By Elizabeth Shauger, CPA & Director with Mauldin & Jenkins
Are you purchasing property from a foreign seller? If so, you need to understand the Foreign Investment in Real Property Tax Act (FIRPTA) and how this legislation impacts your transaction. Individuals and entities from all over the world invest in United States (U.S.) real estate and, until 1981, foreigners were often exempt from federal tax on the sale of real estate. Congress enacted FIRPTA in 1980 to make sure foreign investors paid tax when purchasing and selling an interest in various types of U.S. real property, from land to stock and bonds.
The federal government closely monitors property transactions between the U.S. and those designated as foreign persons, in an effort to prevent foreign investors from profiting excessively without paying U.S. taxes. Under FIRPTA, foreign persons are subject to tax on capital gains from the disposition of U.S. real property interests (USRPIs). The buyer is usually the withholding agent — the party who’s required to withhold funds from a sale to cover taxes owed on the property transfer.
The current FIRPTA withholding rate is 15% for many transactions. A lower 10% withholding rate applies to personal residences valued between $300,000 and $1 million, if the buyer will occupy the property. The buyer must transmit the tax withheld on IRS Form 8288, along with a completed withholding statement, Form 8288-A, within 20 days of the transaction.
FIRPTA Exceptions and Exemptions
FIRPTA tax does not apply in certain situations including:
- If the sale of real property is to a foreign government or pension fund
- If the investment is made through a qualified investment entity
- If the property is regularly traded on an established U.S. securities market
- If the recipient foreign person or corporation did not hold more than 5% of that class of stock or beneficial interest within the one-year period ending on the date of distribution
FIRPTA tax compliance can be quite complicated. There are a myriad of rules determining which rate, if any, applies to a transaction and the withholding rate changes, periodically, to adjust for inflation. In addition, the definition of a foreign person for FIRPTA purpose is not entirely straightforward. Nevertheless, buyers are responsible for correctly withholding the correct amount, and transmitting it on time, unless an exemption applies.
If you are involved in a transaction with a foreign person, it is critical to understand whether or not you are exempt from FIRPTA withholding and what documentation you may need in order to prove an exemption. Sellers who are exempt from FIRPTA withholding bear responsibility for informing the buyer and providing necessary certification.
For real estate with a sales price of less than $300,000, there’s often no withholding requirement. If you purchase a property valued at less than $300,000 from a foreign seller and use it as your residence for about a year, you may qualify for this FIRPTA withholding exemption. Other exceptions to FIRPTA withholding requirements include dispositions of stock in a publicly traded corporation when the sale is part of a Section 1031 like-kind exchange and when the IRS issues a withholding certificate.
FIRPTA Withholding Certificates
A withholding certificate from the IRS can either reduce or eliminate a buyer’s FIRPTA withholding reporting obligation. The seller may apply for a withholding certificate by completing Form 8288-B and providing written notification to the buyer. Form 8288-B requires a description of the real property interest being sold, the sales price, a calculation of the maximum tax owed and evidence that the seller has no unsatisfied FIRPTA withholding obligations for the property. The IRS will generally act on these requests within 90 days, but neither processing time nor approval are guaranteed.
Working with a certified public accountant can improve your odds of successfully obtaining a withholding certificate. Expert assistance is also imperative for accurate assessment and compliance with FIRPTA obligations. A buyer who fails to withhold FIRPTA funds may be on the hook for the taxes and interest — even if you’re unaware that the person you’re purchasing U.S. real property interest from is a foreign person. In addition, if the IRS determines that you’ve willfully ignored FIRPTA tax requirements then you could face a penalty of $10,000. Any time you are unsure of your FIRPTA obligations related to a purchase of U.S. real property interest you should seek the advice of a qualified CPA.
Elizabeth Shauger, CPA is a Director with Mauldin & Jenkins in the Bradenton, Florida office. Elizabeth has over 15 years of tax experience in public accounting servicing a wide range of industries. She specializes in corporate, partnership and high net worth individuals, as well as tax planning. Elizabeth received her Bachelor of Business Administration in Accountancy, from Florida International University, in 2005, and Master in Taxation, from Nova Southeastern University, in 2007. She is a member of the American Institute of Certified Public Accountants (AICPA) and Florida Institute of Certified Public Accountants (FICPA). Elizabeth and her husband reside in Tampa, Florida with their two sons, William and Matthew.