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Employer Report Card: The 2005 Tax Season in Review

CompassGUIDES - May 2006

By Diana Matwichuk, Assignment Planning Specialist

Your international assignees’ Canadian tax returns have been filed, the T4 summaries for 2005 are history, and refunds for Overseas Employment Tax Credit (“OETC”) are already being received by some of your rotational assignees. You can finally breathe a sigh of relief, but for a nagging thought - how did your company actually fare in the 2005 tax season?

At CompassTAX, we see it all in the international tax arena, and there is always room for improvement. The end of one tax season is the perfect time to reflect on ways to make next year’s rush for meeting the Canadian tax deadline proceed more smoothly.

Host Country Tax Remittance

We observed a number of instances during the 2005 tax season where it was apparent that the employer had not paid tax for their assignees in some foreign countries. This withholdings omission points to a lack of assignment tax planning. Employers should be aware that these foreign tax jurisdictions may eventually come back at them for payment of assignee taxes due, and such neglect could tarnish the company’s reputation in the host country, and prove costly in terms of interest and penalties.

An Assignment Tax Review covers all aspects of assignment tax planning, including the possibility of claiming foreign tax credits on assignees’ Canadian income tax returns. The benefit of these foreign tax credits can be split between the company and the assignee, but the assignment tax policy outlining these arrangements should be thoroughly planned and clearly documented for the assignee in order to avoid assignee/employer misunderstandings.

The implementation of Online Assignment Guides accomplishes both of these objectives by providing an impetus for the establishment of assignment tax policy, and the ultimate delivery of that policy to assignees via the internet to any host country where they happen to be stationed.

Foreign Countries with no Tax Reporting Requirements

A number of countries to which assignees are increasingly being sent have no formal tax return reporting requirements. Tax withholdings are made by the employer, but assignees are not required to file tax returns. This poses a problem for claiming foreign tax credits on Canadian income tax returns, in that employers have no formal documentation to support the claims.

We suggest to our clients in these circumstances that they obtain a notarized letter for each assignee, indicating the amount of tax paid in the host country. Sometimes, however, a seemingly simple task such as this requires a fair bit of lead time to arrange, depending on the availability of legal expertise in the host country. Additional time may also have to be factored into the planning process to allow for, in some cases, the preparation of an individual-by-individual breakdown of the lump sum tax withholdings payment made for all assignees working in that host country.

Form T626 – “Overseas Employment Tax Credit”

Assignees’ claims for the OETC require inclusion of a signed Form T626 “Overseas Employment Tax Credit” in their Canadian tax returns. In some cases, however, if the assignee began work in the host country at the end of the tax year, the qualifying 6-month period will not have been completed by December 31. This lends some ambiguity to the completion of Form T626.

During the 2005 tax season we came across a number of clients’ Form T626’s which were completed incorrectly and could not be included in the assignees’ tax returns without amendment. Assignment managers preparing Form T626 for their assignees should carefully consider the wording of question “A” on the form. If, by the time of tax return preparation, the assignee has worked for the company throughout a period of six consecutive months, even if all of those six months did not fall within the tax year, but rather spilled over into the current year, it is possible to tick “yes” to question “A”, and therefore allow for an OETC claim for that tax year.

T4 Errors

We found that a common mistake among employers this year involved errors in the preparation of T4’s. Boxes 72 and 73 were often missing, meaning that eligibility for OETC was not indicated to the CRA. Such an omission can hold up processing of assignees’ income tax returns and potentially expose both the assignee and the company to the CRA.

When preparing your assignee T4’s for 2006, you should ensure that boxes 72 and 73 are properly filled out. This may involve a review of the assignees’ eligibility for the OETC, which should be done anyway. Ensuring eligibility upfront, before claiming the OETC on assignee returns, is much preferable to adopting a wait-an-see attitude regarding OETC audits. We have defended clients on a number of such audits, and the effort involved in retroactively determining OETC eligibility (and proving such to the CRA) far surpasses that of the planned approach.

Reporting of Cross-Border Income on T4’s and W2’s

Income earned in the US by Canadian assignees must be reported in both Canada and the US. It is important, therefore, for clarity during tax return preparation, that assignment managers have a consistent policy on how they are going to report that income. It can be reported wholly on the T4’s, wholly on the W2’s, or split between the T4’s and W2’s (if income was earned in both countries during the tax year).

Summary

We find that many of these stumbling blocks to efficient tax return preparation can be avoided by conducting an Assignment Tax Review, and implementing an Assignment Tax Program based on the recommendations of the Assignment Tax Review. International assignment tax policy should be reviewed with respect to appropriateness, thoroughness, compliance, optimization of international tax savings, and blending of host country and Canadian tax. Reviews encompass and report on organizational structure, employer withholding, remitting and reporting, as well as expatriate employee tax reporting.

In concert with this strategic assignment tax planning, at CompassGUIDES we assist multi-national employers with their preparation and provision of assignment documentation, including the possibility of offering these guides online to employees anywhere in the world with internet access. Visit our International Assignment Planning Help Desk for more information about international assignment planning.

The author wishes to thank Peter Simpson, CA, Renate Clements, C.A. and Cyndy Packard for their contributions to this article .

 


Tel: (403) 531-2200 
Fax: (403) 263-1826


Web: www.compasstax.ca
Suite 600, 1333 8th Street SW
Calgary, Alberta Canada  T2R 1M6


Tel: (403) 531-2200 
Fax: (403) 263-1826


Web: www.compassguides.ca
Suite 600, 1333 8th Street SW
Calgary, Alberta Canada  T2R 1M6