A Canadian Starting a US Business: Entity Choice, the LLC Trap, and the Filings on Both Sides

A Canadian resident who starts a US business faces one decision that dominates the rest: what kind of entity to use. The instinct is an LLC, because that is what US founders use. For a Canadian-resident owner an LLC is usually the wrong answer, because Canada treats it as a corporation while the US treats it as a pass-through, and the mismatch produces double taxation. The right answer depends on whether the owner stays in Canada, moves to the US, or plans to do both.

Key takeaways

• The LLC trap. The US taxes a single-member LLC's income to the owner directly; Canada treats the LLC as a corporation and taxes the owner only on distributions. The Canadian owner pays US tax on income Canada does not yet recognize, and Canada gives no foreign tax credit for it until distribution, when the US has already taxed it.
• C corporation. The usual answer for a Canadian-resident owner: US corporate tax at 21% on profits, treaty-reduced 5% withholding on dividends to a Canadian parent corporation (15% to an individual), and clean Canadian treatment as a foreign affiliate with T1134 reporting and the foreign accrual property income rules to watch.
• S corporation. Not available: a non-resident alien cannot be an S corporation shareholder.
• Branch. A Canadian corporation can operate in the US directly; if it has a permanent establishment under Article V, it files Form 1120-F on the attributable profits and pays branch profits tax at the treaty rate of 5%.
• Owner moving to the US. The analysis flips: once the owner is a US resident, an LLC or S corporation works, and the Canadian corporation (if any) becomes a controlled foreign corporation.

Entity choice in detail

Canadian-resident individual owner. A US C corporation owned directly pays 21% federal tax plus state tax; dividends to the Canadian owner face 15% US withholding under the treaty and are taxable in Canada with a foreign tax credit. An LLC owned directly is taxed in the US as a sole proprietorship at graduated rates up to 37% plus self-employment tax, and in Canada as a foreign corporation whose distributions are dividends; the US tax on undistributed income is not creditable in Canada in the year paid.

Canadian corporation as owner. A US C corporation owned by a Canadian corporation pays 21% US tax; dividends to the Canadian parent face 5% withholding under the treaty and are generally exempt surplus in Canada, so no further Canadian tax until the individual takes a dividend from the Canadian parent. The Canadian parent files T1134 for the foreign affiliate. If the US company earns passive income, the FAPI rules can tax it to the Canadian parent as earned.

Permanent establishment risk for a Canadian company. A Canadian corporation selling into the US without a US entity is taxable in the US only if it has a permanent establishment: a fixed place of business, a dependent agent concluding contracts, or (under the treaty's services provision) employees present more than 183 days in a twelve-month period on a project. Below that threshold, US-source business profits are exempt under Article VII and the company files Form 1120-F with a treaty-based return position on Form 8833 to claim it.

The mechanics

• EIN. Every US entity needs an Employer Identification Number, applied for on Form SS-4. Applicants without a US address or SSN apply by phone or fax; the online application requires a US taxpayer identification number.
• State registration. Incorporate or organize in a state (Delaware, Florida, Texas, and Wyoming are common), register as a foreign entity in each state where you do business, and register for sales tax where you have nexus.
• Form 5472. A US corporation that is 25% or more foreign-owned files Form 5472 with its return to report transactions with the foreign owner; the penalty for missing it is $25,000.
• Form 5471 or T1134. If the owner is Canadian, Canada requires T1134 for the foreign affiliate; if the owner later becomes a US person and keeps a Canadian corporation, the US requires Form 5471.
• Transfer pricing. Transactions between the U.S. and Canadian companies must be at arm's length prices, documented on both sides.
• Visa. Owning a US business does not confer the right to work in it. Canadians typically use the E-2 treaty investor visa (substantial investment, active management), the L-1 intracompany transfer (from an existing Canadian company), or the TN for specific professions.

Worked example

A Toronto consultant with a Canadian professional corporation wants to serve US clients from a Miami office while remaining a Canadian resident.

• Structure. The Canadian corporation forms a Florida C corporation subsidiary; the subsidiary bills US clients and employs the US staff.
• US. The subsidiary pays 21% federal tax (Florida corporate tax 5.5%); dividends to the Canadian parent face 5% withholding.
• Canada. T1134 for the foreign affiliate; dividends received are exempt surplus; management fees between the companies documented at arm's length.
• Owner. Works in the US on an L-1 visa; days in the US counted against the substantial presence test; Canadian residency maintained.
• Avoided. A Florida LLC owned by the consultant personally, which would have produced US tax on the consultant's 1040-NR with no matching Canadian credit until distribution.

Official sources

"If your principal place of business is outside the U.S., you can apply for an EIN by phone at 267-941-1099 Monday – Friday, 6 a.m. to 11 p.m. Eastern time." — Internal Revenue Service, Employer identification number, https://www.irs.gov/businesses/employer-identification-number

"Corporations file Form 5472 to provide information required under sections 6038A and 6038C when reportable transactions occur with a foreign or domestic related party." — Internal Revenue Service, About Form 5472, https://www.irs.gov/forms-pubs/about-form-5472

Practitioner note

The LLC trap catches more Canadian entrepreneurs than any other cross-border structure mistake, and fixing it after the fact means a taxable conversion. The entity decision has to come before the state filing, the bank account, and the first invoice.

See also: Planning a move? See the Canada-to-Florida guide and browse every corridor by city, province, and state.

Next step

Fairlight prepares the entity choice analysis, the US corporate and Canadian foreign affiliate filings, and the transfer pricing documentation for Canadian-owned US businesses. See cross-border pricing or book a call.