What are the key considerations in designing pension plan benefits for a cross-border executive?

Ellie Kang (00:00:00)

An executive currently in the US, is transferring within the same corporate family to assume the CEO position of a related Canadian entity. The executive currently participates in a 401(k) defined contribution retirement plan, and the Canadian entity offers defined contribution registered pension plan. I’m Ellie Kang and I'm joined today by my colleague Stephanie Kalinowski from Toronto to discuss some key cross-border pension issues in this type of situation.

Stephanie, what are some threshold questions that the employer should consider under this situation?

Stephanie Kalinowski (00:00:37)

The first question is, will they stay in the US pension plan or join the Canadian plan? The answer to this will depend on the nature of the transfer. The issues will be different depending on whether the transfer is temporary or indefinite, and on the executive’s living or commuting arrangements, such as whether the executives will both live and work and become tax resident in Canada or if they will maintain residence in the US and only be in Canada infrequently. If it is a standard situation and they are moving to Canada to live and work full time, they would likely join the Canadian plan. However, if the arrangement involves working remotely and largely remaining in the US, there are limits in Canada's tax rules on recognition of foreign service.

So if the executive does not perform services in Canada, they may be precluded from participating in the Canadian plan. That would lead to the question of whether the executive can continue to participate in the US plan while they work in Canada.

Ellie, would the US rules allow the executive to continue to participate in the 401(k) plan?

Ellie Kang (00:01:48)

Yes, if the executive remains a US citizen or tax resident in the US, while assuming the CEO role within the Canadian affiliated entity, they would generally be allowed to continue participating in the 401(k) plan. In fact, because the US tax rules impose a certain minimum participation in coverage requirements for 401(k) plans, excluding an employee in the executive situation could actually run afoul of the tax rules.

On a practical level, even if the US tax rules do permit the executive to participate in the 401(k) plan, the plan sponsor should confirm that “eligible employee” in the plan is defined, so that it is not restricted to US residents, and that the “compensation” definition under the plan also allows contributions that are based on foreign source wages if the executive will not remain on US payroll. A timely amendment to the plan may be necessary to ensure that the executive in this type of situation can participate in the plan.

Stephanie, what are some other considerations?

Stephanie Kalinowski (00:02:56)

Anytime you have a resident of one country participating in a pension plan of another country, there is the question of whether the contributions are tax deductible and whether the accrual will be taxable. Luckily, this is where the Canada-US Tax Treaty offers some relief. If you are living in one country but participating in a pension plan in another country, the treaty allows contributions to be deductible and accruals to be tax-free in your country of residence if certain conditions are met.

Often these are directed at either cross-border commuters or for temporary transfers.

If the executive is moving to Canada to live and work, and will become tax resident and will stop participating in the 401(k), often the executive will want to know whether they can transfer their funds from the US plan to the Canadian plan. Ellie, what are the factors under the US rules affecting whether the executive can access their 401(k) account?

Ellie Kang (00:03:56)

A direct transfer of a US 401(k) account to a Canadian registered pension plan is not permitted. It would be treated as a taxable distribution subject to US income tax and potentially early withdrawal penalties if the executive is under age 59.5. Some practical alternatives are to leave the funds in the 401(k) plan, roll over to an individual retirement account, or take a lump sum distribution, and if eligible and permitted under Canadian tax rules, contribute those distributions to the Canadian registered pension plan.

Each alternative has certain tax reporting and compliance implications, so it's important to consult with cross-border tax and benefits counsel to ensure proper planning and compliance. Stephanie, I understand there are rules that may allow the transfer of lump sum withdrawal from a 401(k) plan account to a Canadian registered pension plan. What are things that employers should think about in a transfer like this?

Stephanie Kalinowski (00:04:58)

Canada and the US have a social security agreement that can allow for continued participation in their home country’s social security plan for up to five years, with extension possible where the transfer is temporary. This requires an application be submitted under the agreement, so that the applicable governmental authorities can approve the continued participation in the home country plan and exempt the employee from joining the host country plan.

Looking at it from the other direction, where the executive moves from Canada to the US, they may be able to continue to participate in the Canadian pension plan while working in the US for a few years, if the plan allows. Which might be desirable if the transfer is only temporary. Here again, the tax treaty and social security agreements will need to be consulted in relation to continued participation in the Canadian plan, and the impact on their tax returns in both countries.

When participation in the Canadian plan ends, the executive would not be able to directly transfer the account to a US plan on a tax deferred basis. However, many Canadian jurisdictions do now have non-resident unlocking, which would allow the executive to access their Canadian plan entitlement, and potentially transfer it to the US plan, although not on a tax-deferred basis.

Ellie Kang (00:06:17)

Thanks, Stephanie. Clearly transfers across the border can have important implications for executive retirement plans. The type of transfer, the location where the services are performed, and the executive’s tax residence can all be factors. There are also other types of transfers, including executives who live in one country but commute to the other, or who spend half their time in one country and half in the other, and expats who have no home country.

All of these raise different variations of these questions we just discussed that could form the basis for an entire video series of their own. So please reach out to one of us if you wish to explore this topic in greater detail.