Another tax season has nearly passed. Do your clients know their requirements regarding foreign income?
T1135, the Foreign Income Verification Statement, must be filed by Canadian residents, corporations, trusts or partnerships that at any time in the year held specified foreign property costing more than $100,000. This form must be filed with tax returns on April 30, or on June 15 for self-employed individuals. T1135 is a disclosure document and doesn’t calculate the taxpayer’s tax liability on these assets.
Examples of specified foreign property include:
- shares of a non-resident corporation (even if held through a Canadian broker)
- shares of a Canadian corporation held on deposit with a foreign broker
- foreign bonds or debentures
- foreign mutual funds
- foreign real property
- money in foreign bank accounts
- interest in a foreign trust
- taxpayer-owned life insurance policy from a foreign issuer
Canadian mutual fund trusts and mutual fund corporations and Canadian ETFs invested in foreign property don’t require a T1135. Those investments allow your clients to have exposure to foreign property without worrying about completing the T1135. This is because the mutual fund or ETF owns the foreign property and not the individual taxpayer.
Personal-use property kept outside of Canada, including stamps, coins, jewelry and rare books to mention a few, do not need to be reported on the T1135.
Personal-use property can also include vacation properties. If the taxpayer uses the property exclusively as a vacation property, for at least 50% of the year, it would be excluded from the T1135. However, renting the property out eight months of the year and using it four months, for example, would require T1135 reporting.
Foreign retirement plans also aren’t considered specified foreign property. If you have clients who worked in the U.S., for example, and have a 401k or an individual retirement account, they aren’t required to complete the T1135.
Examples of property not considered specified foreign property
- Canadian mutual fund trusts or corporations
- property held in registered accounts
- personal-use property, including vacation property, jewelry, rare books, stamps and coins
- assets in foreign retirement accounts (e.g., 401k, IRA)
Your clients may not realize that the government considers total foreign property, not a particular investment. For instance, your client may own $70,000 worth of shares of a non-resident corporation in their Canadian brokerage account and also have $50,000 in a U.S. bank account. Each asset alone is less than the $100,000 threshold, but the combined value is greater, so they must file form T1135.
The government looks at the adjusted cost base (ACB) of the property and not the fair market value (FMV). If the investor purchased a stock for $70,000 and the FMV is now $150,000, they are not required to file a T1135, since the ACB is below the $100,000 threshold. This assumes the individual doesn’t hold other specified foreign property.
There are two types of reporting for the T1135, as shown on the form. The simplified reporting method applies to taxpayers who have more than $100,000 but less than $250,000 in foreign assets at any time during the year. As the name implies, this reporting is very straightforward: the taxpayer checks the box to identify the type of property they own and provides fewer details relative to the alternative method.
If the taxpayer has $250,000 or more of specified foreign property at any time during the year, they must use the detailed reporting method, which requires the following information:
- FMV and/or maximum cost over the year (based on the highest month-end FMV)
- FMV and/or the cost at year-end
- total income (or losses) from foreign property over the year
- total gains (or losses) realized after the disposition of foreign property over the year
- country that is the source of the income (or loss)
Penalties for failing to comply
Your clients face penalties if they don’t comply with reporting. The first is a penalty of $25/day for up to 100 days, with a minimum penalty of $100 and a maximum of $2,500. If a taxpayer knowingly fails to file or it’s determined there was gross negligence, the penalty is $500/month for up to 24 months (maximum of $12,000), less any penalties already paid.
If someone was told to file a return and didn’t, the penalty doubles to $1,000/month for up to 24 months (maximum of $24,000).
An additional penalty applies after 24 months and is 5% of one of the following (whichever was the reason for having to file):
- cost of the property;
- FMV of the property transferred or loaned to the trust; or
- cost of the shares and indebtedness of the foreign affiliate.
Finally, the penalty for false statements or omissions on a return is the greater of $24,000 or 5% of one of the three items listed above.
If your clients are required to file form T1135, encourage them to do so before the deadline to ensure they do not incur these high penalties unnecessarily.