Canadian Tax Lawyer Analyzes Tax Voluntary Disclosure Programs Around The World – Part IV: Canada Versus The U.S.A.

Posted: April 18, 2024

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This article series on the tax voluntary disclosure program includes 5 parts: Part I introduces the OECD framework and structures for tax voluntary disclosure programs around the world, providing a high-level overview; Part II delves into the voluntary disclosure program in Canada, examining the key elements of the program as well as its importance for Canadian taxpayers who are looking to correct their prior mistakes; and Parts III through V compares the voluntary disclosure program in Canada with similar programs in the United States of America, in the United Kingdom, and in countries within the European Union. This is Part IV of the series, which examines the similarities and differences between the voluntary disclosure program available in Canada and in the USA

Introduction: The USA Tax System VS The Canadian Tax System

The Canadian tax system and the USA tax system are both self-assessment based tax systems, which rely on taxpayers to self assess and report their income on their tax returns. The main taxing authority in the United States, is the Internal Revenue Services (IRS), which serves a similar function as the Canada Revenue Agency (CRA). There are a lot of other similarities between the two systems. Both systems levy a federal income tax and a provincial/state income tax.

There are also income tax conventions between the CRA and the IRS to work with each other to exchange information and to enforce tax laws in Canada and in the USA. However, the two systems are of course ultimately separate and independent. There are also some notable differences between the Canada and USA tax systems. For instance, the USA allows income tax to be levied by locally, such as a county or a city, while Canada does not allow income tax to be levied by municipal governments. A Limited Liability Corporation (LLC) is also treated differently in Canada and in the USA. In the USA, taxpayers generally are required to file two income-tax returns each year, one for their federal taxes and the other for their state taxes. Canadian taxpayers (except for those who reside and file taxes in the province of Quebec), in contrast, only needs to file one income-tax return each year.

Another commonly discussed difference between the two systems is the tax filing obligations of citizens and permanent residents. A US citizen or a permanent resident, whether he or she is a US tax resident or resident of another country, must file a US tax return every year. In Canada, citizenship and immigration status do not have direct connections to an individual’s tax filing obligations. A Canadian citizen who is living outside Canada, is a non-resident for tax purposes in Canada, and receives no Canadian sourced income, need not file income-tax returns in Canada. For more information about non-resident tax in Canada, please refer to our previous articles, including: “Withholding Tax On Non-Resident Reimbursements And Remuneration” and “Canadian Departure, RRSPs and TFSAs for Non-Residents: Tax Guide.”

Voluntary Disclosure Programs In The USA

The IRS Voluntary Disclosure Practice provides US taxpayers an opportunity to disclose previously unreported offshore income, assets, investments, and accounts to the IRS. The program is designed to encourage taxpayers with undisclosed income or assets held offshore or domestically to come forward and bring their tax affairs into compliance. The program targets a wide range of taxpayers whether they have unintentionally or willfully failed to comply with applicable tax laws in the United States.

To qualify for the program, US taxpayers must initiate contact with the IRS and submit a preclearance request to disclose their non-compliance. The disclosure must be truthful, complete, and timely. Taxpayers are required to provide all relevant information to the IRS, including the source of the unreported income and the identity of financial institutions holding undisclosed accounts. The disclosure must also be made prior to the IRS: 1) commencing a civil examination or criminal investigation; 2) receiving information from a third party alerting the IRS to the non-compliance; or 3) acquiring information directly related to the disclosure from a criminal enforcement action.

Upon acceptance into the program, taxpayers are typically required to cooperate with the IRS in resolving their tax matters and to stay compliant. This may involve providing additional documentation, participating in interviews, and paying any outstanding taxes, interest, and certain penalties. Once an application is accepted, the applicant must also pay the owed taxes in full or request a payment plan. The requirement for payment and continuous compliance similarly exists in the Canadian Voluntary Disclosure Program.

A key difference between the IRS Voluntary Disclosure Practice and the CRA Voluntary Disclosure Program concerns immunity from criminal tax prosecution in connection to the disclosure. When a voluntary-disclosure application is accepted by the CRA VDP, the applicant can expect immunity from criminal prosecution, although the immunity is limited to the information disclosed in the application. In contrast, although US Taxpayers who are accepted under the IRS Voluntary Disclosure Practice often avoid criminal prosecution for the disclosed non-compliance, the program actually does not guarantee immunity.

What Can CRA Learn From The IRS Regarding The Voluntary Disclosure Program

One obvious shortcoming of the Canadian Voluntary Disclosure Program is that there is rarely any temporary program available. For example, the IRS’s Streamlined Foreign Offshore Procedures and the Streamlined Domestic Offshore Procedures, which closed on September 18, 2018, provided a unique opportunity for US taxpayers to disclose their prior non-compliance, to have the returns included in the disclosure processed as any other returns submitted to the IRS, and to avoid signing a closing agreement with the IRS.

Rather, the CRA tends to initiate targeted tax audits on specific groups of taxpayers from time to time and requires taxpayers to apply for relief on an ad hoc basis. For example, Mr. Roher in Roher v The Queen, was not entitled to any relief at the conclusion of the court proceedings. As the Federal Court of Appeal upheld the decision of the Tax Court of Canada, Mr. Roher was found to be engaged in a “Buy Low Sell High” donation tax shelter schemes and his claimed $2.3 million in donation tax credits was denied from 1998 to 2004 tax years. If Mr. Roher required relief for his tax arrears, he needed to submit a taxpayer-relief application, which is decided at the CRA’s discretion.

In contrast, if the CRA provides temporary voluntary disclosure programs once they become aware of a widespread issue (e.g., CERB/CRB ineligibility, involvement in tax shelter schemes, unreported or underreported cryptocurrency-related income/assets), the CRA can save money and time in their attempt to ensure compliance. The temporary programs not only encourage taxpayers to come forward and to disclose their non-compliance, avoiding lengthy administrative procedures and legal proceedings for the taxpayers and the CRA, but also helps to increase short-term revenue in a cost-efficient manner. Instead, the CRA now just carries out large-scale tax audits and litigation before the taxpayers even become aware of such potential issues or have a chance to disclose them voluntarily. As a result, the CRA spends millions of taxpayers’ money to hopefully claw back more tax money, often spending many unnecessary years and incurring significant legal costs to conclude a case.

Pro Tax Tips – Beware of Different Retirement Plans In The USA And In Canada

Both Canada and the USA offer a variety of retirement plans and programs that allow taxpayers to invest in their investments and to enjoy certain tax benefits. For example, a Canadian tax resident can make pre-tax contributions to Registered Retirement Savings Plan. In addition, contributions made to RRSP can be invested and the Canadian Income Tax Act provides comprehensive tax deferral treatment for investment income earned within the RRSP. In other words, income earned via the RRSP is not subject to tax until withdrawn. Similarly, the USA has the Individual Retirement Accounts (IRAs) and 401(k) plans available. Under s.56(1)(a)(i)(c.1) of the Canadian Income Tax Act, foreign retirement arrangements are exempt from tax to the extent that the amount would not, if the taxpayer were resident in the country (such as the USA), be subject to income taxation in the country. As a result, the traditional IRAs and 401(k) plans enjoy tax-deferral treatment in Canada. However, the popular Roth versions of the IRAs and 401(k) plans, do not enjoy such favourable tax treatment in Canada.

If you are a Canadian tax resident who may have unreported income from your Roth IRAs or Roth 401(k) plans, or any unreported foreign income, you may be eligible to receive penalty and interest relief from the Voluntary Disclosure Program in Canada and should engage with one of our expert Canadian tax lawyers. Our expert tax law firm can help you decide whether a voluntary-disclosure application is the best way forward and help you prepare the voluntary-disclosure application.


Can I File Voluntary-Disclosure Applications In Both US And Canada?

From the CRA’s perspective, there is no restriction against taxpayers who may have tax filing obligations in foreign countries. Whether you will need to file a voluntary-disclosure application in both countries depends on the non-compliance issues to be disclosed. Our experienced tax lawyers in Toronto can assist you with any questions regarding the Canadian voluntary disclosure program. If you suspect that you may need to file a voluntary-disclosure application in the United States, we recommend that you speak with a licensed US tax professional or tax lawyer.

Do I Receive Immunity From Criminal Prosecution From An Accepted US Voluntary-Disclosure Application?

Unfortunately, unlike the Voluntary Disclosure Program in Canada, the IRS Voluntary Disclosure Practice does not guarantee immunity from criminal prosecution for an accepted voluntary-disclosure application. Nevertheless, US Taxpayers who are accepted under the IRS Voluntary Disclosure Practice have a very good chance of avoiding criminal prosecution for the disclosed non-compliance.

Disclaimer: This article just provides broad information. It is only up to date as of the posting date. It has not been updated and may be out of date. It does not give legal advice and should not be relied on. Every tax scenario is unique to its circumstances and will differ from the instances described in the article. If you have specific legal questions, you should seek the advice of a professional tax lawyer.

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