Properly structured foreign gifts of real property property can be estate and gift tax free

by Sanford Millar
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Law Offices of Sanford I. Millar

The investment in U.S. real property by Non-residents can be structured to minimize estate and gift taxes.  The key is to structure the investment through a limited liability company, limited partnership or corporation so that the offshore investor owns an "intangible" interest in the real property.  Ownership of tangible interests, such taking title in the investor’s name, or in a General Partnership will estate and gift taxation.

The general rule of estate and gift taxation applicable to ownership of tangible assets by foreign taxpayers is:

"IRC Section 25.2501-1(a)(1) of the Gift Tax Regulations provides that the gift tax applies to all transfers by gift of property, wherever situated, by an individual who is a citizen or resident of the United States, to the extent the value of the transfers exceeds the amount of the exclusions authorized by § 2503"

However, there is an exception for gifts of intangible property, such as stock, limited partnership interests and Membership Interests in a limited liability  company

"IRC Section 25.2501-1(a)(3) provides that the gift tax does not apply to any transfer by gift of intangible property on or after January 1, 1967, by a nonresident not a citizen of the
United States (whether or not he was engaged in business in the United States"

An example of how these rules apply is the following:

Assume a parent Non-resident want to but investment property in the U.S.  If title is taken in the investors name the estate and gift tax rules apply and the subsequent gift of the property will be tax at current gift tax rates of 45% less the minimal exclusion of $60,000.  ON a $1 M valued property the gift tax is $1M (-) 60k (x) .45% or $423,000.  If, instead the property is held in an LLC there is no gift tax; a saving of $423,000.

There is a reporting obligation that comes that is very important.

"A U.S. citizen or resident who receives a gift from a nonresident alien individual is generally not subject to federal income tax on the gift pursuant to § 102 of the Code. Section 6039F, however, generally requires that a U.S. citizen or resident report a foreign gift exceeding $10,000 that he or she receives during the taxable year to the IRS. The reporting is done on Part IV of Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts."

The failure to report foreign gifts which meet the threshold for reporting can result in a penalty of 25% of the value of the gift.

"If a U.S. citizen or resident fails to report a gift from a nonresident alien, as required by § 6039F, the tax consequences of the receipt of the gift will be determined by the IRS and a penalty equal to 5 percent of the amount of the foreign gift will apply for each month for which the failure to report continues (not to exceed a total 25 percent). Section 6039F(c) provides that the penalty will not apply if the U.S. citizen or resident recipient demonstrates that the failure to report is due to reasonable cause and not due to willful neglect."

There are other factors that need to be considered in structuring foreign investments in U.S real property that must be considered.  Factors like the need for current cash flow which gives rise to income taxation.  Through careful planning foreign investors can receive tax free interest payments on certain kinds of loans. 

Early planning is important to obtaining the best tax results.  The benefits of skilled advice clearly pays for itself.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Sanford Millar, Law Offices of Sanford I. Millar | Attorney Advertising

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