FIRPTA – Foreign Investment in Real Property Tax Act

FIRPTA stands for the US Foreign Investment in Real Property Tax Act. In the past, when foreign sellers of real estate located in the United States owed taxes on gains from a sale, the IRS could not collect unless the seller filed a tax return. Very often, the taxes went unpaid. In an effort to correct this problem, Congress placed the duty on the buyer to collect the tax by withholding funds from the sale. If the seller is a foreign person and the buyer fails to withhold, the buyer may be held liable for the tax.

FIRPTA is a withholding, not a tax. A withholding is an amount held back used to pay potential taxes. The IRS implements a withholding on foreign sellers to make sure that they pay their fair share of taxes. In other words, the IRS will hold the potential tax owed “hostage” until the seller files a tax return to show what they actually owe. Many title companies will withhold these funds

The law considers three levels of property purchases:

A personal residence worth $300,000 or less – Foreign sellers currently pay no FIRPTA tax if the property was used as a residence.
A personal residence worth more than $300,000 but less than $999,999 – There is a current 10% FIRPTA tax if the property will be used as a residence.
Properties valued at $1 million or more – The FIRPTA tax is 15%. It doesn’t matter whether or not the property will be used as a residence.

A “foreign person” is defined under FIRPTA as a:

nonresident alien individual,
foreign corporation,
partnership,
trust or
foreign estate

Through the FIRPTA process, the Sellers can apply for a Withholding Certificate that could reduce the withholding – often reducing it to zero. Even if the Sellers are going to owe some taxes, they may be able to deduct closing costs, improvements they made to the property and other deductions when they file the request for the Withholding Certificate with the IRS. This allows foreign Sellers to get a pre-determination either that they owe nothing, so no withholding will take place, or at least get that amount reduced.

If the Seller does nothing prior to the closing in regards to a Withholding Certificate, then the Escrow Agent or Settlement Agent will withhold the appropriate percentage of the sale proceeds at closing and remit to the IRS. The foreign Seller can file a tax return at a later date to recoup some of that withholding.

There are a number of exemptions which that would require this withholding to not be collected, but those should be discussed with a CPA to see if the seller qualifies.

As with anything regarding potential taxes, it’s best to consult with a CPA, tax professional, or an attorney.