The ability to send children abroad for school can mean valuable learning opportunities and experiences. But if you, or your advisors, aren’t versed on the rules of Canadians attending school in the U.S., it can also mean significant U.S. tax exposure. Without the proper guidance, you run the risk of allowing the long arm of the Internal Revenue Service (IRS) access to your student’s individual earnings and assets – and possibly your entire family’s earnings and assets.
Once your child gains admission to a U.S. university or college and obtains an F-1 Student Visa or a J-1 Exchange Visitor Visa, you’ve met the documentation requirements that allow your student to legally attend school in that country. However, once your student sets foot on U.S. soil, there are things to consider in order to reap the benefits of expanding their educational horizons without triggering U.S. tax obligations.
Firstly, you want to ensure that your student retains their status as a non-resident alien. Even if your student is not a U.S. citizen or Green Card holder, they will likely be considered U.S. tax residents under the domestic tax provisions by virtue of meeting the criteria for the Substantial Presence test, which is calculated based on the number of days spent in the country over a three-year period. If your student’s number is 183 days or more, they are considered a U.S. tax resident.
Form 8843 “Statement for Exempt Individuals” allows students to exclude days of presence in the U.S. from this test, however, they must avoid activities that disqualify their exemption such as obtaining a permanent job or home in the U.S. or marrying a U.S. person. If the student maintains a home in Canada but doesn’t qualify for this exemption, they may still avoid U.S. taxation on worldwide income and certain punitive IRS filings under the Canada-U.S. Income Tax Convention or the “Treaty”.
If your student cannot maintain non-resident status, proper tax planning can help in the following situations:
- When a U.S. student exceeds the 183-day threshold without exemption or Treaty protection, they must report their Canadian summer vacation earnings on a U.S. tax return and pay taxes on this income.
- When a student receives more than $100,000 directly from their parents, Canadian relatives or a Canadian estate during the year, the amount is considered a “foreign gift” and must be reported to the IRS. Rather than depositing funds for tuition and medical expenses to the student’s bank account, parents should make payments directly to the educational institution or medical care provider.
- When a U.S. student is a shareholder of a Canadian family business, there may be taxes on corporate profits under one of several anti-deferral regimes, even when those profits are not currently distributed.
- If a student is a discretionary beneficiary of a Canadian family trust, the trust should not make any distributions while the student is in the U.S., or the student may be subject to an annual trust’s prorated or entire income. If the trust owns a Canadian private company, there will be an additional layer of anti-deferral corporate taxation.
- As taxation of investment products are not identical, care must be exercised on what is held in investment portfolio(s) owned or co-owned by the student.
- Students taxed as U.S. residents are subject to a host of reporting requirements by the IRS, including the Report of Foreign Bank and Financial Accounts (FBAR). These students must disclose all non-U.S. (i.e. Canadian) bank accounts owned individually and jointly if the total of the accounts exceed $10,000USD.
- Scholarships and fellowship grants used to pay for tuition, other school fees, books, supplies and equipment required for courses are tax-free. However, any scholarship or fellowship grant money that is used towards room, board, travel, optional equipment and other auxiliary expenses are taxable.
Setting children up for success is one of our greatest responsibilities as parents and can be one of our largest financial investments. Pursuing education in the U.S. requires thorough crossborder tax planning to protect your family’s income and assets and ensure compliance in Canada and the U.S.
Elena Hanson is the founder and managing director of Hanson Crossborder Tax Inc. She is currently doing a podcast series with Darren Coleman, a wealth management adviser with Raymond James, called Two Way Traffic on cross-border tax and financial issues.
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