e-3582 (Taxation)

The Government of Canada thanks the petitioners for voicing their concerns about Windsor-Essex commuters. 

During the COVID-19 pandemic, the government provided extraordinary administrative relief to cross-border workers who were required to work remotely from their homes in Canada. Under the Convention between Canada and the United States of America with Respect to Taxes on Income and on Capital (the Convention) Canada has a right to tax the employment income of Canadian residents. However, if a Canadian resident works in the United States, the United States also generally has a right to tax their employment income, and double taxation is generally prevented through the provision, by Canada, of a foreign tax credit for the tax paid to the United States. During the pandemic, in order to alleviate the administrative burden of temporarily adjusting to a different tax situation, the government refrained from exercising Canada’s right, under the Convention and the Income Tax Act, to fully tax Canadian residents that had previously commuted to the United States for work. 

Since then, the government continues to monitor the continuing evolution of the workplace and the appropriateness of the tax rules. In that regard, the Government of Canada appreciates the petitioners’ comments.

The Canada Revenue Agency (CRA) extends its thanks to the petitioners for expressing their views concerning taxation. The CRA understands that cross border employment can give rise to tax compliance complexities due to the involvement of two countries. The CRA also understands that changes caused or accelerated by the COVID-19 pandemic may add difficulties.

The Guidance on international income tax issues raised by the COVID-19 crisis (Guidance) provided specific administrative relief intended to recognize the difficulties COVID-19 pandemic-related travel restrictions imposed on Canadian-resident cross-border workers. 

The Guidance didnot represent any interpretive position or intention to establish any broader policy by the CRA. Specifically, the administrative relief provided to the cross border workersin the Guidance allowed them to be taxed in Canada as if they had performed their 2020 and 2021 employment duties in the United States. This required Canada not only to cede its first right under the Convention between Canada and the United States of America with Respect to Taxes on Income and on Capital (Canada-US Treaty) to tax these individuals on duties physically performed in Canada, but also to allow the United States to impose tax on these individuals’ employment income even though no right to do so is provided under the Convention. Extraordinary administrative relief of this nature was possible only because of the unprecedented situation created by the pandemic and was therefore available only for the period in which it was necessary to address the effect of COVID-19 travel restrictions on cross-border workers.

The role of the CRA, among other things, is to act as the administrator of Canada’s income tax system. Doing so requires the application of the tax rules enacted by Canadian federal and provincial/territorial governments, including the provisions of Canada’s various income tax treaties. With the lifting of public health measures, in particular travel restrictions, the CRA must return to the administration of the law as it is set out in legislation and in Canada’s international agreements. This includes stepping away from the temporary administrative relief relating to tax credits, tax residency determinations, the permanent establishments of businesses, and legally required payroll withholdings. Changes to tax policy and the negotiation of Canada’s income tax treaties is the responsibility of the Department of Finance.

In allocating taxing rights between Canada and another country in respect of employees who are employed in one country but reside in the other, Canada’s income tax treaties generally look to the country in which the employee’s duties are carried out/exercised. This includes the Canada-US Treaty and is in accord with the Model Tax Convention on Income and Capital of the Organisation for Economic Co-operation and Development. Because the Canada-US Treaty  focuses on the location of where employment duties are carried out/exercised a distinction must be made between the work of traditional  commuters andremote work arrangements.

In recognition of possible income tax issues these allocation rules could raise for Canadian residents employed in the United States, the Canada-US Treaty contains specific provisions that allow these individuals to claim a foreign tax credit against their Canadian income tax in respect of contributions made pursuant to the Federal Insurance Contributions Act (FICA) in connection with employment carried out in the United States. Similarly, when the Canadian resident is an employee of a US employer,   the Canada-US Treaty  allows, under certain conditions,   theCanadian resident employee to deduct from their  Canadian taxable  income, contributions made  to a United States pension plan such as a 401(k) plan.  However, the deduction is only in respect of contributions attributable to employment duties exercised in the United States.

It is the CRA’s understanding that employers typically make contributions to 401(k) plans, in which case the 401(k) plans would be characterized as an employee benefit plan (EBP) under Canadian tax laws. Undeducted employee contributions to the EBP may be returned to the employee free of Canadian income tax, such that  double taxation generally should not arise.

Finally, with respect to employerpayroll  withholdings, the CRA also allows cross-border workers to apply for a “Letter of Authority” in respect of a  taxation year. In such a case, a waiver in respect of Canadian tax to be deducted from remuneration paid to a cross border workerwill be issued where the cross border worker can show that their employment income will be taxed in the United States as allowed under the Canada-US Treaty.