FOREIGN BUYERS OF U.S. RESIDENTIAL REAL ESTATE:
TITLE ISSUES AND CONSIDERATIONS
In last month's article, I discussed the advantages and disadvantages of various forms of holding title to U.S. real estate by foreign buyers. This letter briefly discusses
U.S. income estate tax issues relating to foreign ownership of U.S. real estate.
US tax rules are complex and constantly changing and the current law as well as anticipated future developments must be considered. Congress has made clear its intention to focus on foreign transactions.
FIRPTA, or The Foreign Investment in Real Property Tax Act, requires that any US person or entity which remits funds overseas from the sale of or rental from U.S. real estate, or who send funds for the purchase of stock in a U.S, "real property holding company, must withhold (usually) 10% of the "realized gain" from the sale of U.S. real estate; "realized gain" is not related to profits. Any refund due must be claimed by filing with the IRS.
The foreign seller of real estate buyer can obtain a Certificate from the IRS to reduce the amount of tax to be withheld, based on the seller's maximum U.S. tax liability, but this requires time and the maintenance of very accurate records.
In general, a "U.S. realpropertyinterest" is an interest in realproperty located in the U.S. and including an interest in a mine, well, or other natural deposit, and any other interest (except an interest solely as a creditor) in a U.S. realproperty holding corporation, defined as one which has more than 50% of its total fair market value in U.S. real estate (this is just the general rule).
FIRPTA has a directly owned threshold of $50,000. Non-resident aliens to do not generally otherwise pay U.S. capital gains tax.
The foreign buyer who wishes to obtain U.S. financing for the purchase of property must recognize that the form of title will be significant to the Lender, which must, at the very least, determine if the borrower has the income and assets to justify the loan, and these days that is often problematic regardless of wealth.
Foreign buyers often have no US source income, and a US lender, certainly in today's market, will generally not be able or willing to issue a loan based on foreign assets, and a lender may require additional security. If financing is required or desired, the prospective buyer should determine the availability of the loan before committing to a particular form of title.
Allowable interest payments and property taxes are tax deductible but only against US source income. If the foreign buyer has no US Source income, these deductions may be worthless.
The mortgage loan must be obtained and secured by the residential property generally within 90 days from the date of purchase.
Home ownership in the U.S. does not, of itself, make a residential property owner a U.S. resident for income tax purposes. However, it is the first "tie breaker" rule in income tax treaties, to be applied when residency is in question. This issue might become important when, for example, a foreigner in the US less than 183 days during the current year, and claims a "foreign tax home" and a "closer connection" to another country, to avoid being treated as a U.S. resident alien, but U.S. home ownership might make that a difficult argument to make to the IRS. Advance planning is important.
The rules governing US residency are complex and beyond the scope of this article. The basic rules of residency are as follows.
A foreigner becomes a U.S. tax resident by having a Green Card, or by simply by remaining in the US. 183 days or more in any single calendar year, or by being in the US for a total of 183 days as determined over a three-year period by the following formula:
The multiplier is: for the current year 1 X number of days in the U.S, for the next preceding year 1/3X days, and for the 2nd preceding year 1/6X days. Exceptions may apply.
A foreign owner who becomes a US resident should be aware that, although he or she is subject to income tax on world wide income, (with applicable credits), U.S. estate tax is based on "domicile" and not on residency. "Domicile" can essentially be defined as the country or place where the taxpayer intends to permanently reside at some future time; it is therefore subjective but there is substantial case law on the subject.
In any case, it is possible that, with good pre-planning, the resident alien can establish a Non-U.S. domicile for estate tax purposes, to thereby exclude foreign- based assets from
a U.S. estate.
All U.S. banks and financial institutions must "know their client". A U.S. bank will require much information on a foreign individual and entity including a foreign trust. An entity may be required to register to do business in the particular State. The foreign owner or entity might consider using an accounting firm or other agency to manage the property and pay the expenses, to avoid having a U S. bank account.
The foreign buyer is well advised to seek competent advice.