Notice to buyers: how buying a property from a non-resident of Canada could leave you with a hefty tax bill

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If you are buying a house or condo and you suspect that the current owner from whom you are buying the property is a non-resident of Canada, you may be personally liable for the seller’s Canadian capital gains tax if you do not take certain precautions.

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Indeed, that is precisely what happened in a recent tax case decided this summer. But, to fully understand the case and thus ensure that you do not find yourself in a similar situation, a brief reminder of the way Canada taxes residents and non-residents is in order.

If you are a resident of Canada, then you must pay tax in Canada on your worldwide income. Non-residents of Canada generally do not have to pay Canadian tax unless they earn Canadian-source income. Certain types of income, such as dividends and rental income, are subject to non-resident withholding tax, while other types of income that a non-resident earns in Canada must be reported in a Canadian tax return. These types of income include Canadian employment income, business income from a business carried on in Canada, and capital gains from the disposition of Canadian real property.

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So, for example, if a resident of New York State sells her cottage property in Muskoka, Ontario, any gain she realizes on that sale will be subject to Canadian tax.

Of course, collecting Canadian tax owed from someone living abroad, whether in the United States or abroad, could be virtually complex, if not completely impossible. This is why the Canadian tax system, like other tax systems around the world, has a special rule that states that if there is a gain from the sale of domestic real estate by a non-resident seller, the purchaser of the property may be liable for capital gains tax.

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To this end, our income tax law requires the buyer to withhold 25% of the purchase price from a non-resident unless the seller has obtained a clearance certificate from the Canada Revenue Agency stating that the non-resident has made the appropriate arrangements to pay the tax. To obtain this certificate, the seller must produce form T2062, “Application by a Non-Resident of Canada for a Certificate of Compliance Regarding the Disposition of Taxable Canadian Property » within ten days of the planned sale, accompanied by the payment of 25% of the expected capital gain.

If the non-resident does not obtain a certificate, the Canadian resident purchaser is liable for the 25% tax payable on behalf of the non-resident unless, “after reasonable inquiry, the purchaser has had no reason to believe that the non-resident person was not resident in Canada.

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In 2017, the CRA was asked whether this “reasonable demand standard” can be met if the buyer obtains a statutory declaration from the seller that the seller is not and will not be, at the time of closing, a non-resident of Canada.

The CRA’s response was that “the buyer must take careful steps to confirm the residency status of the seller. Each case will be considered individually…. However, obtaining such a statement would not constitute a defense of due diligence if there are facts and circumstances suggesting that the buyer should have inquired further. These facts could include, for example, a known mailing address outside of Canada or any other indication of the seller’s residence outside of Canada in the transaction documentation.

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In the recent tax case, it was a foreign address combined with a dubious declaration that proved problematic for the purchaser.

In June 2011, the taxpayer purchased a condominium unit in Toronto from an “apparent non-resident of Canada”. The transaction was concluded without a clearance certificate and without the taxpayer deducting and withholding 25% of the purchase price. The taxpayer therefore found himself before the Tax Court liable for $92,000 in tax, or 25% of the $368,000 purchase price of the condo.

The taxpayer knew from a previous visit to the condo that the seller did not live there and that it was an investment property for him. The taxpayer retained the services of an attorney who established, through research and other preparatory work prior to the closing of the transaction, that the seller purchased this property in 2009 and that his address for service at that time was in Danville, California. This was the same address for service that the seller had listed for his current sale of the property. Additionally, the taxpayer’s attorney was advised that the seller would sign the closing documents in California.

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Just before closing, the seller signed a one-sentence unsworn affidavit before a California notary public in Danville, California, stating, “I am not a non-resident of Canada within the meaning of…the Act of income tax (Canada) and neither will I be a non-resident of Canada at the time of closing.

The judge found it curious that the notary was content to state that this declaration had been “DECLARED before me”. There was no reference to whether the statement was “under oath” or “solemn” or that the statement was made under penalty of perjury. This contrasted with another statement made the same day, before the same California notary public, regarding certain “HST matters” in which the seller actually made a statutory declaration.

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The issue before the court was whether the taxpayer, through his attorney, had “after reasonable inquiry … no reason to believe that the (vendor) was not resident in Canada”.

The judge felt that there were simply too many red flags to accept the unsworn statement as proof that the seller was truly not a nonresident. The taxpayer could have asked “(s) simple questions such as what was the seller’s permanent address… (as well as requesting) a copy of the seller’s driver’s license.

In declaring the taxpayer liable for tax, the judge concluded: “(The law) requires and deserves more than a brief affidavit or solemn declaration when there are factual red flags that may suggest non-residence. The matter should then be pursued, in order to give due effect to the tax concern which Parliament sought to address in its wording of “the purchaser withholding tax requirement”.

Jamie.Golombek@cibc.com

Jamie Golombek, CPA, CA, CFP, CLU, TEP is Managing Director, Tax and Estate Planning at CIBC Financial Planning and Advisory Group in Toronto.