 14 days or more than 10% of the rental days, allowable rental expenses are required to be allocated between personal and rental use. Further, the rental deductions will be limited to the gross income of the property, with excess deductions only available to be carried over in subsequent years. Consideration should be given to limit the personal use of such home to no more than the greater of 14 days or 10% of the rental days, in order to maximize the deductions currently available.