If you are buying real estate — such as a house or condominium, or a commercial property — from a non-resident of Canada, you need to know about your obligation to withhold tax unless the vendor provides you with a “section 116 certificate” from the CRA.
Non-residents generally are subject to Canadian income tax only on certain Canadian-source income. One such source is capital gains on “taxable Canadian property”, which generally includes Canadian real property, shares of corporations whose value is primarily attributable to Canadian real property, and certain other items.
Of course, a non-resident who sells Canadian property might not have any other property in Canada, and so the CRA might not be able to enforce collection of the tax that is payable. To solve this problem, section 116 of the Income Tax Act makes the purchaser potentially liable for the vendor’s capital gains tax.
If you buy taxable Canadian property from a non-resident, then you are required to withhold 25% of the purchase price and remit it to the CRA. If you do not, you can be assessed for this amount. (The 25% reflects the typical maximum tax rate of about 50% on taxable capital gains, which for many years until June 25, 2024 have been one-half of actual capital gains.)
To avoid having you withhold this 25%, the non-resident can apply to the CRA for a “section 116 certificate”, which relieves the purchaser from the withholding obligation. The non-resident must calculate the amount of tax payable on the gain, and pay that amount to the CRA, in order to get the certificate.
Normally your real estate lawyer will be very aware of this issue and will ensure that if the vendor is non-resident, a section 116 certificate is provided before your purchase price is paid over to the vendor.
Note however that this rule can also apply to the sale of a purchaser’s right under an Agreement of Purchase and Sale, which is a “right” to acquire real property and thus falls into the definition of taxable Canadian property.
For example, suppose you are looking to buy a condominium that is not yet finished but has been under construction for some time. A non-resident signed up to buy the condo from the builder three years ago when the cost was $200,000, and put down a $20,000 deposit. With increases in local real estate prices, the condo will be worth $300,000 on completion. The non-resident agrees to “sell” you her rights under the purchase agreement, with the builder’s consent, for $120,000 (i.e., the increase in the condo’s value, plus the $20,000 deposit that will stand to your credit on closing).
This sale is a sale of taxable Canadian property, and your lawyer should be advising you to withhold 25% of the $120,000, so that the CRA does not assess you for this amount. (There may be some cases where Canada’s tax treaty with the non-resident’s country of residence relieves you of this obligation, but even in such cases the relief may apply only if you notify the CRA of the purchase within 30 days after closing.) To prevent this withholding, the non-resident will need to get a section 116 certificate from the CRA.
Some lawyers are not aware of the requirement to obtain a section 116 certificate on the transfer of rights under a purchase agreement.
Note also that the 25% withholding is 50% if the property is depreciable property (such as a rental property that can depreciate in value). Also the 25% will be 35% starting January 1, 2025, based on draft legislation released on June 10, 2024, as part of capital gains starting to be 2/3 taxed instead of 1/2 taxed as of June 25, 2024.