Tax implications For Canadian Traders Shopping for U.S. Shares

Up to date on September 2nd, 2024 by Kay Ng

For Canadian traders, having publicity to the US inventory market is essential. There are a selection of the reason why.

First, the US is the most important inventory market on the planet. In an effort to keep away from dwelling nation bias and have a globally diversified funding portfolio, publicity to American shares is required.

Second, there are particular sectors which can be underrepresented within the Canadian inventory market. Examples embrace healthcare, expertise, and client staples. Curiously, these sectors are among the many strongest within the U.S. market.

To spend money on shares from the US, Canadian traders want to grasp how this may impression their tax payments.

This text will focus on the tax implications for Canadians that spend money on U.S. shares, together with examples of dividend- and non-dividend-paying shares held in each taxable accounts and non-taxable accounts.

Desk of Contents

Whereas we advocate studying this text in its entirety, you possibly can skip to a selected part of this text utilizing the desk of contents beneath:

Capital Beneficial properties Tax

There are two forms of investing taxes that Canadian traders pays if they’re investing exterior of a tax-deferred retirement account. The primary is capital positive aspects tax, which can be mentioned first.

A capital achieve happens when a safety is bought for greater than its buy worth. Conversely, a capital loss comes from promoting a safety for lower than it was bought for.

Canadian traders should pay capital positive aspects tax on at the least 50% of their realized capital positive aspects. The 2024 Federal Price range introduced a rise within the capital positive aspects inclusion price from 50% to 2 thirds on the portion of capital positive aspects realized within the yr that exceed $250,000 for people, for capital positive aspects realized on or after June 25, 2024. The $250,000 threshold applies to capital positive aspects realized by a person web of any capital losses realized within the present yr or carried ahead from prior years. The tax price for capital positive aspects is an identical to the person’s marginal tax price.

Marginal tax charges are composed of a federal part (which is paid in the identical quantity by all Canadians) and a provincial part (which varies relying on which province you reside in).

In keeping with the Canada Income Company, present federal tax charges by tax bracket are:

15% on the primary $55,867 of taxable revenue, +
20.5% on the subsequent $55,866 of taxable revenue (on the portion of taxable revenue over $55,867 as much as $111,733), +
26% on the subsequent $61,472 of taxable revenue (on the portion of taxable revenue over $111,733 as much as $173,205), +
29% on the subsequent $73,547 of taxable revenue (on the portion of taxable revenue over $173,205 as much as $246,752), +
33% of taxable revenue over $246,752.

As talked about, provincial tax charges fluctuate by province. Examples on this article will use Ontario’s tax charges, as it’s Canada’s most highly-populated province. Ontario tax charges by tax bracket are proven beneath:

5.05% on the primary $46,226 of taxable revenue, +
9.15% on the subsequent $46,228, +
11.16% on the subsequent $57,546, +
12.16% on the subsequent $70,000, +
13.16% on the quantity over $220,000

So how do capital positive aspects taxes fluctuate for holders of U.S. shares?

Luckily, the capital positive aspects tax paid on investments in U.S. shares is an identical to the capital positive aspects paid on Canadian securities. The one minor distinction is that capital positive aspects have to be expressed in Canadian {dollars} for the aim of calculating an investor’s tax legal responsibility.

An instance may also help us perceive capital positive aspects tax from U.S. shares within the context of those Canadian tax brackets. Let’s assume that you’re a Canadian investor who has executed the next trades:

Bought 100 shares Johnson & Johnson (JNJ) for US$100 at a time when the USD to CAD change price was 1.25
Offered your Johnson & Johnson shares for US$125 at a time when the USD to CAD change price was 1.15

You’ll pay capital positive aspects on the distinction between your buy worth and your sale worth, expressed in Canadian {dollars}. The next desk may also help us to grasp the right option to calculate the CAD-denominated capital achieve. Though circuitously calculated within the picture above, the capital achieve for this transaction – expressed in U.S. {dollars} – is US$2,500. Nevertheless, that’s irrelevant for the aim of calculating capital positive aspects tax as a result of capital positive aspects tax is predicated on transaction costs expressed in Canadian {dollars}. What actually issues is the CAD$1,875 capital achieve proven within the backside proper cell of the desk.

That is the quantity used to calculate capital positive aspects. As talked about beforehand, at the least half of this quantity can be taxed on the investor’s marginal tax price. We are going to assume for simplicity’s sake that the investor is within the highest tax bracket, which is 46.16% for Ontario residents.

The next desk breaks down the capital positive aspects tax calculation for this hypothetical funding in Johnson & Johnson (JNJ). So, the capital positive aspects tax can be at the least $432.75.

This calculation was fairly concerned and demonstrates how difficult the calculation of capital positive aspects tax might be for Canadians.

Luckily, capital positive aspects tax might be tax-free or tax-deferred if U.S. shares (or shares from every other nation) are held in Canadian retirement accounts. We focus on the 2 forms of Canadian retirement accounts (TFSAs and RRSPs) in a later part of this text.

For now, we’ll transfer on to discussing the taxation of dividends paid to Canadian traders from U.S. firms.

Dividend Tax

Not like capital positive aspects taxes (that are calculated in the identical manner for U.S. shares and Canadian shares), the taxes that Canadian traders pay on worldwide inventory dividends are totally different than the taxes they pay on home dividends.

This is because of a particular kind of dividend tax known as “withholding tax.” Not like different taxes paid by Canadian traders, these taxes are withheld at supply (by the corporate that pays the dividend) and remitted to their very own tax authority – which, for United States corporations, is the Inner Income Service (IRS).

Dividend withholding taxes meaningfully scale back the revenue that Canadian traders are capable of generate from U.S. shares. Luckily, this impact is partially offset by a particular tax treaty between the US and Canada (known as the Conference Between Canada and the US of America). The U.S. withholding tax price charged to overseas traders on U.S. dividends is often 30% however is lowered to fifteen% for Canadians because of this treaty.

How does this examine to the common withholding tax of nations throughout the globe?

Even after accounting for the particular tax treaty, the U.S. continues to be an unfavorable marketplace for Canadian traders from the attitude of tax effectivity. In keeping with Blackrock, the weighted common overseas withholding tax on worldwide inventory dividends is 12%. Even after accounting for the tax treaty, Canadians nonetheless pay a 15% withholding tax — 25% increased than the weighted common dividend withholding tax world wide.

Canadian traders can be completely happy to listen to that this overseas withholding tax is ready to be reclaimed come tax time. The Canada Income Company lets you declare a overseas tax credit score for the withholding tax paid on United States dividends. This prevents traders from paying tax twice on their dividend revenue.

Nonetheless, U.S. dividends are usually not as tax environment friendly as their Canadian counterparts. The explanation why is considerably difficult and is said to a Canadian taxation precept known as the “dividend tax credit score.” The dividend tax credit score meaningfully reduces the taxes that Canadians pay on dividends, and causes dividend revenue to be the one most tax-efficient type of revenue out there to Canadians.

In keeping with MoneySense:

When a non-resident invests in U.S shares or U.S.-listed change traded funds (ETFs), the usual withholding tax on dividends is 30%. A Canadian resident is entitled to a decrease withholding price of 15% underneath a treaty between the 2 nations if they’ve filed a type W-8 BEN with the brokerage the place they maintain the investments.

Our advice for Canadian traders searching for publicity to U.S. shares is to carry their U.S. shares in retirement accounts, which concurrently reduces their tax burden and dramatically reduces the tax complexity of their funding portfolios. We focus on dividend taxes in retirement accounts within the subsequent part of this text.

Dividend Tax in Retirement Accounts

One of the simplest ways for Canadian traders to achieve publicity to U.S. shares is thru retirement accounts.

There are two main retirement accounts out there for Canadian traders:

Each supply tax-advantaged alternatives for Canadians to deploy their capital into monetary property. With that mentioned, there are vital variations as to how every account features.

The Tax-Free Financial savings Account (TFSA) permits traders to contribute after-tax revenue into the account. Funding positive aspects and dividends held throughout the account are topic to no tax and no tax is incurred upon withdrawal from the account. TFSAs are functionally just like Roth IRAs in the US.

The opposite kind of retirement account in Canada is the Registered Retirement Financial savings Plan (RRSP). These accounts permit Canadian traders to contribute pre-tax revenue, which is then deducted from their gross revenue for the aim of calculating annually’s revenue tax. Revenue tax is paid later, upon withdrawals from the RRSP. RRSPs are functionally equal to 401(ok)s inside the US. In different phrases, revenue earned in RRSPs at tax-deferred.

Each of those retirement accounts are very enticing as a result of they permit traders to deploy their capital in a tax-efficient method. On the whole, no tax is paid on each capital positive aspects or dividends as long as the shares are held inside retirement accounts.

Sadly, there’s one exception to this rule. The withholding tax paid to the IRS on dividends from United States companies continues to be paid inside TFSAs. For that reason, U.S. shares that pay out massive dividends shouldn’t be held inside a TFSA if potential.

As a substitute, the RRSP is the most effective place to carry U.S. dividend shares (however not MLPs, REITs, and many others.) as a result of the dividend withholding tax is waived. In truth, no tax is paid in any respect on U.S. shares held inside RRSPs.

Because of this Canadian traders ought to maintain all dividend-paying U.S. shares inside their RRSPs if they’ve ample contribution room. U.S. shares that don’t pay dividends might be held in a TFSA.

Lastly, Canadian dividend shares must be held in non-registered accounts to benefit from the dividend tax credit score.

Ultimate Ideas

This text started by discussing a few of the advantages of proudly owning U.S. shares for Canadian traders earlier than elaborating on the tax penalties of implementing such a method. After describing the tax traits of U.S. shares for Canadians, we concluded that the most effective practices are to:

Maintain dividend-paying U.S. shares inside an RRSP
Maintain non-dividend-paying or low-yielding U.S. shares (which can be anticipated to have increased progress prospects) inside a TFSA
Maintain Canadian shares in a taxable account — particularly dividend-paying Canadian shares, to benefit from the dividend tax credit score

If you’re a Canadian dividend investor and are fascinated about exploring the U.S. inventory market, the next Positive Dividend databases include a few of the most high-quality dividend shares in our funding universe:

The Dividend Aristocrats: S&P 500 shares with 25+ years of consecutive dividend will increase
The Dividend Achievers: dividend shares with 10+ years of consecutive dividend will increase
The Dividend Kings: thought of to be the best-of-the-best with regards to dividend progress, the Dividend Kings are an elite group of dividend shares with 50+ years of consecutive dividend will increase

Alternatively, chances are you’ll be trying to tailor a really particular group of dividend shares to fulfill sure yield and payout traits. If that is certainly the case, you’ll be within the following databases from Positive Dividend:

One other option to strategy the U.S. inventory market is by establishing your portfolio in order that it owns corporations in every sector of the inventory market. For that reason, Positive Dividend maintains 10 databases of shares from every sector of the market. you possibly can entry these databases beneath.