You already know real estate joint ventures are one of the best ways to grow your real estate portfolio when you need additional resources. It’s a fairly straightforward process if you’re working with a fellow Canadian, but what if your money is coming from someone in a different country? How does a joint venture work with international investors, and what are the tax implications you should consider before you move forward? We asked George E. Dube, an accountant in the Toronto area who specializes in working with real estate investors, for advice to help you out!
What happens when you have a joint venture with a non-resident of Canada? International investors can be a great source of joint venture capital, but you have to understand the added complexities of holding, or selling, real estate in which a non-resident is involved.
Non-resident joint ventures
First off, we are talking about joint ventures that are not partnerships. Generally speaking the joint holding of rental real estate is considered a joint venture and not a partnership. Why is this important? In the case of partnerships with non-resident partners, the withholding tax rules are far more onerous and can impact all partners. So, you must have the proper joint venture agreement.
In a joint venture, each co-venturer:
- Separately reports his or her share of the gross income and expenses from the property.
- Claims capital cost allowance on his or her cost share of the depreciable assets without regard to what other co-venturers are claiming.
Therefore, the special rules that apply to non-residents (i.e. your international investor) only apply to the non-resident’s share of the joint venture.
You: 50% ownership
Jathan (non-resident): 50% ownership
The non-resident reporting rules only apply to Jathan’s 50%. Technically, you may have no responsibility for the non-resident’s withholding and reporting requirements –although as a good co-venturer, you are likely going to be coordinating this as the non-resident’s Canadian agent.
International investors normally have a Canadian agent who acts on their behalf making tax remittances and withholdings, for example. The CRA will hold the Canadian agent responsible for paying taxes, and filing tax returns, for the non-resident. To protect yourself, consider as a requirement of the JV that your accountant files tax returns and annually provides you a letter confirming the return has been filed.
(Note that if you have a property manager, it’s often the property manager that acts as the Canadian agent for the tax withholdings.)
What paperwork do you need to file?
If a non-resident holds Canadian rental real estate, a 25% Canadian withholding tax is generally applied on the gross rents. If you are paying the rents to the non-resident, you must remit this tax to the CRA on or before the 15th day of the month following the month the rental income is paid or credited to the non-resident. Otherwise, it will be your property manager that does this.
Gross rents vs. net rents
The Canadian agent, the person responsible for remitting the withholding tax, must file an annual NR4 Return. This return identifies the amounts withheld from the gross rents and remitted to the CRA.
Alternatively, your international investor can elect to have tax withheld on the net rental amount instead of on the gross rent. This involves filing an NR6 Form.
Generally speaking, you prepare an estimate of the expected gross rental income, expenses and net income for each rental property on your investor’s behalf, then include the estimate with the NR6 Form.
If the CRA approves the NR6 Form, the Canadian agent collecting the rents on behalf of the non-resident can then withhold tax on the net rental income of each property identified in the calculation instead of on the gross income. Until the form is filed and accepted by the CRA, however, the agent must withhold tax on the gross rents, and then file a Section 216 Return.
Annual filings for CRA
Annually, the non-resident can file a Section 216 Return within six months of the calendar year-end (i. e. by June 30). This is basically a personal income tax return, but used to report only the net rental income relating to the Canadian rental properties. The net rental income is subject to tax at the graduated rates applicable to Canadian residents. However, the tax owing is reduced by the previously remitted 25% withholding tax on the gross or net rents. Excess withholding tax is refunded through this return. This return is, in theory, but practically must be filed if taxes are being withheld at the net rent.
What about when you decide to sell?
Selling Canadian real estate where one of the owners of the properties is a non-resident is a little more complex, and involves more paperwork for Revenue Canada, than your standard sale. When selling a property, non-residents must apply for a clearance certificate from the Canadian Revenue Agency by filing Form T2062, and Form T2062A. (These forms generally are prepared by the non-resident’s Canadian accountant.) The CRA must then approve the forms and issue a Clearance Certificate. Without these forms, the purchaser of the property is required to withhold 25% tax on the gross sale proceeds (50% in the case of depreciable property). If the CRA issues a clearance certificate which is provided to the purchaser, tax is withheld on the gain and on any recapture, instead of on the gross selling price.
Any net rental income generated in the year of disposal is reported on a Section 216 Return and the disposal of the rental property is reported on a different non-resident return. Any withholding tax paid, as calculated on the T2062A form, is credited on the Section 216 Return and any withholding tax paid, as calculated on the T2062 form, is credited on the non-resident return, to be offset against any tax otherwise payable on the respective returns.
Failing to follow these procedures can mean significant adverse tax consequences depending on the situation. These are general descriptions to give you an idea of what is involved. Be careful of the strict reporting requirements and deadlines.
Many of our clients have successful joint ventures with non-residents. The key from a tax perspective is ensuring you follow the reporting requirements for tax purposes, in both Canada and the home country. Many choose to use Canadian corporations to own real estate to avoid many of the reporting requirements. However, there are still catches for you and your investors to consider, and the best advice is to talk with an advisor experienced with non-resident issues.
George is a veteran real estate investor and accountant (CPA). He has spoken, written various articles, and co-authored two books on real estate accounting. Connect with him on Twitter: @georgeEdube. You can also email him directly.
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