Is it a good idea or a bad idea to have an LLC if you are a Canadian doing business in the U.S?
This topic is specifically for…
- Canadians who are looking to invest into the U.S.
- Canadian businesses and corporations who want to set up in the U.S.
- A person who’s starting a new business in the U.S. and is hearing LLC a lot.
You will hear that a lot. Things like, “I want to purchase a real estate and I’m using a LLC.” Or, “I’m also a Canadian business. I want to set up in or expand into the U.S. and want to set up a U.S. LLC for their subsidiary in the U.S.” This could also be someone who is trying to sell online doing e-commerce on Amazon, Shopify, you name it and want to set up a LLC.
In expanding to the U.S., to make the investment to start that business, normally the option of an LLC will come up. Is it a good idea or are I’ve already done this where do I stand how the taxes work? I do ask all of my clients how they heard about the LLC or how they go into it. Some of my clients tell me their lawyer told me they’re in a Facebook group that advised this. Sometimes, a Canadian talks to a US accountant who isn’t familiar with cross-border accounting who recommended an LLC.
#1 Problem with LLCs if You’re a Resident of Canada — Double Taxation
The number one problem that the Canadians will face when they own a U.S. LLC is double taxation. This is one of the biggest areas the tax relief does not work. It doesn’t because the type of income that is being earned or generated on the U.S. side is classified differently on the Canadian side and the way the CRA looks at it.
LLCs are considered pass-through entities. What do we mean by pass-through entities? A pass-through entity means the LLC will generate and earn income, but the LLC will not pay any taxes on that income—the owners of the LLCs will pay taxes on their own personal returns. So, if you are in the U.S., and you own 100% of the LLC, your LLC will not pay taxes. You will pay the taxes on your U.S. return.
So, how are LLC’s seen on the Canadian side? The CRA views a U.S. LLC as a corporation, not a pass-through entity. So, what kind of problem does this create?
Let’s say your LLC earns $1,000 net profit earned on the U.S. side. On the U.S. side, the owners of the LLC will pay tax on that $1,000. In this example, let’s also say that the owner takes $400 as a distribution. So, you’ve paid taxes on the $1,000, and it’s not taxed in the U.S. because it’s a flow-through entity and once you’ve earned it you pay taxed on it, and distributions are non-taxable, so you won’t pay any additional taxes on the $400. But, if you are in Canada, and you have a U.S. LLC that earned $1,000 and you took that $400 distribution, the LLC will pay taxes on that $1,000 and that cannot be used to offset any income, and the $400 distribution you received will be considered a dividend, and also face taxation. This creates a mismatch of income type that you earned from a foreign corporation for tax purposes. So, on the U.S. side the distribution is tax-free. On the Canadian side, that’s not the case, because the distribution is considered a dividend because the LLC is treated as a corporation.
So, on that same $1,000, your CPA will pay your tax in the U.S., and then in Canada you will pay taxes on that same $1,000.
#2 Problem with LLCs if You’re a Resident of Canada — Branch Profit Tax.
Because Canada will view your U.S. LLC as a Corporation, you may also fall under the Branch Profit Tax. So, if everything is being managed for the LLC from within Canada, then it falls under the Branch Profit Tax and the CRA will tax that income as well.
So, not only will you encounter double-taxation, you’ll also have to pay the Branch Profit Tax on top of that.
Conclusion: Good or Bad?
So, for a Canadian operating a business in the U.S., is an LLC for your business good or bad?
Most of the time, this is a bad idea for your business.
If you’ve already started an LLC, know that you have options. We’ll have a future article covering solutions.
In the meantime, contact us if you need help. We maintain offices in Toronto and Houston, and our team is here to help.
🇺🇸 Houston Office – (713) 451 – 9700
🇨🇦 Toronto Office – (416) 800 – 2709
