The Foreign Investment in U.S. Real Property Tax Act (hereafter referred to as "FIRPTA") was created by Congress to tax certain capital gains of Non-Resident Aliens. The analysis that follows is not intended to be all inclusive, rather it is meant as a simplified explanation of the tax rules a Non-Resident Alien will be subject to when selling a US Real Property Interest.
To determine if the transaction is subject to FIRPTA we ask:
- Is the sale being made by a non-resident alien?
- Is the property at issue considered a US Real Property Interest (USRPI)?
If the answers to 1 & 2 above are “YES” the next question is à Does the seller have a US identification number?
If it is determined that the transaction is subject to FIRPTA it is then necessary to determine the amount of withholding necessary for the underlying transaction and ultimately the type of return the taxpayer is required to file. This is an important fact. FIRPTA dictates, among other things, the withholding rules which generally calculate the anticipated amount of tax due for the transaction. However, the ultimate amount of tax due is determined on the return required to be filed by the taxpayer for the year the transaction occurs.
Is The Property Being Sold as a US Real Property Interest?
A US Real Property Interest (USRPI) is: Land and un-severed natural products on the land such as growing crops,
- timber, mines, wells or natural deposits.
- Improvements on land, including buildings; other permanent structures; their structural components and related equipment, furniture and fixtures.
- Personal property associated with the use of real property, such as equipment used in farming, mining, forestry or construction, or property used in lodging facilities or rented office space, unless the personal property is:
- Disposed of more than one year before or one year after the disposition of the real property.
- Separately sold to persons unrelated to either the buyer or the seller of the real property
Whether a USRPI is held in individual or joint names, as stock in a US corporation (US Real Property Holding Company USRPHC), as a share in a US or foreign partnership, as a beneficiary of a US or foreign trust or as a member of a Limited Liability Company (LLC) is not relevant. The real property retains its status and continues to be subject to FIRPTA. Stock however in a foreign corporation is not a USRPI unless the corporation has elected to be treated as a US corporation for US income tax purposes. This is because the foreign corporation is taxed at rates higher than individual capital gain rates and may also be subject to the Branch Profits Tax. (If you hold US real estate in a foreign corporation, discuss the Branch Profits Tax with your US tax advisor. It could substantially reduce the net income that you receive from a sale.)
Tax paid on the gain by a Non-Resident Alien from the sale of stock in a US corporation, other than stock that is regularly traded on an established securities market, is treated as if it was on the sale of stock in a USRPHC unless the Non-Resident Alien is able to establish that the corporation does not meet the statutory definition. Further, the regularly traded exception does not apply to any holder of 5% or more of the fair market value of the class of stock being sold.
A corporation is a USRPHC if the fair market value of its US real property interests are at least 50% of the total fair market value of its US real property interests, plus the corporation’s real property located outside the United States, plus the corporation’s other assets that are used in or held for use in a trade or business. This definition may tempt you to include other assets in a corporation holding US real property, always consult with your tax advisors before doing this. Holding multiple assets in a single entity can often cause problems unrelated to FIRPTA if you wish to dispose of one of them.
The burden of proof in disclosing to the IRS that a corporation is not a USRPHC rests with the Non-Resident. Remember, if the corporation was a USRPHC for even one day during the five years prior to the day of sale, the transaction is still taxed under FIRPTA.
