Let’s stay with the effectively connected to a US trade or business concept discussed in the previous post. As discussed in the previous post, there exists very little guidance as to what it means to be engaged in a US trade or business. If a nonresident alien makes sales within the US, this may be considered a US trade or business. A nonresident alien may be considered to have a US trade or business if the nonresident has employees or agents who regularly travel to the US to make sales visits, or if he employs employees who make presentations in the US, or generally solicit business in the US.
Corporations are more likely to be considered doing business in the US if they have a “permanent establishment” in the United States. The term “permanent establishment” includes:
(a) a place of management;
(b) a branch;
(c) an office;
(d) a factory;
(e) a workshop; and (f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources.
A Canadian corporation may also be deemed to have a US permanent establishment if it performs services in the US through an individual present in the US for 183 days or more in any 12-month period for one project or a series of connected projects for US customers.
Canadian individuals who conduct business in connection with a “fixed base” may also be subject to US effectively connected income tax. For example, a Canadian doctor using a US hospital’s examining room once a week to examine patients might be considered to be conducting business in connection with a US fixed base.
Tax Implications of Effectively Connected
If the Canadian citizen is engaged in a US trade or business, the individual is taxed by the US on the income which is effectively connected with the US trade or business. The effectively connected US income is taxed in the same manner as business income of a US citizen-resident (i.e., standard ordinary US income rates (currently 35% maximum federal rate for an individual). This is an ongoing test, which means that the conducting of a US trade or business at any time during the year will subject the taxpayer to US taxation. However, the Canadian citizen engaged in a US trade or business can also claim normal deductions which would typically be available to the US taxpayer. More importantly, Canadians doing business in the United States may not be liable for tax in both Canada and the United States, because the US-Canada Tax Treaty will likely remove the double tax via the credit system (to be discussed in a later post).
Don’t Forget About California State Tax
Canadian citizens doing business in California also have to consider California tax issues that may arise as a result of their “nexus” to the state of California. As a general matter, states are not bound United States tax treaties, so the California state may tax may not be alleviated by the US-Canada Tax Treaty. We will discuss California state issues in detail in future posts.