US Stocks in a TFSA: What the 15% US Withholding Tax Costs Canadians

Yes, a TFSA can hold US stocks and ETFs: apart from certain derivatives, a security listed on a designated stock exchange is a qualified investment, and the New York Stock Exchange and Nasdaq are both designated stock exchanges. Whether you can buy them in your own TFSA also depends on the institution, since many firms limit the qualified investments their registered plans may hold. The catch is the dividends: under the Canada-US tax treaty, the US can tax the dividends a US company pays into a TFSA at up to 15%. The foreign tax credit that can offset such tax is for foreign tax on income reported on your Canadian tax return, while the dividends a TFSA earns are generally tax-free, so the tax withheld in a TFSA isn’t recovered as that credit. A gain when you sell is different: under the treaty it is generally taxable only in Canada, where gains in a TFSA are generally tax-free.

Shares that trade over the counter in the United States are another matter: OTC quotation systems such as OTC Link are not designated stock exchanges, so those securities are generally not qualified investments. What a TFSA can hold covers the other kinds of investment.

How much does the US withhold from dividends in a TFSA?

US tax is withheld from US dividends paid to foreign investors at 30% or at a lower treaty rate, and the IRS says the dividend’s beneficial owner claims the treaty rate by filing Form W-8BEN with the withholding agent. The Canada-US tax treaty caps the US tax on dividends owned by a resident of Canada at 15% of the gross dividend.

The tax is taken from the dividend before it is paid to the account:

Why doesn’t a TFSA get the RRSP’s exemption?

The treaty exempts the US dividends of an arrangement that is generally exempt from tax in Canada and is “operated exclusively to administer or provide pension, retirement or employee benefits”. The US Treasury’s technical explanation of the treaty says Canadian RRSPs and RRIFs are, like US IRAs, eligible for that exemption, subject to the exception in paragraph 3 of the article and provided they are operated exclusively to administer or provide pension, retirement or employee benefits. The CRA describes an RRSP as “a retirement savings plan”, and a TFSA as “a registered savings account” from which you can withdraw funds “at any time, for any reason”. We found no Canadian or US government source that treats a TFSA as an arrangement of that kind. Dividends the exemption doesn’t reach fall under the treaty’s general limit of up to 15%. US dividend withholding tax in an RRSP explains the exemption in detail.

Can you get the withheld tax back?

The foreign tax credit is for foreign tax you paid on income you earned outside Canada and reported on your Canadian tax return. Income you earn in a TFSA, dividends included, is generally tax-free, even when you make a withdrawal, and when Budget 2008 proposed the TFSA it set out that such income would not be included in computing income for tax purposes. A TFSA’s US dividends are therefore not income reported on your return, and the tax withheld from them can’t be claimed as the credit. In a taxable account, where the dividends are reported, the credit may be available; how to claim the foreign tax credit explains it.

Do you report US stocks held in a TFSA?

Dividends, gains and withdrawals in a TFSA are not included in computing your income, so they don’t go on your Canadian tax return. US stocks and other specified foreign property held in a TFSA are also excluded from Form T1135, the foreign property report; T1135 foreign property reporting covers the form. If you are a US citizen, the US side is a separate question, covered in dual citizenship and taxes; the rest of what a TFSA holder reports is in the TFSA guide.

What does the withholding cost?

The cost is 15% of each dividend, so in dollars it grows with the holding’s dividend yield and with its size.

What isn’t affected?

A gain on selling a US stock is usually free of US withholding: the IRS says capital gain income is not usually taxable to a nonresident alien who spends fewer than 183 days in the US in a calendar year, and that when it is taxable, it is not usually subject to withholding. The Canada-US tax treaty generally makes a gain on selling US shares taxable only in the country you’re resident in, which for you is Canada, though there are exceptions, such as gains on real estate located in the US. In a TFSA, capital gains are generally tax-free.

For a Canadian-listed ETF that holds US stocks, Mackenzie Investments, an ETF provider, explains that the US may apply its withholding tax to the dividends the US stocks pay to the Canadian-listed ETF itself, and its table shows that tax applying whether the ETF is held in an RRSP, a TFSA or a taxable account. By that table, holding such a fund in a different account doesn’t remove that layer; US-listed vs Canadian-listed ETFs compares the structures, and foreign withholding tax by country covers funds of non-US stocks.

To tell which case a holding is, look at where it is listed rather than the currency it trades in: some ETFs listed on the Toronto Stock Exchange also have US-dollar units with a “.U” symbol, such as XTOT.U, and those units are listed in Canada.

One bank that issues Canadian Depository Receipts (CDRs) says in its CDR brochure that they let Canadian investors get exposure to US companies without converting their Canadian dollars to a foreign currency. The same brochure says dividends on the shares underlying its CDRs are paid in Canadian dollars and may be subject to withholding in the same manner as if you held those shares directly, and that for an underlying security issued in the US, an investor may be subject to US withholding taxes.

Can a TFSA hold US dollars?

Yes: money is a qualified investment whether it is in Canadian dollars or a foreign currency such as US dollars (USD), provided its fair market value does not exceed its stated value as legal tender, though whether your TFSA can hold a USD balance depends on the institution. You may contribute foreign funds, but your financial institution converts them to Canadian dollars at the exchange rate on the date of the transaction when it reports them to the CRA, and the total contributed in Canadian dollars must not be more than your available contribution room. More generally, the Income Tax Act converts an amount in a foreign currency that is relevant in computing your tax into Canadian dollars at the spot rate for the day the amount arose.

A contribution over your room is taxed: An over-contribution is taxed at 1% of the highest excess amount in each month, for every month the excess stays in the account, with no buffer. The TFSA penalty calculator works out the tax and how to fix it, and how much TFSA room you have shows how to check your room first.

To convert currency, how to buy US stocks in Canada compares how brokers convert and what they charge, and Norbert’s Gambit explains another way to convert.

What changes if you hold them in an RRSP or a taxable account instead?

More on each side: US dividend withholding tax in an RRSP and how to claim the foreign tax credit.

If you move a holding from your TFSA to another account, on the TFSA side:

TFSA withdrawal rules has the details. On the RRSP side:

More in RRSP contribution limit.

Which kind of holding usually goes in which account is covered in asset location; the wider comparisons are in TFSA vs a non-registered account and TFSA or RRSP first.

Other TFSA questions are answered on the TFSA hub.