Guest Blogge: Peter Scarrow BA, JD
General Manager, TMF Group – Hong Kong
Since 1997, Mainland China, notionally a Communist country, has been the primary source of high net worth immigrants (“HNWIs”) to Canada. Thousands come every year. 90% of them select the Greater Vancouver as their Canadian base and pump billions of dollars annually into our local economy. Most HNWI’s retain China-based immigration consulting firms, not Canadian professionals, to handle the immigration process. Confusion abounds about many important legal issues. Canada-based immigration, tax and other lawyers are a negligible factor in this, by far the biggest and most lucrative immigration services market in Canadian history.
Focusing on three “status” issues, this paper attempts to provide a bit of background information on this phenomenon and shed light on a few of the legal implications of Chinese HNWI immigration to Canada.
THE RESURRECTION OF CHINA
In the West, China is often referred to as an “emerging economy”. That is not the way many Chinese see it. From their perspective China is a re-emergent civilization-state, now well on its way to regaining its rightful place as the pre-eminent civilization on the planet, a position it occupied for all of human history until the industrial revolution in the West. From this perspective China is experiencing not an emergence but rather a resurrection.
China’s road to resurrection, however, is slippery in sections, causing many (perhaps most) well-heeled Chinese families to hedge their bets by getting immigration status in other countries. Canada is one of those countries and, although our immigration policies and related legislation are in a state of flux and less welcoming to HNWI’s, we should continue to experience substantial inflows of Chinese HNWI’s for the next several years.
THE TYPICAL HNWI IMMIGRANT FAMILY FROM CHINA
The typical HNWI family from China comprises three individuals: mom, dad and one child. The child is usually school age. The parents range in age from early 30’s to early 60’s with most being in their mid- 30’s to late 40’s.
Usually they have sufficient net worth to buy a detached home somewhere in Greater Vancouver and deposit a million or more with a bank as living expenses. Few business/professional Chinese families with a net worth of less than CAD $ 2 million would contemplate immigrating. Many HNWI families have a net worth in the $10’s of millions, some in the $100’s of millions, and a handful in the billions. In several Greater Vancouver municipalities (but nowhere else in B.C.) they are, by a very large margin, the principal consumers of all kinds of luxury goods and services. In residential real estate, for example, it is estimated that over 80% of the $2 million homes sold on Vancouver’s West Side in the last 2 years were bought by Mainland Chinese immigrants. One prominent West Side jewellery store owner told the writer that, during the same period, over 90% of his sales (in terms of value) were to buyers from China.
Why do they immigrate? They are concerned about:
- The potential for social instability in China
- The integrity of judicial and administrative processes in China, about possible risks associated with sudden shifts in government policies, and about the risks of capricious expropriation of private wealth
- The quality and intensely competitive nature of children’s education
- Extreme levels of pollution in the big cities
- The long term sustainability of China’s economy in the context of a country with diminishing energy, water and other resources and 1.4 billion people with generally rising, not diminishing, expectations
Commonly the family plan is for one spouse, usually dad, to continue running the family business or working in his pre-immigration job in China, traveling intermittently and briefly to Canada to visit the family. Colloquially he is an “astronaut”. As a rule the astronaut dad has no intention of actually residing in Canada or becoming a Canadian citizen. For him the arrangement is kind of an insurance policy. Mom and child, on the other hand, intend to remain in Canada, become citizens and then consider their options. Often the longer term goal is for the child to get the best public or private school education possible in Canada and then move on to college in the USA, the notion being that good US colleges have a better brand recognition than Canadian universities, both in China and internationally. So mom’s job (typically she is not employed and has a substantial budget) is to focus on the child’s education.
In any event, while mom and child may have significant commitments to Canada, the astronaut dad generally does not. He is based in China, traveling regularly to, but staying only briefly in, Canada. From the outset he never intended to reside in Canada. In such circumstances he may or may not become a Canadian tax resident depending on the unique factual conditions surrounding his lifestyle and connections to the two countries.
THE THREE “STATUS” ISSUES
In coming to Canada the typical HNWI family from China will necessarily make choices, conscious or not, concerning three key legal “status” issues:
- Immigration status – having landed in Canada as immigrants, HNWI’s become “permanent residents” (“PRs”) pursuant to the provisions of the Immigration and Refugee Protection Act (“IRPA”). To maintain PR status they should endeavour to spend 730 days every 5 years in Canada. As evidence of their status, they are issued an identity card (“PR Card”) which is valid for 5 years. Renewal of the PR Card and loss of status are complex issues beyond the scope of this paper. Suffice to say that many astronaut dads refer to the 730 day IRPA residence requirement as “immigration prison”. And many of them, unwilling to stay in Canada for the 730 days, will be unable successfully to apply for new PR cards when the initial PR cards expire after five years;
- Citizenship status – PR’s qualify for citizenship under the provisions of the Citizenship Act (“CA”) if they can prove they have resided in Canada as immigrant PR’s for 3 out of the 4 years preceding the date of their citizenship application. Usually this means physical presence in Canada for 1095 days during this 4 year period (for some, another form of “immigration prison”); and
- Tax status – if they “ordinarily reside” in Canada they become Canadian tax residents obliged to report and pay tax on global income/capital gains and disclose offshore assets according to the provisions of the Income Tax Act (“ITA”). Mere acquisition of immigration PR status does not automatically make someone a tax resident, especially if he is from a country such as China which has a tax Treaty with Canada (more on this below).
HNWI’s who become citizens necessarily also become “ordinarily resident” for tax purposes, at least during the 3 year period when they are satisfying the residence requirement to qualify for citizenship under the CA. It is hard to imagine a set of circumstances where someone who is physically present in Canada for 1095 days in a 4 year period would not be a Canadian tax resident.
Most HNWI astronauts, however, unlike their spouses and children who have been parked somewhere in Greater Vancouver, have no intention of actually residing in or becoming citizens of Canada. Nonetheless, many of them believe they are Canadian tax residents when in fact they are not. In any event, only rarely does the HNWI family, prior to landing, consider seriously the implications of becoming Canadian tax residents.
In fact, the entire immigration process, controlled as it is by China-based immigration consultants, rarely involves any serious discussion of Canadian tax residence status. The reason is simple. The consultants are highly incentivized by fees and by the payment (usually undisclosed) of commissions of up to $100,000 per client family. The commissions are loan brokerage fees paid by Canadian banks to the consultants. The banks pay the commissions as consideration for the consultants’ brokering loans used to finance $800,000 investments in qualifying Canadian immigration funds. Tax is a touchy subject. Canadian tax exposure is complex and, if properly understood, potentially unsettling. Being practical people, the consultants do not want to alarm their clients. They take the position that they are advising solely on immigration PR status issues, giving only perfunctory, comforting and often unreliable advice on Canadian citizenship and tax status matters. Hence, very few HNWI’s from China arrive in Canada with reliable information about Canadian tax.
THE CANADA-CHINA INCOME TAX AGREEMENT (the “Treaty”)
Canada’s tax Treaty with China contains the usual “tiebreaker” rules (see Article 4 section 2 of the Treaty) which many HWNI astronauts could likely rely on to “tie-break” them back into China so they do not become Canadian tax residents. Essentially the tiebreaker rules ensure that a person will not simultaneously be treated as a tax resident of both countries. Many of the HNWI astronauts, unlike their Canada-based spouses and children, never intended to reside full-time in or become citizens of Canada in the first place. Post immigration, having parked mom and child in Canada, they retain all their old ties in China where they spend most of their time. Based on the principals set out in the tiebreaker rules, many are clearly not Canadian tax residents even if they are immigration PR’s. Of course many of them will never qualify for Canadian citizenship. They may also lose their immigration PR status.
TAX REPORTING OPTIONS FACED BY THE ASTRONAUT HNWI
The various tax reporting options for the typical HNWI astronaut are as follows:
- He is a tax resident of Canada. He knows it and is fully compliant disclosing details of his offshore income and assets;
- He is a tax resident of Canada. He knows it but nonetheless conceals offshore income and assets in his filings with CRA;
- He is not a tax resident of Canada but thinks he is. Nonetheless he conceals offshore income and assets, all the while reporting as if he were a tax resident. He has the intention of a tax evader without actually being one. His circumstances presumably get worse as the damaging paper trail mounts with each passing fiscal year;
- He is not a tax resident of Canada but thinks he is. He discloses offshore income and assets which he reports as a tax resident; or
- He is not a tax resident and does not file as such.
It is impossible to tell with certainty but anecdotal evidence suggests many HNWI astronauts, having been advised by assorted friends, life insurance brokers, tax filers who have never considered the impact of the tie-breaker rules in the Treaty (or, for that matter the relevant jurisprudence) select option 3. They are not tax residents but think they are. They file tax returns as if they were, concealing offshore income and assets. They have the mens rea of tax evaders without actually being tax residents.
Why would they do this? The reasons include:
· They almost never retain competent tax counsel. It is expensive. Free advice from friends is better.
- Local self-interested advisors tell them they are tax residents. The life insurance broker, for example, is supposed to sell policies only to Canadian tax residents. So the inclination is to persuade the HNWI that he is a tax resident and even generate questionable evidence of tax residency status to satisfy the insurance company that the buyer of the policy is a tax resident.
- The immigration consultants persuade them that they are tax residents because the insurance brokers pay them referral fees for the introduction of business. And the brokers can only sell policies to tax residents.
- Many accountants, especially the Mandarin speaking ones experienced in dealing with wealthy immigrants from HK and Taiwan (both non-Treaty jurisdictions so no tiebreaker rules) assume that all PR’s with spouse and/or house are naturally tax residents. Many tax filers (not professional accountants) seem to have adopted a head-in-the sand approach, knowing full well the HNWI is only reporting Canadian source income and concealing offshore income and gains.
- They like to have Canadian medical insurance. Non-tax residents are not eligible for medical insurance. Note that even if they are tax residents, astronauts’ prolonged absences from B.C. may still void the coverage.
- The real estate agent, to facilitate the mortgage loan, may prefer to have the HNWI astronaut on title since he is the one with the income and assets (all in China) required to qualify for a mortgage.
- They want the tax free capital gain on the sale of the principal residence. This is only available to tax residents.
- They believe, wrongly, that reporting as a tax resident will greatly enhance their ability to retain immigration PR status and/or renew the PR card.
FIRST GENERATION WEALTH
Almost all HNWI’s are nouveau riche with an affinity for opacity, an aversion to legal fees and zero awareness of the fact that there are authoritative tax advisors called tax lawyers. Moreover, the families have had no experience transferring assets from generation to generation since most of the private wealth has been accumulated in the last 20 years. And in Chinese culture the common superstition is that planning for death is inauspicious and may hasten the event. Hence the reluctance to draw post-immigration wills, settle pre-immigration trusts or otherwise devise long-term plans for the management and disposition of family wealth.
REAL ESTATE LAW ISSUES
Most HNWI families will buy a home in Canada. Having a “permanent home” is a key component in the “tiebreaker rules”. In fact it is the first “tiebreaker”. Query, therefore, whether conveyancing lawyers should:
- When representing HNWI purchasers, suggest at the very least that the astronaut dad not go on title or otherwise reside in the family residence in Canada. Are conveyancing lawyers potentially negligent for failing to discuss the tax residency issue with astronaut buyers
- When representing other purchasers where the vendors are HNWI families from China, ask for holdbacks and clearance certificates when handling sales if there is any chance an astronaut is on title. After all, the non-tax resident astronaut is not entitled to the tax free capital gain on the disposition of a principal residence.
- Advise the HNWI family to get an opinion from tax counsel before completion.
- Include disclaimers (likely written in Chinese) in the retainer or other documents stating that they are not advising on tax matters.
Should realtors, when preparing the purchase agreement, suggest that:
- The astronaut not go on title.
- The family get an opinion from tax counsel before completion.
ESTATE LAW ISSUES
Unless attitudes change, most Chinese HNWI immigrants will die intestate with substantial assets scattered among 3 or more jurisdictions, usually China, Hong Kong and Canada. A dog’s breakfast of succession law issues will arise. Where was the HNWI astronaut domiciled when he died? Where is the real estate? Does the astronaut dad have other family relationships in China? If so, what are their claims on the global assets? Was he a non-compliant Canadian tax resident? Does anybody actually know where all the assets are? Are the Canadian tax resident kids prepared to receive distributions from an estate tainted, or apparently tainted, by a history of tax evasion? Will the Canadian insurance company, having sold a policy to a presumed tax resident of Canada, pay a death benefit when it turns out that the life insured was not a tax resident after all? Was the insurance broker negligent or fraudulent in holding out to the insurance company that the HNWI non-tax resident was actually a tax resident? Was the deceased astronaut dad a non-tax resident owner of a Vancouver home so that the death triggers a taxable deemed disposition?
OTHER LEGAL ISSUES
Is the non-tax resident HNWI astronaut the controlling shareholder of a Canadian small business that has been taking advantage of the small business deduction? Has he been filing as a tax resident of Canada but concealing China-based assets and income but now wants to take his Chinese company public in Hong Kong and faces serious public disclosure issues with regulators in Hong Kong concerning his tax residency status? Or does he want to bring the China/HK based but undisclosed assets to Canada but finds he cannot because he is apparently in violation of foreign asset disclosure rules?
THE SMART MOVE
All wealthy immigrants to Canada, preferably before landing, would be well-advised to get legal opinions/advice integrating the expertise of Canadian tax and immigration counsel so that all family members can balance their goals in the areas of immigration, citizenship and tax law. There is no one size fits all solution. Chinese HNWI’s rarely do this, relying instead on non-professional free advice.
USE OF TRUSTS
For many of these families a trust would go a long way to addressing their long-term wealth management issues. There are two very good options:
- The Immigrant Trust – where the income and capital gains of assets settled upon trust offshore are, vis-a-vis Canadian tax resident beneficiaries, tax free for as long as the first 60 months a HNWI settlor is a Canadian tax resident; and
- The “Granny Trust” – where the income and capital gains of assets settled upon trust offshore are, vis-a-vis Canadian tax resident beneficiaries, effectively tax free in perpetuity provided the offshore settlor/contributor never accumulates 60 months of tax residence status in Canada.
Option 2 in theory is a perfect solution where the HNWI astronaut dad who never becomes a tax resident is the settlor. The income and capital gains of the assets settled upon trust are tax free, perhaps on a multi-generational basis, for all Canadian tax resident beneficiaries.
HNWI immigrants from China have transformed the economic landscape of Greater Vancouver. These wealthy families, many flying blind in terms of the various “status” issues, will continue to arrive in substantial numbers in the Lower Mainland for several more years. Unclear about their legal rights and obligations as Canadian immigrants, tax residents, and homeowners, and with no experience passing wealth from generation to generation, their failure to plan or even identify the issues will increasingly generate interesting legal work for tax, trust, estate, family, immigration and real estate law practitioners.
*Published in the July 2012 edition of The Advocate, the professional magazine of the British Columbia Bar Association.