An Open Letter To Harry & Meghan On The Tax Implications of Moving to Canada

January 15, 2020

What follows is a rough analysis of Harry and Meghan’s (The Duke and Duchess of Sussex’s) tax situation in Canada, the U.K. and United States. No actual business or client relationship with the Duke and Duchess of Sussex is inferred nor implied. Andersen Tax LLP has not  been engaged by them. These comments are hypothetical only and for your information and reading pleasure and should not be relied on as tax or legal advice.

Dear Duke and Duchess of Sussex,

I understand that you are considering moving to Canada.  Most people don’t think of Canada as a tax haven, but the tax implications of moving here could be very attractive to you.

We understand that both of you and your son, Archie, are currently residents of the United Kingdom. The Duke of Sussex is a U.K. citizen and we assume that he has approximately $40 million (all amounts in C$ unless otherwise noted) of assets in the U.K. and may receive an inheritance of approximately $100 million.

The Duchess of Sussex is a U.S. citizen and has an estimated net worth of $5 million.  Archie is both a U.S. and U.K. citizen at birth based on your respective citizenships.

The following summarizes some of the relevant tax issues in Canada and the United States.  A full analysis including consideration of U.K. tax law should be completed prior to your move.

Canadian Tax Residency

Absent other conflicting facts, you will be tax residents of Canada if you maintain a place of residence where you reside for at least part of the year. If you do not maintain a residence in Canada, you would become de jure tax residents of Canada for any tax year in which you were present in Canada for more than 182 nights here.

You may still be U.K. tax residents under U.K. law. If you are tax residents of both Canada and the U.K., you would be subjected to the Canada-U.K. tax treaty’s “tie-breaker” test. This mechanical test considers a sequence of factors and stops once it is determinative.

The first test, “permanent home,” would not be determinative where you maintain and use personal residences in both Canada and the United Kingdom.  

The second test, “centre of vital interests, personally and economically,” applies if the first test is not determinative (if you own homes in each country). This test looks at all ties, both personal and economic.  Where Archie lives will be significant for this test, provided he is not sent to a boarding school. Despite your wealth, your economic centre of vital interests will be influenced by the location of your employment or business activities, presuming they are substantive. For many individuals a good “rule of thumb” is to empty your pockets/purse, then make a stack of cards and keys (house, office and car keys, driver’s license, health insurance, bank cards, credit cards, loyalty program and membership cards to local organizations and businesses; library, gym etc.) for each country. If one of the stacks of cards and keys is much larger than the other, you are likely a resident of that country under the “centre of vital interests” test. We understand that The Duke of Sussex is unlikely to have much of a “stack” either way as most of his property belongs to his grandmother. The Duke and Duchess of Sussex should begin working on building a stack of cards and keys for Canada if obtaining tax residency is the objective, or indeed maintaining a significant “stack” in the U.K. if the plan is to remain U.K. tax residents.

If there is no obvious centre of vital interests, the third tie-breaker test is “habitual abode.” This is referred to as the “183-night-test”, or where you most often sleep. It is probably not enough to have just one or two nights more in Canada or the U.K. for this test to be determinative. Your intent to travel extensively to third countries may complicate this analysis.

If the “habitual abode” test is not determinative, the fourth tie-breaker test is citizenship. As The Duke of Sussex is a U.K. citizen, he would default to being a U.K. tax resident.

If none of the tests were determinative and because The Duchess of Sussex is neither a U.K. nor a Canadian citizen, Canada Revenue Agency and the U.K.’s Inland Revenue would be required to come to a mutual agreement on her tax residency. 

Canadian Tax on Residents

As Canadian tax residents, you will taxable in Canada on your worldwide income.

  • The top marginal income tax rates depend on the province you reside in.  B.C.’s rate is 49.8%, and it is 53.5% in Ontario. The top rates of tax in Canada start on as little as $210,000 of taxable income.
  • “Income splitting” is important to Canadian couples. To realize tax savings, spouses should have roughly equal amounts of income. The ownership of assets, particularly any corporations or interests in income-generating real property, should be reviewed prior to becoming resident in Canada. 
  • Canada does not tax the appreciation of assets held by you prior to Canadian tax residency when they are sold. Prior to arrival, valuations of your current assets should be obtained to ensure that you gain full advantage of the so-called “step-up on immigration.”
  • Capital gains are subject to tax in Canada at half the rate applicable to ordinary income (24.9% in B.C. and 26.8% in Ontario). Unlike the U.S., there is no holding period on assets to get these preferential tax rates.

Granny Trust

If The Duke of Sussex’s father or grandmother settled a “Granny Trust” outside of Canada and the U.K., for the benefit of The Duke of Sussex and his children, that trust would not be taxable in Canada. For this structure to work, the trust would have to be fully discretionary, and neither The Duke of Sussex’s father or grandmother could have any right to the funds placed in the trust, nor could either of them become tax residents of Canada.

Canada does not tax trusts that only have a Canadian resident beneficiary if they meet the criteria noted above. Also, Canada does not generally tax receipts of capital. If the trust were resident in a country with no income tax, the income earned in the current year would be added to its capital and distributable as capital, and not as taxable income, to The Duke of Sussex in the succeeding tax year. The Granny Trust structure could allow you to live in Canada but pay no Canadian income tax.

Canada does require its residents to make certain tax disclosures on amounts received from trusts resident outside of Canada, so this structure would be fully disclosed to the Canada Revenue Agency.

U.S. Tax Issues

The U.S. taxes its citizens on their worldwide income regardless of where they reside. If The Duchess of Sussex were a beneficiary of the Granny Trust, she would be taxable on all distributions of current and earnings from prior years. She would also be subject to an interest charge on distributions from earnings in prior years. 

It would be advisable if Archie and The Duchess of Sussex were not beneficiaries of the Granny Trust if they continue to be U.S. citizens. The trust could be established such that Archie would not be a beneficiary until his father passes away and Archie is not a U.S. citizen.

Since Archie was born as a citizen of both the U.K. and U.S., he can renounce his U.S. citizenship without adverse U.S. tax implications if he does so prior to 18½ years of age and he has not resided in the U.S. for more than 10 years prior to renunciation.

The Duchess of Sussex can use her Canadian, U.K., and other tax paid to offset her U.S. tax otherwise payable, except for investment income where her modified adjusted gross income exceeds U.S.$125,000. A 3.8% U.S. tax applies to the excess. 

The Duchess of Sussex will continue to be subject to extensive U.S. tax reporting on her investments held outside of the U.S. including bank accounts, interests in non-U.S. corporations, trusts, mutual funds, and other entities. The Duke of Sussex could file a joint U.S. tax return with The Duchess of Sussex, but we don’t generally advise that unless it has significant net tax advantage to her because it exposes him to U.S. tax on his worldwide income and the related U.S. tax disclosures.

The Duchess of Sussex’s U.S. tax complications may be avoided where she renounces her U.S. citizenship. Unfortunately, it is more complex for her than for Archie. She should obtain citizenship in the U.K., Canada, or another country before proceeding with renunciation. 

To avoid U.S. tax on renunciation, The Duchess of Sussex must have filed her last five years of U.S. tax returns and her average annual net U.S. tax liability must be less than U.S.$171,000 for those years, and her net worth must be less than U.S.$2 million.  Where The Duchess of Sussex fails any of these, she would be subject to U.S. tax on renunciation. Proper tax planning may be able to reduce or eliminate some or all the adverse U.S. tax implications on renunciation of U.S. citizenship.

Estate Planning Issues

If The Duchess of Sussex remains a U.S. citizen she will be subject to U.S. estate and gift tax where her cumulative transfers during her life or on her death exceeded U.S.$11.4 million.  This amount will drop to approximately U.S.$6 million in 2026. The Duke of Sussex may prefer to transfer his assets on his death to a trust where The Duchess of Sussex receives the income from it during her lifetime but not the capital. This would to avoid The Duke of Sussex’s estate from being subject to U.S. estate and gift tax.

You will both need to reconsider your wills. Specifically, The Duke of Sussex will need to draft separate wills to deal with his U.K. and Canadian assets to avoid potentially expensive complexity in obtaining probate. If a Granny Trust is created, it would be advisable for The Duke of Sussex to ask his grandmother and father to have their wills changed so that any inheritance(s) he may receive would be transferred to the Granny Trust rather than to him directly.

Conclusion

Depending on how you chose to arrange your affairs, you may remain tax residents of the U.K. and still spend substantial time in Canada. This may be advantageous for you from a tax perspective. However, the use of a Granny Trust could result in Canada being a very tax efficient place for you to be tax residents. The most tax efficient outcome for you will depend on the structure of your assets. We do not have sufficient specific information at this time to be able to make an exact determination.

That being said, you will in any event need to keep careful track of how many days each of you spends in each country, and you will have to keep close watch on the specific ties each of you creates and maintains to each jurisdiction. You will also need to obtain further advice on addressing Archie’s U.S. citizenship. The Duchess of Sussex will continue to have a significant U.S. tax reporting and compliance burden; she may wish to consider obtaining proper advice with regard to renouncing her U.S. citizenship at some point. You will both also need to draft new wills to deal with assets in multiple jurisdictions and to address U.S. estate tax issues if you have not already drafted wills since becoming married.

Although on your facts, the tax, estate, and citizenship issues are complicated, with good advice and attention to detail it can all be managed. Welcome to Canada.

Jonathan Garbutt

Jonathan Garbutt

January 15, 2020 | 3:56 pm

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