Anyone who has ever made an offer to purchase a property in Canada has likely come across some strange wording in the standard form agreement. It goes something like this:
“The Seller represents and warrants to the Buyer that the Seller is not and oncompletion will not be a non-resident under the non-residency provisions of the Income Tax Act… and the seller shall deliver to the buyer a statutory declarationthat the seller is not then a non-resident of Canada.”
The reason for this rather convoluted wording is that the sale may trigger taxes payable by the seller to the Government of Canada. If the buyer pays the full purchase price to a non-resident seller without regard to any taxes that are potentially owing by the seller, the buyer could become personally liable for the payment of any outstanding amount. This risk does not exist when the seller is a resident of Canada within themeaning of the Income Tax Act on the closing date.
If there is any doubt as to the seller’s residency status on the closing date, the buyer and the buyer’slawyer are obligated to ensure that the prescribed portion of the sale price is withheld from the selleruntil the Canada Revenue Agency (CRA) determines whether any taxes are in fact due and payable. The amount to be withheld is typically 25% of the sale price, though it can sometimes be as high as 50% of the sale price on revenue-generating properties. If it subsequently turns out that notaxes are owing by the seller, a clearance certificatepermitting the release of the withheld funds will beissued. If, on the other hand, taxes are indeed payable, then the appropriate amount has to be remitted to CRA from the holdback funds. Theprocess of securing a clearancecertificate is usually handled by accountants, and can take as long as 45days or longer to finalize.
Who is a Non‐Resident?
Determining the residency status of a seller is not as straightforward as one might think. For example, the fact that the seller is a Canadian citizen, or is physically present in Canada, does not necessarily mean that he or she is a Canadian resident. The buyer has an obligation to make reasonable inquiries to ascertain the seller’s residency. Generally, an Affidavit of Residency, executed by the seller, provides sufficient protection. However, if there is any information concerning the seller that raises any doubt as to his or her residency, the purchaser cannot simply rely on the seller’s affidavit.
To sum up:
Section 116 of the Income Tax Act applies whenever a non-resident sells taxable Canadian property. There is a liability to pay tax unless:
- After reasonable inquiry, there is no reason to believe that the seller is a non-resident;
- The non-resident seller is covered by a tax treaty between Canada and his/her country of residence; or
- The Minister has issued a clearance certificate.
If none of the above exceptions exist, the applicable taxes must be paid within 30 days.
Practical Impact of Section 116
If a non-resident sells a Canadian property without receiving a clearance certificate, the purchaseris entitled to deduct or withhold the appropriate amount (usually 25% of the purchase price) from the amount otherwise payable or credited to the seller. The purchaser also has the right to recover any such amount paid as tax. If the seller has received a clearance certificate, then the purchaser will only be required to withhold 25% of the actual capital gain.Failing to withhold the requisite amount could be disastrous for the purchaser, who could potentially be liable for the seller’s taxes. (It is not a defence to say that the non-resident received all the money). In such a case, the purchaser’s only recourse would be to pursue civil remedies against the seller, who may not even have any assets left in Canada.