If you’re a Canadian considering a move to the US on a TN, L1, or H1B work visa, you’ll want to do the Substantial Presence Test calculation as soon as possible, ideally at least 3 months before you move. Failure to report your taxable income in the US can be very costly.
What is the Substantial Presence Test?
The Substantial Presence Test is a tool the Internal Revenue Service (IRS) uses to determine whether foreign nationals are treated as US tax residents. It’s a different process than the one Canada uses to determine tax residency. You can be considered a tax resident in both Canada and the US at the same time, and potentially subject to double taxation if you’re not careful.
How to Calculate Substantial Presence
The Substantial Presence Test uses a very specific formula that includes the 183 day rule.
The 183 day rule determines you are a tax resident in the US if:
- you were physically present in the US for at least 31 days during the current year
and
- you were physically present in the US for 183 days during the 3-year period that includes the current year and the 2 years immediately before that, counting:
- All the days you were present in the current year, and
- 1/3 of the days you were present in the first year before the current year, and
- 1/6 of the days you were present in the second year before the current year
Resident Alien vs. Nonresident Alien
You are a resident of the US for tax purposes if you meet the requirements of the Substantial Presence Test or you’re a green card holder (permanent resident).
If you don’t meet the requirements of the green card test or Substantial Presence Test, you may be considered a nonresident alien. Nonresident aliens still have to report US-sourced income, but may not be required to report worldwide income.
Exempt Days and the Closer Connection Exception
Exempt individuals are NOT considered US tax residents, and not required to report taxable income to the IRS.
When you calculate the days you were physically present in the US, some days may be considered exempt from your calculation.
Exempt Days Include:
- Days you commute to work in the US from a residence in Canada or Mexico (if you regularly commute between the two countries)
- Days you’re physically present in the US. for less than 24 hours
- Days when you’re traveling between two places outside the United States
- Days you’re serving as a crew member of a foreign vessel in the US
- Days you’re unable to leave the US due to a medical condition that develops while you are physically present in the United States
- Days you’re considered an exempt individual, including certain members of foreign governments, specific teachers, trainees and professional athletes
If you think you have enough exempt days to keep you from being considered a tax resident of the US, contact a cross-border tax accountant to confirm. It’s worth double-checking, since the Substantial Presence Test can be confusing, especially if you’re calculating it for the first time. Keep any documentation you have of your exempt days.
Closer Connection Exception to the Substantial Presence Test
The closer connection exception to the substantial presence test could still help you qualify as a nonresident, even if you were physically present in the US for more than 183 days.
This is especially true if you recently moved from Canada to the United States, but still maintain a tax home in Canada. Your cross-border tax consultant can help you determine if you qualify for this exception.
You may also be able to avoid double taxation by the US and Canada via the United States-Canada Income Tax Treaty. If you maintain residences in both Canada and the US, this tax treaty features tie-breaker rules to determine which country can claim you as a tax resident.
The tiebreakers identify the country where you have the strongest ties. If your ties are stronger with Canada (and you can demonstrate proof of that,) you may be able to avoid paying taxes on the same income in both countries.
What Happens if You Meet the Substantial Presence Test
If you meet the criteria listed in the Substantial Presence Test, the US considers you a tax resident, and you may be required to report foreign accounts, including any Canadian bank accounts, brokerage accounts or mutual funds.
A cross-border tax services specialist can help you file an electronic FBAR (Report of Foreign Bank and Financial Accounts) on FinCEN Form 114 and Form 8938 (Statement of Specified Foreign Financial Assets) as part of your US tax return, if needed.
Substantial Presence Test: Frequently Asked Questions
How do you calculate substantial presence?
Calculate the Substantial Presence Test total number of days you were physically present in the United States using the 183 day rule.
The 183 day rule establishes your tax residency in the US if:
- you were physically present in the US for at least 31 days during the current year
and
- you were physically present 183 days during the 3-year period that includes the current year and the 2 years immediately before that, counting:
- All the days you were present in the current year, and
- 1/3 of the days you were present in the first year before the current year, and
- 1/6 of the days you were present in the second year before the current year
How can I avoid passing the Substantial Presence Test?
Avoid passing the Substantial Presence Test by planning your cross-border move carefully with an experienced cross-border accountant at least 3 months prior to your move. US and Canadian tax laws have significant differences, but a CPA licensed in both countries can help you limit your tax liability and avoid double taxation.
Does the Substantial Presence Test apply to TN and H1B visa holders?
The Substantial Presence Test applies to TN and H1B visa holders from Canada. If you meet the requirements of the 183 day rule, you may be considered a resident alien of the US and subject to US tax laws, including required reporting of taxable income and assets.
What is the closer connection exception?
The closer connection exception may help you if you recently moved from Canada to the United States while still maintaining a Canadian tax home. Your cross-border tax consultant can help you determine if you qualify for this exception. If you do, you may be able to lower your US tax liability and avoid double taxation, even if you otherwise meet the Substantial Presence Test’s 183-day rule.
Talk to a Cross-Border CPA
Considering a cross-border move between the US and Canada in the next year? Schedule a FREE consultation with cross-border accountant and Sr. Tax Manager Kelly Sheng to get answers to your questions about the Substantial Presence Test and avoid any unpleasant tax surprises.