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Canada and the United States

Transferring Funds from 401(K) to RRSP

Question

"I'm a Canadian citizen currently working in the US on a TN visa without residential ties to Canada. I have built up some cash in a 401k. I anticipate moving back to Canada in the middle of next year. I would like to access some of my 401k dollars to help make a downpayment on a house there. Should I transfer the 401k to an RRSP? Does my RRSP Contribution Limit apply? Should I consider borrowing from my 401k but otherwise leaving the money in the US?"

Answer

Thanks for the question. It's an interesting problem. Let's look at some of your options.

If you withdraw from your 401(K) you will pay a 10% penalty tax to the U.S. unless you meet certain conditions, such as being under financial hardship or over 55 and no longer a company employee. You would also face a 20% withholding to help cover additional tax owing for the year. Plus, if your employer made matching contributions to your plan and you leave the plan before becoming vested, you could lose the employer-portion of the value of the plan. All of the above make a straight withdrawal from your 401(k) unappealing, but you probably know that.

Your plan might have provisions to borrow money for a down payment on a house, which might be the way to go, but you should check with the plan administrator to find out what happens to the loan when you quit your job and move to Canada. I'm afraid I can't advise you further on this approach as I don't know enough about your plan.

Transfers can be made from U.S. pension plans to Canadian RRSPs, if the following conditions are met:

  1. You must have been a resident of the U.S. when the contributions to the plan were made;
  2. The withdrawal must be a lump sum payment; and
  3. The withdrawal must be taxable in the U.S.

CRA Interpretation Bulletin 528 states that:

27. A deduction for an amount (other than an amount that is part of a series of periodic payments) received from a "foreign retirement arrangement" (see ΒΆ 28 below) transferred to an individual's RPP or RRSP, is provided under subparagraph 60(j)(ii), as long as the amount can reasonably be considered to be derived from contributions made to the foreign retirement arrangement by the individual, or the individual's spouse or former spouse. As set out in section 60.01, the amount cannot include any superannuation or pension benefits received by an individual from a foreign retirement arrangement that can reasonably be considered to be derived from contributions made by a person other than the taxpayer, or the taxpayer's spouse or former spouse. In addition, the amount has to be included in the individual's income for the year under clause 56(1)(a)(i)(C.1) and would have to be subject to taxation in the other country if the individual was a resident of that other country. The transfer of the amount has to be made in the year the amount is included in the individual's income or within 60 days after the end of the year.

28....For the purpose of the definition of a "foreign retirement arrangement" in subsection 248(1), subsection 6803(1) of the Regulations prescribes plans or arrangements. At the time of printing, the only plan prescribed for this purpose is a plan to which specific provisions of the United States Internal Revenue Code apply.

The above definition of "foreign retirement arrangement" is confusing. I called the International Tax Services Office, and was informed that present CRA policy is to accept transfers from U.S. International Retirement Arrangements, or IRAs, but not 401(K)s. So, you would first need to transfer your 401(K) into an IRA, then transfer to an RRSP. Your RRSP contribution limit does not apply—transfers are made in addition to any contribution room you might have.

If you rollover your 401(K) withdrawal into an IRA within sixty days, it should not be subject to the 10% penalty tax mentioned above, but the 20% tax withholding would still apply. You would have only 80% of the withdrawal to put into the IRA, unless you make up the 20% out of your own pocket.

Once you have it in the RRSP you can make a Home Buyers Plan withdrawal of up to $20,000, if you meet the conditions and are a first time home-buyer. You have to pay the withdrawal back to the RRSP within 15 years, or gradually bring it into income and pay tax on it.

The IRA withdrawal will be viewed as a transfer only from Canada's perspective. The U.S. will still view it as an early withdrawal and impose penalty taxes, but you may be able to recover part of the taxes paid to the U.S. from Canada.

This method works if you wait until entering Canada and becoming a resident before making the IRA to RRSP transfer. You include the withdrawal in income on the Canadian tax return and claim the transfer into your RRSP, resulting in no additional tax liability to Canada. You then claim foreign tax credits on the Canadian return for the taxes paid to the U.S. on that income, thereby recovering some or all of the U.S. tax from Canada (Ref: Section 126 of the Income Tax Act).

Remember that, because you aren't actually paying tax to Canada on the pension withdrawal, you need sufficient other Canadian income and tax owing to Canada for this little maneuver to be successful.

Related Websites

Transfer from a non-registered pension plan
http://www.cra-arc.gc.ca/E/pub/tp/it528/it528-e.html#P211_32394

Home Buyers Plan
http://www.cra-arc.gc.ca/E/pub/tg/rc4135/rc4135-e.html


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