What a Canadian Should Know Before Buying U.S. Real Estate

What a Canadian Should Know Before Buying U.S. Real Estate

Many Canadians are dreaming of heading south for the winter, but not just to beat the cold. They have real estate investing on their minds. Our strong dollar combined with a collapsing housing market in the U.S. spells opportunity for many. But Canada and the U.S.A are not the same country, and as much as we have in shared we have differences. Any Canadian investor considering putting money in the U.S. should have a basic understanding of some meaningful differences between buying real estate in Canada versus buying real estate in the U.S. So, before you start putting your loonies in Florida or Texas, read on.

Tax Systems:

Talk to an accountant that is experienced with American real estate investment as the countries differ considerably in terms of taxation of investment similarities.

In the U.S.

  • 1031 Exchanges allow the capital gains from the sale of an investment character to be deferred and rolled into a buy of a similar kind of character if it’s bought within 180 days. This can be done many times allowing capital gains to be deferred until the end asset is finally disposed of and not replaced;
  • If capital gains are realized (character is sold and cash is received), the seller is taxed at 15% of the total net gain (as long as the character was owned for more than 1 year, if less than, the rate is much higher);
  • character taxes tend to be similar to those in Canada, however, if you are a Canadian and own a character in a Southern state like Florida or California, you may have much higher “non-resident” character taxes than either the locals or if you invest in other U.S. States;
  • Similar to Canadian tax laws, you will not be taxed on your dominant residence, however, in the U.S., you can write-off the interest charged on your home.

Compare this to Canada

  • Sell your investment character in Canada and you’ll pay capital gains tax on 50% of the net gain. Canada does not however have the option of deferring the gain by an exchange. The “gain” or “loss” gets additional to your income and your are taxed at the applicable rate (which could be much higher than the standard 15% rate in the U.S.);
  • Similar to in the U.S., expenses associated with holding an investment character can be written off against your taxable income. See two past articles for tax time tips: Part 1 and Part 2.

Before you send your loonie south this winter:

  • Determine if there are “non-resident” character taxes applicable in the city/state you are considering;
  • If you already own in the States and sell the character (and don’t buy another there to use the 1031 Exchange strategy) you’ll be required to pay U.S. taxes on the sale. You pay the U.S. first, but nevertheless have to file the tax return in Canada (showing the taxes paid in the States). consequently, you’ll only pay once (you get a tax credit applied to your Canada taxes), but you have to file 2 returns (February/March 2008 Money Sense has a great article on this issue);
  • Rental income requires two filings for taxes in addition. You must claim the income (and expenses) in both countries, pay the applicable taxes, and get a credit for your Canadian taxes.

Lending differences between Canada and the U.S.:

The “credit crunch” or “subprime market meltdown” has had a emotional impact on the U.S. lending ecosystem, and has trickled over the border to Canada. Because of the economic crisis, lender guidelines and policies have changed dramatically in both countries. In the U.S., there were many mortgages given to just about any candidate. The phrase “ninja” loan was coined in the U.S. The acronym standing for “no income, no job, no assets”. Many individuals were given mortgages beyond their method. When the first large phase of ARM (adjustable rate mortgages) began to raise their rates, foreclosures began popping up all across the nation. Canadians need not fear the same crash here thanks to very different lending environments.

In the U.S.

  • Hundreds of edges across the country with hundreds of differences in lending policies and guidelines;
  • Licensing varies across each state for who can be a mortgage broker. In some states no testing or licensing is required at all!
  • Bank regulation is controlled at the state and federal level, again possibly leading to less strict lending criteria from one bank or lender to another.

And in Canada

  • One federally-regulated Bank Act that controls what edges can and cannot do across Canada;
  • Only 5 major edges in Canada that control a large majority of all banking divisions;
  • All of the Big 5 edges in Canada are able to lend funds for mortgages, but they have also acquired (and supervise) many of the licensed trust and brokerage companies (which lend money in addition);
  • Mortgage brokers are provincially regulated in Canada, but the majority of provinces require extensive training, and the successful completion of a licensing test.

Economic Conditions in Canada and the U.S.:

The Canadian economy continues to enjoy good economic times with historically low unemployment rates, increased wages, and housing appreciation. At the same time, a recession has been lurking in the U.S. Many areas of the U.S. are experiencing depreciating houses, high unemployment rates, and deteriorating consumer confidence.

There could be some real bargains to be found in the U.S. as foreclosures pile up, character/houses depreciate (well into double digits in some States – Florida, Michigan, California), and our Canadian dollar continues to sit around par with the greenback. But before you take the drop, do your research. Most economists nevertheless believe we are in the midst of the subprime fiasco. They forecast continued depreciation across the nation (clearly much worse in some areas than others) for the better part of two years. So, unless you really know an area is going to get better soon, I personally, would wait and see what the summer and early 2009 has to bring. The election, the war, federal policies to “bail-out” millions of credit-burdened borrowers, and the worst part of the subprime scenario which is expected to hit in the fall of 2008, are all factors that will impact investment in the coming year, and it’s a gamble to buy without knowing what will happen. But, with the strong dollar, it’s a good time to head south and start looking for that dream home in Florida, isn’t it?

Some final thoughts (in this article anyways) on investing in the U.S. real estate market. If you are intent on purchasing in the U.S. and are a Canadian citizen residing in Canada, the following three ways may help you acquire financing:

  • Take out a mortgage in the U.S. by a U.S. based bank owned by a Canadian one such as RBC Centura or Bank of Montreal’s Harris Bank;
  • buy using all cash so you don’t have to deal with cross border financing issues (e.g., pull equity out of your home or other Canadian similarities or ask your high aunt for money!) to buy down south; and
  • Create a corporation in the U.S. with assets (a holding company will not work as it needs to have equity or be generating revenue) which can acquire the mortgage from a U.S. lender.

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