Are You FIRPTA Compliant? IRS Targets Foreign Holders of U.S. Real Estate

International Wealth Tax Advisors
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International Wealth Tax Advisors

The IRS is Targeting Foreigners Selling U.S. Real Estate Interests

Individuals, investors, families and businesses have all found it necessary to pivot to a greater or lesser extent in light of the 2020 pandemic and ensuing economic crises. The IRS is no different.

Given its current limitations in conducting larger-scale audits, the IRS has determined that its best play is to focus on “issue-based” non-compliance. In other words: catch bigger fish in the leaky loophole nets of the tax law.  There is much anecdotal evidence within international tax circles to know that FIRTPA is an area teeming with reporting and compliance errors—not just by foreign investors, but also by U.S. withholding agents. Thus, the campaign is underway.

Who or What is Subject to FIRTPA?

The U.S. Congress designed the Foreign Investment in Real Property Tax Act (FIRPTA) to collect tax on the sale of a U.S. property by a foreign person or business entity in order to ensure that foreign persons and entities paid tax on their U.S. source (situated) income (i.e., extract a type of capital gains tax that would normally not apply).

The U.S. Congress determined that the sale of a defined interest in U.S. real property (USRPI) is the same as receiving income from a U.S. trade or business, and therefore becomes a taxable capital gain. A USRPI can apply to many investments besides a direct ownership interest in U.S. real estate, so foreign investors that think they are in the clear from FIRTPA compliance could be in for a big surprise.

To get a better and more thorough understanding of who and what is subject to FIRTPA and how it applies to property-related investments, please see the IWTA Services page on U.S. Real Estate and Foreign Investments. 

Our section entitled “Navigating  Real Estate Structures for Non-Resident Aliens” on our Tax Planning for Non-Resident Aliens services page also has some useful FIRPTA pointers.

What you Need to Know Now

On October 5th 2020, the IRS Large Business & International Division (LB&I) issued a notice regarding their resumption of an enforcement campaign to target NRAs receiving rental income from USRPIs. Nonresident alien (NRA) and other non-US taxpayer rental property owners can be subject to a 30% withholding tax on the gross amount of collected rental income unless they elect to categorize the income as effectively connected with US trade or business activities.

The LB&I’s previous announcement on Sept 14, 2020 announced their campaign to aggressively enforce tax withholding and reporting obligations of foreign investors, including foreign trusts, of U.S. real property and property interests.

According to a report by Statista, foreign property investment by foreign nationals is a major source of investment in the United States.  Property sales to foreign buyers totaled a whopping 78 billion dollars in 2019.

“In recent years, the largest share of foreign residential buyers originated from China and Canada, followed by Mexico. Foreign buyers of U.S. real estate prefer properties in suburban areas to properties in small towns and central areas of major cities,” says Statista.

Is it any wonder that the IRS is putting some firepower behind FIRPTA enforcement?

Forewarned is forearmed. The international cross-border tax experts at IWTA will gird you, your family, your trust, or business against the coming FIRTPA onslaught and help you emerge in good financial shape.

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