Bargain U.S. real estate prices have attracted many foreign investors. Foreigners or non-residents can buy property in the USA. Condominiums and single-home buildings are especially popular among foreign investors in USA real estate. The acquisition structure like a trust, domestic LLC or a corporation can provide liability protection and US tax planning advantages.
Let’s review the key US tax issues that foreign investors in USA real estate must consider.
US Tax Issues for Foreign Investors
Are foreign buyers of American real estate subject to US income tax?
Foreign investors must timely file US tax returns for non-residents. Non-residents with US real estate will be subject to tax at ordinary rates on net rental income. Net rental income is calculated as a difference between gross rent and real estate expenses. To take advantage of numerous deductions, it is crucial to timely file US federal and state tax returns for each year of ownership whether or not a foreign person actually has an income tax liability. Foreign investors can loose all deductions and will be taxed on the gross rental income received if they fail to submit US tax returns. For example, a non-resident alien with USA real estate holdings earns $30,000 in gross rental income and has $10,000 in rental expenses in 2012. This foreign person timely files a federal tax return. In this scenario s/he will be required to pay $2,000 US income tax on net rental income of $20,000. If this foreign investor doesn’t file a federal return timely, then s/he will have to pay tax on $30,000 gross rental income.
Should foreigners pay US taxes when they sell USA real estate?
Foreign investors are required to pay a capital gains tax and FIRTPA withholding tax. Staring in 2013 a long-term capital gains rate was increased to 20% for singles earning over $400,000 and couples earning over $450,000. Capital gains tax is calculated on the gross capital gain after subtracting the original purchase price, closing costs and capital improvements/renovations.
A foreign seller is also subject to a Foreign Investment in Real Property Tax (FIRPTA).
What is Foreign Investment in Real Property Tax Act (FIRPTA)?
Per FIRPTA the buyer is required to withhold tax of a foreign seller. The FIRPTA withholding tax amounts to 10% of the gross proceeds from the property sale. It is important to remember that this is not an actual US tax due. If a foreign seller is current on all US tax returns and there is no outstanding US tax liability like income tax or capital gain tax, then a foreign person should receive a refund of the 10% that was withheld at the sale. In case of trust with foreign beneficiaries and foreign corporation a withholding tax is 35%.
Are foreign investors required to pay US estate tax?
Foreign investors in USA real estate are subject to Federal estate tax. U.S. citizens are eligible to claim an individual exemption from the estate tax up to $5 million and $10 million for married couples. However, foreign persons don’t qualify for this exemption. It is important to check a tax treaty between the USA and this foreign country to minimize a US tax liability.
What is the most tax-efficient acquisition structure for foreign investors in USA real estate?
Choosing a right acquisition structure whether it is a domestic LLC, trust or corporation depends on multiple factors. Foreigners/non-residents are advised to work with a CPA who deals with non-resident tax issues and can help them navigate a US tax law. To contact international tax experts at Artio Partners, please click here.