What Is FIRPTA?
Understanding FIRPTA Requirements and Exceptions
The Foreign Investment in Real Property Tax Act (FIRPTA) allows the IRS to tax non-resident aliens when they sell or dispose of U.S. real property. If you buy a home from a non-resident alien, you must withhold 15% of the proceeds and send it to the IRS. This deposit helps to ensure that the non-resident alien pays the tax.
"Think of FIRPTA as an advance tax payment. If a foreign person sells their property at a profit, they earn U.S. sourced income, and they have to pay tax on that income. The FIRPTA deposit stays at the IRS until the seller submits a tax return. Then, if they owe less tax, they get a refund for the difference."
— Marc Enzi, Enrolled Agent with Tax Solutions — Trusted Globally in Houston, Texas
To help you understand FIRPTA requirements, this guide breaks down the essentials.
Who Pays FIRPTA?
The seller owes the tax. They have earned capital gains on the sale of the property, and they are the ones who actually owe the tax.
But the buyer must withhold the tax. If the buyer doesn't withhold the tax, they may incur penalties. Ultimately, if the buyer doesn't withhold the tax and the seller never pays it on their own, the buyer can become liable for the FIRPTA tax.
How Does FIRPTA Apply to Buyers?
As the buyer, you must file Form 8288 (U.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests) within 20 days of the sale. This is a short one-page form. You need to include your name and address, a description of the property, and the date of transfer. Then, you should note the amount subject to withholding and the total amount withheld.
For example, if $300,000 was subject to 15% withholding, you would withhold $45,000 and you would send this amount to the IRS.
You also need to attach copies A and B of Form 8288-A (Statement of Withholding on Dispositions by Foreign Persons of U.S. Real Property Interests). This form also requires very basic information about you, the seller, and the property.
How Does FIRPTA Apply to Sellers?
After the buyer submits the FIRPTA withholding and documents, the IRS will send copy B of Form 8288-A to the seller. The seller will use that document when filing their U.S. income return.
Non-resident aliens should file Form 1040-NR (U.S. Nonresident Alien Income Tax Return). At that point, if the amount withheld was more than the tax due, the seller will receive a refund.
Note that the rules are different when corporations distribute U.S. real property interests to shareholders. Foreign corporations should withhold 21% of their recognized gain. Domestic corporations should withhold tax on the fair market value of U.S. real property interests distributed to foreign shareholders if the distributions are due to redemption of stock or liquidation of the corporation.
When Does FIRPTA Apply?
FIRPTA applies to all dispositions of U.S. real property interests by foreign persons. To help you understand when FIRPTA applies, let's break down these concepts.
What Is a FIRPTA Disposition?
A disposition includes sales, exchanges, gifts, transfers, exchanges, and any other transfers of ownership.
What Is Real Property Under FIRPTA?
U.S. real property interests include the following:
- Real estate such as homes or commercial buildings.
- Interests in real property such as mines, wells, or natural deposits in the United States.
- Personal property associated with the use of real property — for example, farming machinery purchased with a farm.
- Interests in domestic corporations unless the corporation never held U.S. real property while the seller owned their interest or during the last five years.
- Rights to purchase U.S. real property — for instance, if a non-resident alien has an option to buy real property and they sell it.
How Does FIRPTA Define a Foreign Person or Entity?
For the purposes of FIRPTA, a foreign person refers to a non-resident alien. A non-resident alien is a resident of a foreign country who is not a U.S. citizen.
Resident aliens, also called green card holders, are not considered foreign persons under the terms of this act. The category of foreign person also includes foreign partnerships, foreign trusts, foreign estates, and foreign corporations that have not elected to be treated as domestic corporations under Section 897(i).
How to Calculate FIRPTA Withholding
FIRPTA withholding is based on the amount realized by the sale. To calculate this number, you should add together the cash paid, the fair market value of other transferred property, and the amount of any liability assumed by the buyer.
For example, say that you buy a property for $200,000 cash, and you take over the seller's $150,000 loan. You also receive additional property worth $50,000. When you add these numbers together, you have the amount realized on the sale — in this example, it's $400,000.
Then, you multiply this number by the withholding rate of 15%. In this scenario, you would need to withhold $60,000. As of 2022, you must withhold 15% of the amount realized on the sale (10% for sales before February 17, 2016).
FIRPTA on Property Owned Jointly by U.S. and Foreign Persons
If the property is jointly owned by U.S. citizens or residents and non-resident aliens, you need to allocate the non-resident alien's realized amount to calculate your withholding. In other words, the FIRPTA withholding is only based on the portion of the property owned by the non-resident alien.
Say the realized amount was $400,000, and the foreign person had a 20% interest. Their realized amount is $80,000 (20% of $400,000). You should base the withholding on that amount.
This rule even applies if the non-resident alien is married to a U.S. citizen. You still have to allocate the realized amount based on the non-resident alien's interest in the property.
Exceptions to FIRPTA
There are several exceptions to FIRPTA. You may not have to withhold FIRPTA if any of the following apply:
- The sales price is less than $300,000, and you plan to use the property as a personal residence. Review the following section for more details.
- The seller realizes nothing on the sale.
- The seller provides a certificate stating that they are not a foreign person.
- The seller provides a withholding certificate indicating that a reduced amount should be withheld.
- The seller submits in writing that they are not required to recognize a capital gain on the house (for example, if the seller is allowed to take advantage of the capital gains exemption for a personal residence).
- The buyer or acquirer is the U.S. government, a state, a possession, a political subdivision, or the District of Columbia.
- The disposition is subject to rules related to corporate or partnership interests or the lapse of an option.
FIRPTA Rules for Personal Residences
To meet the residential requirement, the buyer must plan to reside in the property for at least 50% of the days the property was used by any person during the first two years after the transfer. For instance, if the buyer rents out the property for 200 days, they must live there for at least 100 days to meet this requirement.
The buyer can also satisfy the residential requirement by having their family members live in the home. Qualifying family members include spouses, full and half-siblings, ancestors, and direct descendants. You don't have to consider days when the property was empty.
Note that the residential requirement is based on intent. If the buyer's plans change unexpectedly, the IRS can be flexible as long as the buyer couldn't reasonably foresee the change in circumstances.
Reduced FIRPTA Withholding
As of 2022, FIRTPA withholding can be reduced to 10% if you're buying a home as a personal residence, and the realized gain is over $300,000 but less than $1 million.
Note that if the residential property is owned jointly by a non-resident alien and a U.S. resident, you must take the total amount of the realized gain into account when determining if you're exempt from FIRPTA or facing a reduced amount.
For example, say that you purchase a property for $800,000, and only $250,000 is allocated to the non-resident alien. In this case, you can reduce the FIRPTA withholding, but you are not exempt.
Even though the amount realized by the non-resident alien was less than the $300,000 threshold noted above, the total amount is greater than $300,000. As a result, you have a reduced withholding requirement, not an exemption.
FIRPTA Requirements on Exchanges of Real Property for Stock
FIRPTA withholding rules do not apply if the seller exchanges property for stock in a U.S. corporation, as long the exchange meets the following criteria:
- Gain or loss does not have to be recognized because the exchange meets the requirements of IRC 351.
- The real property was exchanged for another real property interest which would be subject to taxation when disposed of.
- The non-resident alien provides notice to the withholding agent that the disposition is not subject to gain or loss under the IRS's rules.
- The withholding agent sends the notice and a cover letter to the IRS within 20 days after the disposition.
However, FIRPTA withholding is required if the non-resident alien exchanges the property for stock in a foreign corporation and the foreign corporation treats the property as paid-in capital or a contribution to capital. Foreign corporations are not required to withhold for FIRPTA if they have elected to be treated as U.S.corporations under IRC 897(i).
When Was FIRPTA Passed?
FIRPTA became law in 1980. Although this law has existed for over 40 years, many taxpayers are not aware of it. The law has also become relevant for more taxpayers in recent years due to an increase in foreign ownership of real property.
According to the National Association of Realtors, foreign investors purchased $57.7 billion in U.S. commercial real estate in 2021. That was a 49% increase over the previous year, and this number doesn't even take residential real estate into account.
When more foreign investors own U.S. property, U.S. buyers become more likely to purchase property from non-resident aliens. As a result, more taxpayers have to deal with FIRPTA than they did in the past.
Why You Need a FIRPTA Expert
FIRTPA specialist Marc Enzi explains, "FIRPTA can kill deals at the closing table when there are misunderstandings and people don't know how to handle it. Sellers don't understand that it's a tax deposit and not a tax.
"If FIRPTA is not handled properly at closing, sellers may have trouble getting their refunds, and buyers may get a big penalty from the IRS. Having a FIRPTA expert on your team before closing helps to avoid any problems after closing."
Get Help With FIRPTA
The FIRPTA rules can be complicated and confusing, especially when corporations or partnerships are involved. Whether you're currently buying a property from a non-resident alien, worried that you didn't withhold the correct FIRPTA tax, or dealing with a FIRTA liability, a tax professional can help you.
At TaxCure, we make it easy to search for quality tax professionals in your area who are experienced with FIRPTA. To learn more, search for a tax pro today.