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Foreign Investment in U.S. Real Estate – A F.I.R.P.T.A. Introduction

Foreign Investment in U.S. Real Estate – A F.I.R.P.T.A. Introduction

Many economic, political, and cultural factors make U.S. real estate an attractive investment for high net worth individuals resident in other countries.  These factors are supported by a set of straightforward tax rules that apply at the time of sale.  Alicea Castellanos, the C.E.O. and Founder of Global Taxes L.L.C., looks at the U.S. Federal income taxes and reporting obligations that apply to a foreign investor from the time U.S. real property is acquired to the time of its sale.

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P.A.T.H. Act Leads to Widespread Tax Changes

Everyone likes Christmas presents and the P.A.T.H. Act delivers. It provides favorable tax treatment in the form of (i) F.I.R.P.T.A. exemptions for foreign pensions funds, (ii) increased ownership thresholds before F.I.R.P.T.A. tax is imposed on C.I.V. investment in R.E.I.T.’s, (iii) increased ownership thresholds before F.I.R.P.T.A. tax is imposed on foreign investment in domestically-controlled R.E.I.T.’s, (iv) a reduction in the time that must elapse in order to avoid corporate level tax on built-in gain when an S-election is made by a corporation after the close of the year of its formation, and (v) a permanent exemption from Subpart F income for active financing income of C.F.C.’s.

However, not all taxpayers benefitted from the Act. The P.A.T.H. Act increases F.I.R.P.T.A. withholding tax to 15%, adopts new partnership tax examination rules, and tightens rules regarding I.T.I.N.’s. Elizabeth V. Zanet, Christine Long, Rusudan Shervashidze, and Philip R. Hirschfeld explain these and certain other legislative changes.

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Tax 101: Understanding U.S. Taxation of Foreign Investment in Real Property - Part II

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This article examines the U.S. income, gift, and estate tax consequences to a foreign owner upon a sale or other disposition of U.S. real property, including a sale of real estate, sale of stock of a U.S. corporation, or a sale of a mortgage secured by U.S. real property.

In addition to (or sometimes in lieu of) rental income, many foreign investors hope to realize gain upon a disposition of U.S. real property. The Foreign Investment in Real Property Tax Act of 1980 (“F.I.R.P.T.A.”) dictates how gains are taxed from the disposition of United States Real Property Interests (“U.S.R.P.I.’s”). The law has a fairly extensive definition of U.S. real property for this purpose. Most significantly, the law provides for a withholding mechanism in most cases.

WHAT IS A U.S.R.P.I.?

A U.S.R.P.I. includes the following:

  • Land, buildings, and other improvements;
  • Growing crops and timber, mines, wells, and other natural deposits (but not severed or extracted products of the land);
  • Tangible personal property associated with the use, improvement, and operation of real property such as:
    • Mining equipment used to extract deposits from the ground,
    • Farm machinery and draft animals on a farm,
    • Equipment used in the growing and cutting of timber,
    • Equipment used to prepare land and carry out construction, and
    • Furniture in lodging facilities and offices.

  • Direct or indirect rights to share in appreciation in value, gross or net proceeds, or profits from real property;
  • Ownership interests other than an interest solely as a creditor, including:
    • Fee ownership;
    • Co-ownership;
    • Leasehold interest in real property;
    • Time-sharing interest;
    • Life estate, remainder, or reversionary interest; and
    • Options, contracts, or rights of first refusal.