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FIRPTA Tax Planning

The Foreign Investment in Real Property Tax Act (FIRPTA) requires that the disposition of a U.S. real property interest by a foreign person (the transferor) is subject to special income tax withholding. If you are the transferee/buyer, it is imperative that you find out if the transferor/seller is a foreign person. The withholding requirement is on the Buyer; If the transferor is a foreign person and you fail to withhold, Buyer may be held liable for the tax amount. The requirement serves as an incentive for foreign Sellers to file appropriate tax returns. Accordingly, Buyers should be aware from whom they are buying real estate and act diligently to make sure the appropriate withholding is remitted to the IRS from the sales proceeds.

Tax Withholding Requirement:

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FIRPTA Tax Attorney

In my practice, there are many foreign nationals living in the District who own real estate. They are considered non-resident aliens for tax purposes, here on a non-immigrant visas, as they may be working for an international organization, foreign government or may be here for education or research. While there is no prohibition on buying U.S. real estate, foreigners often need counsel when it comes time to sell in navigating the tax withholding, including claiming their refund.

In a sales transaction, the Buyer of real property owned by a non-resident alien is required to withhold 10 percent of the amount realized by the foreign person, usually the agreed contract price, if the amount is over $300,000. The withholding percentage is increased to 15% if the amount realized is over one million dollars. This percentage (tens of thousands of dollars) is withheld by the Buyer and remitted to the IRS, so the Seller does not realize this amount at the time of closing. Special rules exist if the transferor is a corporation, partnership, trust or estate.

The Buyer is required to remit the withholding tax to the IRS via Form 8288 within 20 days after the date of the real estate transaction. The withholding agent must prepare Form 8288-A for each person from whom tax has been withheld, attaching copies A and B of Form 8288-A to Form 8288. The IRS will then stamp copy B and send it to the person subject to withholding. That person must file a U.S. income tax return and attach the stamped Form 8288-A to receive credit for any tax withheld. Delays arise when the transferor’s individual tax identification number (ITIN) is not included on the Form or the transferor does not yet have an ITIN.

Tax Planning Considerations:

There are exceptions to the withholding requirement, the most significant being that the withholding amount should not exceed the transferor’s maximum tax liability. At the request of either party to the transaction, the IRS shall determine with respect to any disposition, the transferor’s maximum tax liability. This is accomplished through the filing of the withholding certificate, IRS Form 8288-B. As back up support, your tax advisor will run a tax plan, calculating the actual amount of taxes due on the sale of property, if any.

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This tax plan will involve an analysis of whether the gain can be excluded if the seller owed and used the property as his primary residence for 2 out of the last 5 years. If the property was rented out, there may be recapture of depreciation claimed.

The transferor’s maximum tax liability is often far less than the required withholding, so it makes sense to act proactively and have this analysis performed, so the seller can retain more of the sales proceeds at the closing and not have to wait to file a tax return to get a refund.

If an application for withhold certificate (Form 8288-B) is submitted before or on the date of a transfer and the application is still pending with the IRS on the date of transfer, the correct withholding tax must be withheld, but does not have to be reported and paid over immediately to the IRS. The amount withheld (or lesser amount as determined by the IRS) must be reported and paid over within 20 days following the day on which a copy of the withholding certificate or notice of denial is mailed by the IRS. The IRS will generally act on these requests within 90 days after receipt of a complete application including the ITINs of all the parties. A transferor that applies for a withholding certificate must notify the transferee in writing that the certificate has been applied for.

The Treasury Inspection General for Tax Administration (TIGTA) recently reported that millions of dollars in tax withholding discrepancies are not being identified or addressed. The report found that some buyers do not report and pay withholdings to the IRS and that some reported amounts did not match IRS taxpayer accounts. Many recommendations have been made to improve the process and the IRS has agreed to their implementation: https://www.treasury.gov/tigta/auditreports/2020reports/202040014fr.pdf.

It is important to work with a tax attorney who is familiar with the FIRPTA process, given the IRS history of discrepancies as tens of thousands of dollars are at stake. It is equally important to select a buyer and title company that are ultimately agreeable to having the maximum tax liability calculated in lieu of submitting the required withholding. It is advisable to have terms dealing with FIRPTA in the sales contract, a clause that specifically addresses the preferred tax compliance procedures. Accordingly, it is important to consult a tax attorney before the contract is signed, in having a tax analysis performed before the transaction is completed and for follow-up with the Buyer to make sure the taxes have been remitted.