Blog post

Executive Summary

• IRAs are tax-advantaged U.S. retirement accounts with different tax implications in Canada.
• Canadian residents, with or without U.S. citizenship, can own U.S. IRAs, but specialized management is recommended.
• IRA withdrawals are taxed differently for Canadians based on their U.S. tax status.
• Transferring an IRA to an RRSP is seldom the best option due to its complexity and limited benefits.

I get questions about moving IRAs to Canada on a monthly basis. It’s definitely one of the most common conversations I have with clients and prospects.

Whether you’re moving to Canada from the U.S. and planning for your investments, or perhaps you’ve inherited an IRA from a U.S. relative, a proper understanding of the tax implications is very important.

Let’s start with the basics…

What is an IRA?

An Individual Retirement Account (IRA) is a savings account with tax advantages that U.S. individuals can use to save and invest for retirement. There are several types of IRAs, including Traditional IRAs and Roth IRAs. Contributions to a Traditional IRA may be tax-deductible, and the funds grow tax-deferred until withdrawn, typically after age 59½, when they are taxed as income. Roth IRA contributions are made with after-tax dollars, but qualified withdrawals are tax-free.

From a Canadian perspective, U.S. IRAs are very similar to RRSPs; however, they do carry quite a few differences. For the purposes of this article, we’ll review the Canadian implications of owning U.S. IRAs.

For the balance of this article, we will only discuss traditional IRAs. For more information about ROTH IRAs and their Canadian tax implications, please click here.

Can Canadians Own U.S. IRAs?

Yes, Canadian residents, regardless of whether they have U.S. citizenship, can own and hold U.S. IRAs. That being said, not all Canadian investment advisors can manage U.S.-based IRAs for clients. If you need help managing your U.S.-based IRA from Canada, please contact us today.

How Do IRAs Work From a Canadian Tax Perspective?

Generally speaking, IRAs are taxed in the U.S. once money is withdrawn from the account. The distributions will be taxed on your 1040 return depending on your marital status.

For those that file in Canada, however, the tax implications are quite different…

For Canadians without any U.S. tax status, any withdrawals from the IRA will first be taxed at 15% as source withholdings (sent to the IRS) and then fully taxed for Canadian purposes (once converted to Canadian dollars). The 15% U.S. taxes paid will be available as a credit on your Canadian return against any Canadian taxes calculated.

For U.S. citizens living in Canada, the tax impact will be a little different. First, regardless of the actual tax withholdings on the IRA withdrawal, you’ll pay U.S. tax based on your U.S. marginal rate calculated on your 1040. Similar to the example above, the taxes calculated on your U.S. 1040 return will be a credit in Canada against Canadian taxes up to a maximum treaty rate of 15%.

Ok, So Should I Transfer My IRA to an RRSP?

Once again, I get this question all the time, so let’s review our thoughts when discussing these transfers with clients.

One comment I get from prospects a lot is that their Canadian advisor is advising them to transfer the IRA to an RRSP. In my experience, the reason this is the “default advice” given by Canadian wealth managers is because they don’t have any other options for managing the client’s U.S. retirement account. Although transferring the IRA to an RRSP is an option, it’s very seldom the best option for clients.

Let’s walk through why this advice is often given…

Because most Canadian investment advisors do not have a U.S. investment license (unlike Beacon Hill, which is dually licensed), they tend to advise clients to transfer their IRA to an RRSP that they can manage.

Unfortunately, this is often the worst option for clients…

First, let me outline why you might want to transfer your U.S. retirement account to an RRSP. In my opinion, one of the only reasons to transfer the account to your RRSP would be to take advantage of future income splitting with your spouse.

When the pension income splitting rules were announced in 2007, the rules specifically excluded the ability to split U.S. Individual Retirement Account distributions. Therefore, for Canadian married couples with different income levels in retirement, there may be an advantage to moving some of the IRA into an RRSP. The theory is that once the RRSP is converted into a RRIF, the income can be split. However, that cannot happen until the RRSP is converted into a RRIF.

If income splitting is not a concern, it often makes the most sense to simply leave the IRA as is and have it managed by a cross-border wealth advisor.

Wouldn’t It Be Easier to Simply “Roll It” into My RRSP?

Yes, as mentioned above, this is common advice from Canadian advisors. The problem is that this would only work well for smaller IRAs. Let me explain the process in general terms…

Based on how the Canadian tax rules regarding IRA to RRSP transfers work, you’ll only be able to transfer an amount of your IRA approximately equal to your current income each year. The rules and application on your tax return are quite complex, so for those of you that want to “dive deeper,” you can view the specific section of the Canada Income Tax Act here.

So, assuming you had a $500,000 U.S. IRA that you wanted to transfer to your RRSP and your annual income was $50,000, it would take 10 years to make the transfer. Not only is this a long time, but it would also require a significant amount of work each year on your tax return to properly calculate, and you would still need to maintain the U.S. IRA during that time.

Also note that inherited IRAs are not eligible for an RRSP transfer regardless.

It’s for these reasons why it almost always makes sense to maintain the IRA as is and not transfer it to an RRSP.

Conclusion

While the idea of transferring a U.S. IRA to a Canadian RRSP may seem appealing, particularly when advised by Canadian wealth managers, it is often not the most beneficial route for most clients. The process can be lengthy, complex, and may not offer the advantages one might expect. In most cases, especially where income splitting is not a concern, it is generally more advantageous to keep the IRA intact and seek management from a cross-border advisor who is equipped to handle such accounts. This approach ensures that clients maximize the benefits of their U.S. retirement savings while navigating the complexities of cross-border taxation.

If you need help in reviewing your cross-border investment and tax situation, please feel free to reach out to Phil at phil@beaconhillwm.ca or you can take advantage of our complimentary cross-border investment consultation here (some restrictions apply).