The Foreign Investment in Real Property Tax Act (FIRPTA) is a US federal law that requires foreign individuals or entities to pay taxes on the sale of US real property interests. Usually, foreign individuals or entities are required to pay income tax, but are not taxed on capital gains. However, FIRPTA includes any capital gains on real estate as part of the income tax due to be paid if the seller is a foreign individual.
In order to ensure compliance with this law, the Internal Revenue Service (IRS) requires the buyer to withhold a portion of the purchase price at the time of closing on the sale. This is referred to as FIRPTA withholding.
Whilst fairly straightforward in principle, the specifics of FIRPTA mean that there are a number of things you need to know both as a buyer and as a seller.
First and foremost, buyers are responsible for withholding the amount of tax specified by FIRPTA laws and remit the tax to the IRS within 20 days of closing the sale. They are also responsible for calculating the FIRPTA withholding amount based on the sales price and the gain the foreign seller realised.
This amount is, by default, 15% of the sale price. There are several exceptions, however. One example is that the withholding is only 10% if the following are true:
- The sale price is less than $1,000,000.
- The property being bought is to be occupied as a residence by the buyer.
If the latter is true, but the sale price is less than $300,000, no withholding is necessary. However, if the property isn’t to be occupied by the buyer as a residence, the regular 15% withholding applies regardless of the selling price.
The buyer must also provide the foreign seller with a certification of the FIRPTA withholding and file Form 8288 (U.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests) and 8288-A (Statement of Withholding on Dispositions by Foreign Persons of U.S. Real Property Interests).
Suppose the seller is not considered a “foreign person” for the purposes of FIRPTA. In that case, the buyer should file a “FIRPTA affidavit”, which illustrates the seller’s non-foreign status and, thus, exemption from FIRPTA withholding.
The immediate issue for a seller is to identify whether or not they count as a non-US foreign individual or entity, and this issue is not as straightforward as it might seem. The IRS defines a “foreign person” as a non-resident, alien individual, a foreign corporation not treated as a domestic corporation, or a foreign partnership, trust, or estate. Importantly, an Individual Tax Identification Number (ITIN) is not a means for identifying if someone is a foreign person or entity for the purposes of FIRPTA Withholding.
How a person or entity is usually identified for the purposes of FIRPTA is with a “substantial presence test”. This test asks how long a non-US citizen or non-permanent resident (a green-card holder) is physically present in the USA. A person is who is “substantially present” in the USA will be considered a US resident for tax purposes.
A Seller must obtain a copy of their closing documents and form 8288-A. Without an ITIN the IRS will hold this certificate until the application is processed and an ITIN issued. Once this has been shared with the IRS they will provide the seller with a final Form 8288-A to be filed with the seller’s non-resident tax return.
A seller can mitigate some of their tax liability by filing form 8288-B (Application for Withholding Certificate for Dispositions by Foreign Persons of U.S. Real Property Interests). However, this application must be approved by the IRS before the sale takes place and the non-US person filing its form must have an ITIN prior to submitting this to the IRS. If this doesn’t occur, or the application is denied, the buyer is still liable for the full withholding. If the application is approved, however, the buyer can rely on this form for reduced or zero withholding, depending on which applies.
The role of a CAA
A tax professional who is also an IRS Certified Acceptance Agent (CAA) can help simplify the FIRPTA withholding process for both buyers and sellers by providing expert guidance on the calculation of the withholding amount, filing of required forms, and obtaining necessary certifications.
They can help determine your foreign status and prepare the necessary forms for both the buyer and seller. One notable benefit of working with a tax professional and CAA on the sale of your property is that they can prepare an application for an ITIN and certify your original document so that you don’t need to mail them to the IRS with your paperwork.
If buying or selling real estate as, or from a non-US person or entity, it is crucial to be familiar with the basic principles of FIRPTA, and seek expert advice on navigating the many rules and exceptions regarding withholding. They can ensure that the correct forms are filed promptly and avoid any fines or interest charges that can be easily incurred through failure to comply with these regulations.