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Investment in US Real Estate

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Foreign Investment in US Real Estate FIRPTA

US tax law is filled with acronyms. FIRPTA comes from the Foreign Investment in Real Property Tax Act. The law was originally enacted in 1980 to close a loophole allowing foreign investors to purchase and later sell US real property without paying any income taxes to the US government.

What do you need to know if you are considering investing in US real estate AND you are not a “US Person?” Keep in mind a US Person is a citizen or resident alien, a US corporation, LLC, trust or partnership created within the United States. So if you are not a US Person then pay careful attention. The FIRPTA laws apply to you.

This article is a brief discussion of some important facts to understand and pitfalls to avoid. Some of these include:

  • The most important and critical aspect of investment in US real estate is to determine the proper legal entities (LLC, corporation, partnership, trust, etc.) to hold title (own) the properties. This structure of entities must be designed to meet your goals and objectives. Each taxpayer’s situation is different. Failure to plan in advance can be extremely costly.
  • Obtain experienced legal and tax professionals to guide you through the many tax elections, the proper tax withholding on payments from the US, and the tax filing requirements. Failure to do so puts your properties at risk of loss or IRS liens.
  • Failing to make the proper tax elections such as the “Effectively Connected to a US Trade or Business” election subjects your gross income to a flat 30% tax without consideration of any expenses or deductions.
  • An example would be a commercial real estate building that generates $100,000 in rental income with operating and depreciation expenses of $110,000. For accounting purposes, the property shows an operating loss. Failure to make the timely election subjects the owner to $300,000 in tax payments and no allowed deductions. With the election properly filed, the owner owes zero US tax.
  • Correctly designing the ownership structure may avoid very costly taxes. In this example, a foreign individual purchases a $1,000,000 apartment complex and puts the ownership in his or her own name rather than a corporation or other entity. That person then dies. All but $60,000 of the value of the complex is taxed under US Estate tax law at a 40% rate.
  • Owning US real property through a foreign corporation risks having the foreign corporation treated as a “permanent establishment” in the US. The foreign corporation could pay income taxes as high as 54% and be required to file a US tax return each year.
  • Purchasing an ownership interest in US real estate through a partnership may offer tax savings incentives. But the partnership must withhold and pay over US tax on the foreign investors income at our highest marginal tax rate. The foreign partner must then file a US tax return to recover any potential tax overpayment.
  • Purchasing US real estate in an individual’s name then changing ownership to a US corporation owned by a foreign corporation might be subjected to the foreign inversion rules. Waiting to purchase the property in the corporation’s name avoids this risk.

To summarize, it is all about planning in advance of taking action. Taking the time to plan avoids numerous problems and costly errors. For those who acted first and then stopped to consider the consequences, you should take immediate steps to see what you can do to minimize the damage.

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