Complexities of Canadian Cross-Border Payroll

Cross-border withholding obligations for American and Canadian employers hinges on the duration of an employee’s stay and their residency status in either country, said two consultants speaking to a group of employers at the 41st Payroll Congress.

Residency Status

Withholding requirements for American and Canadian cross-border employers are governed by a series of tax treaties and executive agreements. Canada is the only country with which the US has an agreement for unemployment purposes, said Jonathan Stone, managing director at KPMG. The applicability of treaty exemptions will generally depend on the duration of an employee’s stay in either country.

Under existing agreements, an employee transferring from Canada will not be subject to federal or state unemployment taxes if the individual is in the country for under 183 days. “This rule drives taxation,” said Stone. “The moment an employee passes the 183 days, you’re going to have to worry about taxation and the application of foreign tax credits.”

For purposes of the 183-day rule, both business and personal days are included. “If someone decide to stay for the weekend, this can push them over the 183 days,” said Marni Halpern, Executive Director at KPMG Canada. Tracking employee travel and duration of stay is crucial for avoiding penalties.

Short-term assignments and business travel have greatest implications for cross-border withholdings, given the frequency in which these employees may exceed 183 days.

However, for employees that receive permanent transfers, Stone recommends immediately rolling them off payroll and enrolling them in the new country’s system. “This should take place at the onset of the transfer.”

Canadian Tax Considerations

“[Canada] is different than the US in that we tax based on residency,” said Halpern, “Canadian residents are taxed an all income, whereas nonresidents are solely taxed on Canadian sourced income.” Halpern noted the importance of first assessing an employee’s residency status to determine adequate withholding. “A lot of [consulting] time is spent counseling clients on determining residency status.”

Along with making a residency determination, employers should record hours worked and amounts paid to ensure compliance with the 183-day rule. Withholdings are not required for employees making under 10,000 Canadian dollars who have only been in the country for under 45 days. Employers should still issue a Form T4, Statement of Renumeration Paid, “but no social insurance or ITIN number is required,” said Halpern. If an employee is in Canada for over 45 days but below the 183-day mark, the employee will want to apply for an individual withholding waiver with the Canada Revenue Agency, CRA.

US employers who employ Canadian residents are required to make regular withholdings and remit to the CRA, regardless of the corporation’s status in Canada. Halpern reminded employers that “even if you qualify for treaty relief, it won’t stop payroll withholding requirements. There’s always going to be a withholding requirement unless there is a waiver or a nonresident certification.”

Employees assigned to work in Canada on a short-term basis should consider filing for a Regulation 102 waiver, which waives the employer’s withholding requirements. Employers cannot file for waivers on behalf of employees but should encourage employees to do so when required conditions are met.

Nonresident employees who wish to receive a waiver from withholding must first file the appropriate documentation with the CRA. US employers should also register with the CRA, regardless of the corporation’s country of incorporation. “Clients say to me, ‘I don’t want to register,’ but it’s required,” stressed Halpern.

Employers can also preemptively certify as an employer prior to sending individuals into Canada. The certification is valid for two years and allows employers to forgo withholding, so long as income and time worked remains tracked and within certification requirements.

US Tax Considerations

US employers must consider federal, state, local, and unemployment tax withholding, which becomes quite intricate, said Stone. Additionally, employers may be subject to varying family medical leave laws and should closely track these requirements.

Employers enrolling nonresident employees who qualify for treaty exemption must request a Form 8233, Exemption from Withholding on Compensation for Independent (and Certain Dependent) Personal Services of a Nonresident, in order to forgo withholding. If an individual is treaty exempt, employers must provide them with a Form 1042 listing the specific exemption and disclosing earned wages. Stone warned employers that some employees may require more than one wage report and may receive both Forms W-2 and 1042 according to their specific circumstance. “It can be very messy,” he said.

Employers are encouraged to revisit company policy and review whether any consideration has been given to difference in tax rates when assigning employees. “How is your assignment policy taking into consideration additional withholding? Stone asked. “Is [the withholding difference] even being considered?”

Open channels of communication with employees and payroll departments are also essential in navigating tax compliance. “Ensure everything is communicated and done in a timely manner,” he stressed. “I can’t tell you how many times companies fall flat because they can’t figure out how to get the data in a timely manner.”