2017-0682301E5 Deemed Distribution and Withdrawal from IRA

Principal Issues: 1. Whether a taxpayer, who takes up Canadian residency and subsequently relinquishes his/her green card, is required to report on his/her Canadian tax return an amount deemed distributed to the taxpayer from an IRA account pursuant to the U.S. expatriation rules, and if yes, whether he/she is entitled to claim a foreign tax credit in respect of the U.S. tax paid on the deemed distribution. 2. Whether the taxpayer is required to report on his/her Canadian tax return an amount subsequently withdrawn from his/her IRA account after relinquishing the green card, and if yes, whether the taxpayer is entitled to a deduction in respect of that amount under subparagraph 110(1)(f)(i) of the Act.

Position: 1. The amount deemed distributed from the IRA account would be included in computing the income of the taxpayer under clause 56(1)(a)(i)(C.1). The U.S. tax paid on that amount would factor into the computation of a foreign tax credit under subsection 126(1), assuming all the conditions in that subsection were satisfied. 2. Assuming the amount subsequently withdrawn from the IRA account did not exceed the amount of the previous deemed distribution, the withdrawn amount would not be included in computing the taxpayer’s income in Canada under clause 56(1)(a)(i)(C.1)

Reasons: 1. Pursuant to subsection 56(12), the deemed distribution from the IRA account under the U.S. expatriation rules would be deemed received by the taxpayer as a payment out of the IRA for the purpose of paragraph 56(1)(a). The U.S. tax paid on the deemed distribution would qualify as “non-business-income tax” within the meaning of subsection 126(7). 2. Clause 56(1)(a)(i)(C.1) does not apply to an amount to the extent the amount would not be subject to income taxation in the U.S. if the taxpayer were resident in the U.S.

Author: Eroff, Ina
Section: 56(1)(a)(i)(C.1), 56(12), 110(1)(f)(i), 126(1), 126(7)

XXXXXXXXXX                                                                                                        2017-068230
                                                                                                                                Ina Eroff, B.C.L./LL.B
January 29, 2018

Dear XXXXXXXXXX,

Re: Deemed Distribution and Withdrawal from IRA

We are responding to enquiries made in your letter dated January 3, 2017, as subsequently revised on May 15, 2017, and to additional questions posed during our phone call on December 21, 2017. You have requested our opinion on whether in the context of the hypothetical scenario outlined in your letter a taxpayer (the “Taxpayer”) would be required to report on his/her Canadian income tax return an amount deemed distributed to the Taxpayer from his/her Individual Retirement Account (“IRA”)  pursuant to the United States (the “U.S.”) expatriation rules, and if yes, whether the U.S. tax paid on that Deemed Distribution, as defined below, would be eligible for a subsection 126(1) foreign tax credit. You have further enquired whether the Taxpayer would be required to report on his/her Canadian income tax return an amount subsequently withdrawn from his/her IRA account in the context described below and if so, whether the Taxpayer would be entitled to a deduction in respect of that amount under subparagraph 110(1)(f)(i) of the Income Tax Act, R.S.C. 1985 (5th Suppl.) c.1, (the “Act”).

Unless otherwise stated, every statutory reference herein is a reference to the relevant provision of the Act, and all terms used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.

Hypothetical facts:

You presented a hypothetical situation in which the Taxpayer, a Canadian citizen, was living and working in the U.S. for more than 8 of the 15 calendar years preceding his/her return to Canada. You have indicated to us that the Taxpayer was considered a U.S. long term resident under the U.S. expatriation rules set out in section 877A of the Internal Revenue Code (the “Code”). The Taxpayer was not a U.S. citizen. The Taxpayer returned to Canada, became a Canadian tax resident at that time, and subsequently relinquished his/her U.S. permanent residence status (“green card”) under the U.S. immigration law after becoming a Canadian tax resident.

You have advised that the Taxpayer had an IRA as defined in subsections 408(a), (b), or (h) of the Code. The IRA was a “foreign retirement arrangement” as defined in subsection 248(1) and section 6803 of the Income Tax Regulations (the “Regulations”) of the Act.

You have further advised that the Taxpayer was considered a “covered expatriate” for the purposes of the Code at the time he/she voluntarily abandoned his/her U.S. permanent residence status. As a covered expatriate, we understand that the Taxpayer was treated as receiving a distribution of his/her entire interest in the IRA (the “Deemed Distribution”) for U.S. tax purposes on the day before the expatriation date under the expatriation rules in section 877A of the Code that apply to “specified tax deferred accounts,” which include an IRA, and the Taxpayer was subject to U.S. tax on this Deemed Distribution. You have advised that for the purposes of the Code and this Taxpayer, the “expatriation date” was the date when the Taxpayer relinquished the green card. You have also advised that the “entire interest” in section 877A of the Code referred to the fair market value of the IRA on the day of the Deemed Distribution.

In the context of amounts subsequently withdrawn from the IRA, you have indicated that section 877A(e)(1)(C) of the Code provides that appropriate adjustments must be made to subsequent distributions from the IRA to take into account the amount previously taxed under section 877A of the Code. You have advised us that for the purposes of the Code, the Deemed Distribution is treated as an “investment in the contract” and the return of this investment after the expatriation date is not included in gross income for U.S. income tax purposes.

After terminating his/her long term residency status with the U.S., and in the same taxation year for Canadian tax purposes in which the Deemed Distribution occurred (the “Taxation Year”), the Taxpayer withdrew all of the funds from the IRA (the “Withdrawal”).  For purposes of our response below, we have assumed that the amount of the Withdrawal did not exceed the amount of the Deemed Distribution.

Queries:

1. Whether the Taxpayer is required to report on his/her Canadian tax return for the Taxation Year the amount of the Deemed Distribution, and if yes, whether the U.S. tax paid on the Deemed Distribution will factor into the computation of a subsection 126(1) foreign tax credit.

2. Whether the Taxpayer is required to report on his/her Canadian tax return for the Taxation Year the amount of the subsequent Withdrawal, and if yes, whether the Taxpayer is entitled to a deduction in respect of that amount under subparagraph 110(1)(f)(i) of the Act.

You have also enquired whether our responses would be different if (i) the Withdrawal from the IRA occurred in a different year than the Deemed Distribution under the U.S. expatriation rules, and (ii) the Taxpayer was a U.S. citizen who renounced his/her U.S. citizenship rather than a green card holder.

Our comments:

This technical interpretation provides general comments about the provisions of the Act.  This technical interpretation does not comment on the application of any provision of a foreign law, including the Code. It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination.  The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R7, Advance Income Tax Rulings and Technical Interpretations.

1.    Treatment of the Deemed Distribution

Generally, any distributions from the IRA would be included in computing the income of the Taxpayer pursuant to clause 56(1)(a)(i)(C.1) as a payment out of a “foreign retirement arrangement” as defined in subsection 248(1) and section 6803 of the Regulations. For the purpose of paragraph 56(1)(a), subsection 56(12) would deem the amount of the Deemed Distribution to be a payment received by the Taxpayer out of the IRA. Consequently, as the Taxpayer was a tax resident of Canada at the time of the Deemed Distribution, the amount of the Deemed Distribution would be included in computing the Taxpayer’s income for Canadian tax purposes pursuant to clause 56(1)(a)(i)(C.1) and subsection 56(12).

The U.S. tax paid by the Taxpayer on the Deemed Distribution would qualify as “non-business-income tax” within the meaning of subsection 126(7). Therefore the U.S. tax paid would factor into the computation of a foreign tax credit under subsection 126(1), provided all the conditions of that subsection were otherwise satisfied.

2.    Treatment of the Withdrawal

Clause 56(1)(a)(i)(C.1) does not apply to include an amount in income to the extent the amount would not be subject to income taxation in the U.S. if the Taxpayer were resident in the U.S. To the extent the amount of the Withdrawal did not exceed the amount of the Deemed Distribution, you have indicated that the Withdrawal would be treated as a return of the “investment in the contract” under the Code if the Taxpayer were resident in the U.S. at the time the Withdrawal was made.  You have indicated that this return of the investment in contract would be excluded from income for U.S. income tax purposes.  Based on this, it is our view that such amount would not be “subject to income taxation” in the U.S. within the meaning of clause 56(1)(a)(i)(C.1). Consequently, assuming that the amount of the Withdrawal did not exceed the amount of the Deemed Distribution, the amount of the Withdrawal would not be included in computing the Taxpayer’s income for the purposes of the Act pursuant to clause 56(1)(a)(i)(C.1). Since the Withdrawal amount would not be included in computing the Taxpayer’s income, subparagraph 110(1)(f)(i) would not apply.

Our position regarding the Canadian tax implications of the Deemed Distribution and Withdrawal would remain the same if the Withdrawal took place in a year subsequent to the Taxation Year in which the Deemed Distribution took place. Our response would also largely remain the same if the Taxpayer was a U.S. citizen, rather than a green card holder, who renounced this US citizenship after becoming a tax resident in Canada, assuming the rest of the facts remained the same.  However, if the Taxpayer was a U.S. citizen, the foreign tax credit in respect of the U.S. tax paid on the Deemed Distribution should be computed giving consideration to subparagraph 4(a) of Article XXIV of the Convention between Canada and the United States of America with Respect to Taxes on Income and on Capital.

We trust this information is of assistance to you.

Yours truly,

Ann Kippen, CPA, CA
Section Manager
For Division Director
International Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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