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Watch out for U.S. tax Form 8891

If you're looking for a little entertainment this week and you've got 116 minutes to spare, I've got an idea. I'm talking about filling out U.S. tax Form 8891.

According to the instructions, Form 8891 should take 65 minutes of recordkeeping, seven minutes to learn, 24 minutes to prepare, and 20 minutes to copy, assemble and send to the Internal Revenue Service (IRS).

Form 8891 is new, and my guess is that many Canadians living in the United States, and U.S. citizens, are going to give it a try this year. There are many who had better file Form 8891 to avoid problems with the IRS. Let me explain.

The history

It has always been the case that U.S. taxpayers, who include U.S. citizens (no matter where they live), and residents of the United States (including Canadians living south of the border), will face tax on any income earned in a Canadian registered retirement savings plan (RRSP) or registered retirement income fund (RRIF) of which they are a beneficiary -- even if there have been no withdrawals from the plan in the year. Also, tax will be paid in Canada at the time of any withdrawals from the plan, resulting in double-taxation.

Fortunately, Canada's tax treaty with the United States protects against this double-tax problem by ensuring that these folks can elect to defer the U.S. tax on income earned inside the plan until withdrawals are made.

The procedure for making this election in the past was complicated. Hence, Form 8891, U.S. Information Return for Beneficiaries of Certain Canadian Registered Retirement Plans.

The form

Form 8891 simplifies the process of making the election to defer the U.S. tax hit on income earned inside your RRSP or RRIF, and should be filed for 2004 with your U.S. tax return by April 15, if you're a U.S. citizen or resident. The form is used to report distributions (withdrawals) from the plan, contributions, undistributed earnings, and to make the election to defer U.S. income tax on the income inside the plan.

A separate Form 8891 must be filed for each RRSP or RRIF account that you have. And if you and your spouse must file, you've each got to file a separate form.

There's one other important point. The form and its instructions distinguish between an RRSP or RRIF "beneficiary" and "annuitant." When you read the definition of these terms in the form's instructions, it's as clear as mud.

The fact is, under Canadian tax law, there is no distinction between the beneficiary and annuitant. They are one and the same. Here's the problem: If you check the box on Form 8891 saying that you are an annuitant, and follow the instructions, you will fail to make the critical treaty election. The bottom line? An RRSP or RRIF owner should consider ignoring the annuitant instructions and follow the beneficiary instructions instead.

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