How Foreign and U.S. Investors Can Mitigate the Costly Tax on the Sale of U.S. Real Estate
Generally, sellers of U.S. real estate are subject to U.S. taxation on capital gains arising from the sale of the real property. However, under the Foreign Investment in Real Property Tax Act (FIRPTA), the tax cost could be substantially higher.
FIRPTA imposes a 10% withholding tax on the transfer (by sale, gift, exchange, etc.) of U.S. real property by a foreign person (individual or entity). The withholding tax rate is increased to 15% in situations where the sales price is more than $1 million or the foreign buyer does not intend to use the property as a residence. Further, the withholding tax applies to sales by certain U.S. corporations where the fair market value of the company’s total U.S. property constitutes 50% or more of the fair market value of all of its assets – domestic or foreign.
The withholding tax can by quite costly as it is imposed on the amount realized (generally, sales price plus liabilities assumed), rather than only the capital gain. The good news is that with careful planning, the tax cost can be avoided or substantially reduced.
Mitigating the tax cost
Opportunities to reduce or avoid the tax cost include:
- Qualifying the sale as an exempted transaction, i.e., a sale for less than $300,000 to a buyer (U.S. or foreign) who intends to use the property for personal purposes at least 50% of the time over the next two years;
- Requesting a withholding certificate from the IRS, which allows a lesser withholding amount based on proof that the actual tax liability would be less than the FIRPTA rate, e.g., in the case of a sale at a loss;
- Filing a U.S. tax return requesting a refund based on the actual tax liability;
- Structuring the ownership of the real estate to avoid being held by a U.S. corporation.
We can help
The FIRPTA rules are complicated and costly. With careful upfront planning, these costs can be avoided or mitigated. If you have any questions relating to international tax strategies, please reach out to our team of dedicated international tax experts.
Connect with a member of the Barnes Dennig international tax team or call us at 513.241.8313 for answers to questions you have regarding your specific tax situation. We’re here to help.