Whether you’re preparing to buy or sell a US property, it’s important to understand your obligations under the Foreign Investment in Real Property Tax Act (FIRPTA). If the seller is considered a “foreign person” (as defined by the Internal Revenue Code), the buyer may be subject to tax withholding obligations under FIRPTA. Importantly, the obligation of collecting and paying taxes falls upon the buyer – not the title company or settlement company.
FIRPTA is something that doesn’t come up often, but when it does it can cause significant headaches – and expense. Here’s what to know about FIRPTA and your obligations as a buyer, seller or realtor.
What is FIRPTA?
FIRPTA is essentially a mechanism to capture capital gains from foreign investors when they sell property. Because there is generally not an enforcement mechanism available to the IRS in the event such taxes are not paid, FIRPTA shifts that obligation to the buyer.
However, the tax liability isn’t necessarily collected from the “foreign person” (as defined by FIRTPA). The obligation can fall upon the person buying US real estate from a foreign person. Buyers purchasing a home from a foreign person may be obligated to withhold an amount from the seller’s proceeds (either 10 or 15%) to remit to the IRS along with Form 8288 within 20 days of their purchase.
Note that this withholding is not a final tax, and much or even all of it may be refunded when the foreign person files their taxes.
When does FIRPTA apply?
FIRPTA applies when the property being purchased is being sold by a “foreign person”. FIRPTA defines a “foreign person” as non-resident alien individuals who do not meet the substantial residency test, and foreign corporations, LLCs or partnerships.
However, not all US properties being sold by a “foreign person” are subject to FIRPTA. If the sale price is under $300,000 and the buyer plans to occupy the property as their primary residence, they are not required to withhold anything under FIRPTA.
If the property price is $300,000 or more, then there are two potential withholding rates depending on the situation. For properties between $300,000 and $1,000,000 where the buyer intends to occupy the property as their primary residence, a 10% withholding rate applies. For all other properties, a 15% withholding rate applies.
Your FIRPTA obligations as a buyer, seller or realtor
If a buyer is purchasing a property from a foreign person or entity and FIRPTA applies, the buyer is required to complete the required forms (8288 and 8288-A) and submit the applicable withholding amount to the Internal Revenue Service. The buyer’s agent, title company or lender is not responsible for doing this. We recommend that buyers have their lawyer or tax advisor assist with preparing these forms.
Buyer’s agents should take care to discern the residency status of the seller to determine whether FIRPTA applies. Most standard sale contracts include a clause where the seller must confirm if FIRPTA applies or not. If it does apply, the buyer and their agent can work with the seller and their agent to establish what needs to be withheld. It may also be reasonable to ask the seller to cover the buyer’s costs related to the tax filing & withholding (such as tax advisor fees).This amount can be placed into escrow with the title company until closing, or a check can be cut at closing to be submitted with the IRS filings. In cases where the seller did not disclose their foreign residency or entity status up-front, the buyer’s agent may wish to request additional funds from the seller to account for their buyer’s FIRPTA obligations and expenses.
Seller’s agents representing a “foreign person” under FIRPTA should disclose the seller’s foreign residency status both in their listing and in the special agreements section of the contract. They may also consider offering to cover the buyer’s costs relating to filing the IRS forms and withholding. The best practice for seller’s agents, however, is to have their client retain a CPA and file Form 8288-B prior to closing. This can be provided to the buyer to help reduce or even eliminate FIRPTA withholding requirements.
Should you need a referral for a tax professional familiar with FIRPTA obligations and tax filings, we recommend:
Bradley A. Crecelius
Schowalter & Jabouri, P.C.
12250 Weber Hill Rd., Suite 315, St. Louis, MO 63127
Where your title company comes in
Because your title company is in charge of escrow and closing contracts, it’s vital that agents disclose a seller’s foreign person or entity status to the title company as soon as it becomes known. The title company will also need to know the amount that will be withheld from the seller’s proceeds and any other adjustments that will need to be made on the closing statement. Finally, let your title company know whether the FIRPTA funds will be held in escrow after closing, or whether a check will be cut at closing to be submitted to the IRS by the buyer. To learn more, we’ve created a document to explain the process.
True Title is here to help ensure that your transaction moves smoothly while adhering to all current obligations and regulations. If you have questions about FIRPTA as it applies to your deal or client, we recommend engaging with a tax professional or legal advisor, and can point you in the direction of recommended professionals if needed. For a recommendation, or to engage us as your title company on your next transaction, get in touch today.