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Question: I am a mortgage broker and I recently had a transaction adjourn at the closing because the seller of the property did not understand their obligations under the Foreign Investment in Real Property Tax Act. As this caused my client to lose their rate, I was hoping you could provide an explanation about this Act so that I could potentially avoid a reoccurrence of this situation.
The Foreign Investment in Real Property Tax Act of 1980, known by its acronym FIRPTA (Act), is a federal law enacted to ensure that "foreign persons" who sell property in the United States generally pay the same amount of federal taxes on the sale as a United States person would. For purposes of the Act, a foreign person is anyone who is neither a resident alien (i.e., a holder of a green card) nor a United States citizen.
Towards this goal, the Act requires that whenever the seller of a real property interest in the United States (viz., a “United States Real Property Interest” or "USRPI") is a foreign person, the purchaser must withhold a certain percentage of the gross sale proceeds (generally the purchase price of the USRPI) upon disposition of the USRPI. The purchaser must then submit the withholding to the IRS. This all helps ensure that federal taxes are actually paid on the sale by the foreign seller. Pursuant to the Act, withholding has been imposed at a rate of 10% of the gross sales proceeds of a USRPI, notwithstanding the fact that the actual amount of tax may exceed (or be less than) the amount withheld.
Recently, the Protecting Americans from Tax Hikes Act of 2015 (PATH) was passed which, among other things, made changes to the withholding requirements of FIRPTA. More specifically, for the sale of a USRPI exceeding $1 Million Dollars, PATH raises the withholding amount from 10% to 15% of the gross sales proceeds. USRPI that are (i) personal residences and (ii) have gross sales proceeds of $1 Million Dollars or less are not affected by PATH and remain subject to the 10% withholding rate set forth in FIRPTA (note that FIRPTA still does not require the 10% withholding under certain conditions where the gross proceeds are $300,000 or less and the buyer is an individual acquiring the property as a personal residence).
The new provisions under PATH affect the disposition of USRPI taking place after Feb. 16, 2016.
If the actual federal tax liability on the sale of a USRPI is less than the amount withheld, a foreign seller may be entitled to receive a refund from the IRS after filing a federal tax return. Alternatively, a foreign seller may seek to apply for a Withholding Certificate from the IRS prior to the closing that would instruct the purchaser to withhold an amount less than the required withholding amount of 10% or 15% (depending on the gross sales proceeds). In transactions where the seller is not a foreign person, the purchaser may request that the seller sign a certificate (viz., a FIRPTA Certificate) at the closing stating that the seller is not a foreign person and that there is no withholding obligation under the Act. If the seller signs a FIRPTA certificate, the purchaser will not be required to withhold a portion of the sale proceeds.
Neil Garfinkel is executive director/Realty & Title Services Compliance Group, and director/legal & regulatory compliance for Lenders Compliance Group.