RRSP Withdrawals and U.S. Tax Implications for Canadian Expats

Introduction

For U.S. citizens and Green Card holders living in Canada, understanding how Registered Retirement Savings Plans (RRSPs) interact with U.S. tax laws is essential for effective financial planning. While RRSPs offer tax-deferred growth in Canada, they can create complex tax reporting obligations in the U.S.

This guide provides a comprehensive overview of how RRSP contributions, withdrawals, and conversions impact U.S. taxpayers.

Understanding Registered Retirement Savings Plans (RRSPs)

An RRSP is a tax-advantaged retirement savings account registered with the Canada Revenue Agency (CRA). Similar to a 401(k) in the U.S., contributions to an RRSP reduce taxable income in Canada, and investment growth is tax-deferred until withdrawals begin.

Key features of an RRSP:

• Contributions are tax-deductible on a Canadian tax return.
• Investment income within the account is not taxed until funds are withdrawn.
• Contributions can be made until December 31 of the year you turn 71.
• Both employees and self-employed individuals can contribute.

Although RRSPs provide tax benefits in Canada, U.S. tax rules differ significantly, which can affect how withdrawals and tax reporting are handled.

RRSP Withdrawal Tax in Canada

When withdrawing from an RRSP, the Canadian government applies a withholding tax based on residency status and withdrawal amount.

RRSP Withdrawal Tax for Canadian Residents

For Canadian residents, the withholding tax on RRSP withdrawals is as follows:

These withholding rates represent preliminary tax payments, and the actual tax due will depend on total income and tax brackets when filing a Canadian tax return.

RRSP Withdrawal Tax for Non-Residents

For non-residents of Canada, RRSP withdrawals are subject to a flat 25% withholding tax.

However, under the U.S.-Canada tax treaty, non-residents can convert an RRSP into a Registered Retirement Income Fund (RRIF) and withdraw funds as periodic pension payments, reducing the withholding tax to 15%.

U.S. Tax Treatment of RRSPs

The U.S.-Canada tax treaty allows U.S. citizens and Green Card holders to defer taxation on RRSP investments until withdrawals are made.

Key U.S. Tax Rules for RRSPs

• Automatic Tax Deferral: Previously, U.S. taxpayers had to file IRS Form 8891 to defer RRSP taxation. This requirement has been removed, and deferral is now automatic.
• Taxation on Withdrawals: When withdrawing from an RRSP, the amount must be reported as taxable income on a U.S. tax return.
• Foreign Tax Credit (FTC): The Foreign Tax Credit can be used to offset U.S. tax liability on RRSP withdrawals, preventing double taxation.
• State Tax Considerations: Some U.S. states do not recognize the U.S.-Canada tax treaty, meaning RRSP income may still be subject to state taxation. For example, California does not adhere to tax treaties.

While RRSP withdrawals are taxable in the U.S., they do not qualify for the Foreign Earned Income Exclusion (FEIE), which only applies to earned income.

RRSP Reporting Obligations for U.S. Taxpayers

Foreign Bank Account Report (FBAR) Filing Requirements

U.S. citizens with a total of $10,000 or more in foreign financial accounts at any point during the year must file a Foreign Bank Account Report (FBAR).

Since an RRSP is considered a foreign financial account, it must be reported on an FBAR. Failure to report an RRSP can result in severe penalties, starting at $12,500 for non-willful violations.

If unsure whether an RRSP should be included, the best practice is to report it to avoid penalties.

FATCA Reporting for RRSPs

If total foreign financial assets exceed certain thresholds, RRSPs may also need to be reported under the Foreign Account Tax Compliance Act (FATCA) using IRS Form 8938.

Converting an RRSP to a Registered Retirement Income Fund (RRIF)

By the year you turn 71, an RRSP must be converted into a Registered Retirement Income Fund (RRIF) or another retirement income option.

Differences Between RRSPs and RRIFs

Contributions to an RRIF are not allowed once the conversion is made.

• Minimum annual withdrawals are required, based on the account holder’s age and market value of the RRIF.
• Withdrawals remain taxable in Canada and the U.S.

Tax Treatment of RRIF Withdrawals

• For Canadian residents, RRIF withdrawals are taxed as ordinary income.
• For non-residents, withholding taxes apply:
  • 25% for lump-sum withdrawals
  • 15% for periodic pension payments under the U.S.-Canada tax treaty

Since RRIF withdrawals follow the same U.S. tax rules as RRSPs, they must be reported on a U.S. tax return.

Tax-Free Savings Account (TFSA) vs. RRSP for U.S. Taxpayers

A Tax-Free Savings Account (TFSA) is an alternative to an RRSP but is not tax-deferred under U.S. tax law.

Differences Between a TFSA and an RRSP

• TFSA contributions are made with after-tax dollars and are not tax-deductible.
• TFSA earnings grow tax-free in Canada but are taxable in the U.S..
• RRSPs provide tax-deferred growth and are recognized by the U.S.-Canada tax treaty.

U.S. Tax Treatment of TFSAs

• The IRS considers TFSAs to be foreign trusts and requires additional reporting, including:
  • IRS Form 3520/3520-A for foreign trusts.
  • IRS Form 8621 for investments classified as Passive Foreign Investment Companies (PFICs).
• FBAR and FATCA filing are required if total foreign assets exceed thresholds.

Due to these complex reporting obligations, TFSAs are generally not recommended for U.S. taxpayers.

Conclusion

For U.S. taxpayers living in Canada, understanding RRSP withdrawals and their U.S. tax implications is crucial. While RRSPs provide tax deferral in Canada, withdrawals must be reported as taxable income in the U.S..

To prevent double taxation, U.S. expats can claim the Foreign Tax Credit (FTC) on their U.S. tax return. Additionally, RRSPs must be reported on an FBAR and possibly a FATCA report to remain compliant with U.S. tax laws.

For expert guidance on U.S. tax compliance, RRSP withdrawals, and cross-border tax planning, Tax Partners provides tailored solutions for U.S. citizens in Canada.

This article is written for educational purposes.

Should you have any inquiries, please do not hesitate to contact us at (905) 836-8755, via email at [email protected], or by visiting our website at www.taxpartners.ca.

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