Withholding tax when selling a real estate property by a non-US investor (“FIRPTA”)
# Entrepreneur of the Week - Post # 5
Hello dear friends,
The issue I would like to focus on today is an important issue that almost every foreign investor in the US encounters during their investment in the US and is the obligation to make a withholding tax when selling a real estate property held by a non-US investor.
Withholding tax is a simple and effective mechanism designed to ensure the collection of tax by the state from a foreign investor operating in that country. The rationale behind the mechanism is that since it is very difficult to enforce tax on a non-resident of the country where the income was generated it would be better to deduct the maximum tax that may apply to it and thus perform a "reversal of interests" to collect real tax. His income to the investor will be in the interest of submitting at the end of the year the reports about the transaction and thus calculating a final and absolute truth tax.
If the investor chooses not to file the report and declare then he will lose money he deserves so that in any case the country where the income was generated will not be harmed.
As a real estate investor in the US, you must take this issue into account in terms of your cash flow and understand that it can take time from the date of sale to the date of receipt of all the proceeds due to you.
The withholding tax rate in accordance with FIRPTA is 15% of the consideration paid when selling a real estate property, or 10% of the consideration paid when selling a right in a partnership that invests in real estate.
The withholding tax is actually a tax advance, this is of course not the final tax liability applied to the investor and any money paid in excess will get back upon filing a tax return for this year.
In my experience, in past years there has been ambiguity in title companies about when and how the withholding tax should be made, but in recent years I have come across more and more cases where title companies know how to understand and apply the law and conditions and carry out withholding tax.
The most obvious example of this is in the case of an investor through a single-owned transparent LLC who had previously “slipped under the radar” and as an American entity would have “confused” the title company and avoided the deduction. In the last year I have been receiving more and more inquiries from investors who are in the process of signing the contract and the title company insists on making the deduction on their behalf, although in previous cases when realizing assets they have not encountered a similar demand. Most title companies in the US better understand and apply the law in this regard and carry out the withholding tax as required.
Please note (!) The obligation to make the actual withholding tax deduction applies to the purchaser of a real estate property from an investor who is not a US citizen (or a right in a partnership that owns joint real estate assets that is not a US citizen) and the required deduction must be made within 30 days.
I have already come across several cases where the title company reported the transaction and deducted the tax late, after which the investor who purchased the property had to deal with fines that are difficult to impossible to cancel. Do yourself a favor and when you purchase a property from a foreign investor and see in the 1-HUD form that part of the consideration is transferred as a tax deduction due to FIRPTA please make sure with the title company that the whole move is made on time and no later than 30 days from the contract.
On the seller side, in order to make it easier to receive the excess tax money paid for you at the time of the transaction, make sure that the title company reports the forms in your first name, indicating your ITIN number (if any - it is highly recommended that you have ITIN before making the transaction). I have already come across cases where the title company produced forms in the name of the LLC instead of producing the forms in the name of the owner in the LLC, or cases where spouses held the property together and produced a joint form for them instead of producing their own personal form.
In such cases in the end you will probably get what you deserve, but the process may take longer and require conversations and letters with the IRS to convince that you are the person behind the LLC or to convince that each spouse is entitled to a pro rata share in return to the IRS. .
Is a tax deduction due to FIRPTA made when a real estate property is sold by an LLC owned by two or more foreign investors?
As long as you operate as an LLC owned by two or more investors, it will not be necessary to make the withholding tax when the LLC is the seller since the LLC is a partnership that is reported as a US entity ("US PERSON").
Incidentally, in such a case the LLC is required to deduct withholding tax on an annual basis in respect of the profits of the foreign partners holding the LLC in accordance with the maximum tax rates applicable to the income of the foreign investors from the LLC.
This is this time, I hope you enjoyed reading and I was able to put you in some order on this recurring matter and I see quite a few questions being asked about it by investors.
It is important to understand and emphasize that the tax deduction at source made in accordance with the FIRPTA provisions is not a final tax, but a tax advance. Your final tax in the U.S. will be calculated upon filing your annual U.S. tax return after which you will receive the tax you paid in excess in return.
The aforesaid is not presented as a substitute for professional advice from an accountant and is only general information, which does not constitute binding professional advice and should not be relied on in any form. Any action taken according to the information and details stated in this post is the sole responsibility of the user. The purpose of the post is to help users expand their personal knowledge base only and allow them to know more, before turning to an accountant or any other expert.
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