It’s 2023 and more and more people are embracing the power of scaling up their business in the digital realm. In fact, “in 2022, retail e-commerce in Canada generated almost 58 billion U.S. dollars in revenues. According to estimates, this figure is projected to increase to over 118 billion U.S. dollars by 2027.” (Source: statista.com)
If Canadian e-commerce businesses sell to the U.S. market, there are certain tax implications that come into play. Taxes may need to be collected on products sold and services rendered, as more and more states become aggressive in collecting tax revenues from out-of-state businesses. Generally, the idea is to put out-of-state vendors on the same equal footing with their U.S.-based competitors. In theory, that way, no unfair tax breaks are given to foreign online retailers.
In this article, we touch upon 5 important U.S. tax questions that online Canadian businesses must ask themselves if they sell their goods and services across the Canada/U.S. border via the internet or have U.S. customers.
1. Do Canadian online businesses selling to the U.S. market have to report income to the Internal Revenue Service (IRS) or Canada Revenue Agency (CRA)?
The answer to this question depends on how you conduct your business, as there are several ways in which the tax liability may arise and may be shared between the two jurisdictions. However, this is not a scenario where no tax should be payable – at the very least, your business will be subject to tax in one jurisdiction (where it is incorporated or otherwise potentially treated as a tax resident of).
As a general proposition, your business should be subject to tax in the country of your residence. Yes, there is tax, even if all of your business is done online. If you are conducting your business as a solo proprietor (self-employed, without forming or incorporating a business entity), while being physically present in Canada, you should be subject to tax in Canada with respect to the services performed in Canada. If you are also subject to U.S. tax on some of your income, you should be able to avoid double taxation by claiming U.S. taxes (or other foreign taxes) paid on your Canadian individual income tax return. If you do your business through a Canadian corporation or a U.S. corporation, the taxation becomes more complicated, but for the sake of simplicity, your business may be required to pay taxes in both Canada and the United States.
Based on your situation, you may be required to file both Canadian and U.S. tax returns, as well as additional tax disclosure filings, for instance, when you are claiming certain Canada-U.S. income tax treaty benefits, have certain intercompany transactions that are required to be reported, or would like to claim a reduced tax withholding. If you are subject to tax in the United States and claim a foreign tax credit on your Canadian tax return, the CRA would typically require you to provide proof of your ultimate U.S. tax liability before granting the foreign tax credit claim. Such proof would include providing various tax slips (such as Form W-2 in case of employment income), a copy of your U.S. tax return, an IRS transcript of account, state account transcript, and other forms of proof acceptable to the CRA.
Quite evidently, we can’t give you a blanket answer to this question. We recommend that you get in touch with your qualified U.S. tax advisor or the team at U.S. Tax IQ and we will ensure that your business is tax-compliant in both countries while assisting you in effective management of potential tax exposure or in avoiding tax controversies down the road.
2. Do sellers need to charge sales tax when selling to U.S. customers?
State sales tax is collected at the state and local levels. It is not a federal tax Businesses may be required to collect this tax on any sales to the customers in those states where there exists a sales tax nexus. A nexus is the minimum level of activity in that state or a minimum sales threshold amount that could lead to the state tax liability for the out-of-state seller. Due to the large number of states imposing the sales taxes, various exemptions available (for example, for wholesale vendors, provided certain procedures are met), and constantly changing sales tax framework, we recommend that taxpayers evaluate various online tax software solutions that provide assistance in identifying sales tax liability, monitoring it, reporting it, and remitting the tax in some instances.
However, the online business owners should understand that they are the taxpayers and have the ultimate responsibility for the sales tax. As such, they should not ignore this issue if, for example, their e-commerce platform does not deal with state sales taxes.
3. Do sellers have to be registered with the IRS to do business in the United States?
As a foreign seller selling tangible products to the U.S. market and having no other physical presence in the United States, there is no prerequisite for obtaining a Taxpayer Identification Number (TIN). In the case of a business, it is the Employer Identification Number (EIN). In case of an individual, it is the Social Security Number (SSN) (issued to U.S. persons or nonresident alien individuals authorized to work in the United States) or the Individual Taxpayer Identification Number (ITIN).
Being able to open a U.S. bank account or having the ability to receive payments from customers located in the United States is a different story altogether. Some payors require a TIN from non-U.S. online entrepreneurs. If you want to open a bank account with a U.S. bank, the bank would also require you to provide a valid TIN. The Canadian Social Insurance Number (SIN) or Business Number for a business does not qualify as TINs for these purposes.
Of course, regardless of whether or not you are in the possession of an EIN or ITIN, there are certain goods that are restricted and cannot be sold in the United States. It’s best to check with local government and regulatory authorities to apprise yourself of these restrictions as well as any safety certificates or approvals that may be needed prior to commencing your business in America.
4. What U.S. returns must Canadian sellers file if any?
This varies based on the nature of your business and U.S. transactions. The tax filing requirements range from Form 1040NR, U.S. Nonresident Alien Income Tax Return for individual entrepreneurs to Form 1120-F, U.S. Income Tax Return of a Foreign Corporation (treaty-based protective return, if no U.S. permanent establishment), including Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business for certain Canadian corporations.
Your best course of action in figuring our applicable U.S. tax filing and reporting requirements is to reach to a qualified U.S. tax advisor and determine what are those requirements in your situation. This should also allow you to structure your U.S. business activities properly in a tax-efficient manner.
5. Does the seller have to be incorporated in the United States or Canada?
Not necessarily. However, the decision on how to conduct your cross-border business should not be made without a consultation with a qualified U.S. tax advisor. Structuring your business activities in the United States properly outright will ensure smooth operation in the future. So, it is worth evaluating the best possible tax structure in your scenario ahead of time.
DISCLAIMER: Please note that the information contained in this article is general in nature, is current only as of the date of posting the respective information on the website, and does not (nor is intended to) provide legal or tax advice or an opinion on any matter or issue discussed. You should consult your qualified U.S. tax advisor for any advice on any matters or issues discussed in this article.