Bulletin: SLS2016001

Date:
January 27, 2016
To:
All Issuing Offices
RE:
UNDERWRITING - Foreign Investment in Real Property Tax Act (FIRPTA)

This bulletin has been updated and replaces SLS2013002.
Effective February 16, 2016, the FIRPTA
withholding rate changes from 10% to 15%.

The purpose of this bulletin is to highlight various tax aspects of The Foreign Investment in Real Property Tax Act (FIRPTA) and provide guidance for handling applicable real estate transactions. Generally, Section 1445 of the IRS tax code provides that a transferee (buyer) of a U.S. real property interest must withhold tax if the transferor (seller) is a foreign person. However, there are exceptions to the withholding requirement.

WHO IS CONSIDERED A FOREIGN PERSON?

Foreign persons, as defined by the Act, include the following: 

  • Non-resident aliens (even with a social security number)
  • Foreign corporations that have not elected to be treated as domestic corporations
  • Foreign partnerships, trusts or estates
  • Disregarded entities (i.e. sole member LLC) unless the LLC elected to be treated as a partnership or corporation 

A resident alien, with a green card is NOT a foreign person and FIRPTA does not apply. 

U.S. real property interest owned jointly by foreign and non-foreign transfers:    

First, allocate the sales price among the transferors based on capital contribution, then, aggregate the amount allocated to any foreign person.

NOTE: The IRS treats a husband and wife as having contributed 50% each.  

WHAT IS THE WITHHOLDING REQUIREMENT

Unless an exception applies, a percentage of the amount realized by the transferor must be withheld and remitted to the IRS within 20 days of closing, using IRS Forms 8288 and 8288-A. Generally, the amount realized (or gross sales price) for purposes of withholding is the sales or contract price. The amount withheld is merely a deposit which is applied to any actual tax liability the seller may have. The buyer is considered the "statutory withholding agent" for the IRS, responsible for determining whether FIRPTA applies and remitting to the IRS. Failure to comply can expose the buyer to tax liability, including interest and penalties. In addition, the settlement agent may also have potential liability under certain circumstances.

Recent legislation changed the FIRPTA withholding rate from 10% to 15% of the amount realized (generally, the contract price) for most transfers by a foreign seller.

For all closings prior to February 16, 2016, 10% of the amount realized must be withheld, unless an exception applies.

For most closings on and after February 16, 2016, 15% of the amount realized must be withheld, unless an exception applies. However, the withholding rate is 10% if the sale involves property which is acquired by the buyer for use by the buyer as a residence, and if the amount realized is $1,000,000.00 or less.    

WHAT ARE THE EXCEPTIONS TO WITHHOLDING REQUIREMENT

1.  Non-Foreign Certifications: 

If an individual seller furnishes the buyer with a Non-Foreign Person Certification (Individual Transferor), then no withholding will be required. 

If a foreign corporation that has elected to be treated as a domestic corporation and furnishes the buyer with a Non-Foreign Person Certification (Entity Transferor), then no withholding will be required. 

Disregarded Entity:  A disregarded entity (single member LLC) will not be considered a transferor but rather its owner will. A Non-Foreign Certification from a single member LLC will not be effective if the member is a non-resident and FIRPTA will apply unless the LLC elected to be treated as a domestic partnership or corporation. 

NOTE: Non-Foreign Certifications are not effective if you have actual knowledge or receive notice that they are false.

2.  When Sales Price is $300k or Less and Buyer Intends to Reside:  

Withholding is not required by an individual buyer if the contract price is $300,000.00 or less, and the buyer or a family member has definite plans to reside in the property for at least 50% of the number of days that the property is used by any person during each of the first two 12-month periods following the closing. No form or other document must be signed or filed with the IRS. However, buyers sometimes sign an "Intent to Reside" statement at closing. There is no obligation for the buyer to sign an "Intent to Reside." Failure to comply with the occupancy requirement could expose the buyer to liability for the failure to withhold, if the seller was a foreign person and did not pay the full tax due. The buyer has the sole discretion to rely on this exception. 

3.  Withholding Certificates:  

A foreign seller may be able to reduce or eliminate withholding by applying for and obtaining a Withholding Certificate from the IRS (using IRS Form 8288-B) prior to the closing date. The agent can then escrow the withheld amount until such time as the IRS grants relief. The turnaround time for an IRS determination could exceed six months. If the application for a Withholding Certificate is submitted without an individual tax identification number, the IRS will reject the application outright. The IRS will issue a letter stating they have rejected the application and the full percentage amount must then be remitted within 20 days of the rejection letter. Consequently, unless the seller can provide verification that the application for a Withholding Certificate has been filed and accepted by the IRS, you should remit the full percentage amount to the IRS.

DOES FIRPTA APPLY TO SHORT SALE TRANSACTIONS

Although there are usually no proceeds flowing to a seller in a short sale transaction, the withholding requirement nevertheless applies. Therefore, it becomes crucial to identify a FIRPTA transaction as soon as the contract is submitted for processing. Since it takes months if not longer from contract to closing a short sale transaction, the seller may have sufficient time to apply and receive a Withholding Certificate from the IRS prior to closing. 

SALES INVOLVING A FOREIGN DECEDENT ON TITLE  

The IRS has special rules if a foreign person was on title at the time of death. A federal estate tax lien will exist until such time as the IRS issues a "Transfer Certificate", a federal estate tax return is filed and the IRS issues a "Closing Letter" for the estate. A foreign decedent only receives a $60,000 exemption from the federal estate tax, unlike the much larger exemption available to a U.S. decedent. The buyer, realtor and closing agent are all potentially liable to the IRS for any tax shortfall as “Statutory Executor” if the funds for closing were at any time under their control. Once the IRS issues a Transfer Certificate, the transaction can close but funds cannot be disbursed to the beneficiaries of the estate until the IRS has “closed” the estate, which can take 12-15 months after the estate tax return is filed. 

The requirement for obtaining a Transfer Certificate also applies to title held by husband and wife if the decedent spouse was foreign. Although title may automatically pass to the surviving spouse under state law, the federal tax lien under the IRS Code is not relieved until a Transfer Certificate is obtained. The same holds true for the survivor of jointly held property with rights of survivorship where the decedent joint tenant was foreign. 

Nonresident Aliens Estate Tax: Nonresident aliens are subject to U.S. estate tax on their taxable assets located in the U.S. They are limited to an exemption of only $60,000. 

See IRS forms below:

IRS Form 8288 https://www.irs.gov/pub/irs-pdf/f8288.pdf

Instructions for IRS Form 8288 https://www.irs.gov/pub/irs-pdf/i8288.pdf

IRS Form 8288-A https://www.irs.gov/pub/irs-pdf/f8288a.pdf

IRS Form 8288-B https://www.irs.gov/pub/irs-pdf/f8288b.pdf

IRS ITIN Guidance for Foreign Property Buyers/Sellers https://www.irs.gov/Individuals/ITIN-Guidance-for-Foreign-Property-Buyers-Sellers

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