The disposition of a U.S. real property interest by a foreign person (the transferor) is subject to the Foreign Investment in Real Property Tax Act of 1980 (FIRPTA) income tax withholding. FIRPTA authorized the United States to tax foreign persons on dispositions of U.S. real property interests. A disposition means “disposition” for any purpose of the Internal Revenue Code. This includes but is not limited to a sale or exchange, liquidation, redemption, gift, transfers, etc. Persons purchasing U.S. real property interests (transferees) from foreign persons, certain purchasers' agents, and settlement officers are required to withhold up to 15 percent of the amount realized on the disposition (special rules for foreign corporations).* In most cases, the transferee/buyer is the withholding agent. If you are the transferee/buyer you must find out if the transferor is a foreign person. If the transferor is a foreign person and you fail to withhold, you may be held liable for the tax. For cases in which a U.S. business entity such as a corporation or partnership disposes of a U.S. real property interest, the business entity itself is the withholding agent.
*Note— The terms used by the IRS can be confusing. "Transferor" refers to the SELLER of property, while the "Transferee" refers to the BUYER of property.
Rates of Withholding
The transferee ("Buyer") must deduct and withhold a tax up to 15% of the total amount realized by the foreign person on the disposition.* The amount realized is the sum of (1) The cash paid, or to be paid (principal only), (2) the fair market value of other property transferred, or to be transferred, and (3) the amount of any liability assumed by the transferee or to which the property is subject immediately before and after the transfer. The amount realized is generally the amount paid for the property. If the property transferred was owned jointly by U.S. and foreign persons, the amount realized is allocated between the transferors based on the capital contribution of each transferor.
Exceptions from FIRPTA Withholding
Generally you do not have to withhold in the following situations; however, notification requirements must be met:
1. You (the transferee) acquire the property for use as a home and the amount realized (generally sales price) is not more than $300,000. You or a member of your family must have definite plans to reside at the property for at least 50% of the number of days the property is used by any person during each of the first two 12-month periods following the date of transfer. When counting the number of days the property is used, do not count the days the property will be vacant.
2. The property disposed of (other than certain dispositions of nonpublicly traded interests) is an interest in a domestic corporation if any class of stock of the corporation is regularly traded on an established securities market. However, if the class of stock had been held by a foreign person who beneficially owned more than 5% of the fair market value of that class at any time during the previous 5-year period, then that interest is a U.S. real property interest if the corporation qualifies as a United States Real Property Holding Corporation (USRPHC), and you must withhold on any disposition.
3. The disposition is of an interest in a domestic corporation and that corporation furnishes you a certification stating, under penalties of perjury, that the interest is not a U.S. real property interest. Generally, the corporation can make this certification only if the corporation was not a USRPHC during the previous 5 years (or, if shorter, the period the interest was held by its present owner), or as of the date of disposition, the interest in the corporation is not a U.S. real property interest by reason of section 897(c)(1)(B) of the Internal Revenue Code. The certification must be dated not more than 30 days before the date of transfer.
4. The transferor gives you a certification stating, under penalties of perjury, that the transferor is not a foreign person and containing the transferor's name, U.S. taxpayer identification number, and home address (or office address, in the case of an entity).
5. You receive a withholding certificate from the Internal Revenue Service that excuses withholding. Refer to Withholding Certificates.
6. The transferor gives you written notice that no recognition of any gain or loss on the transfer is required because of a nonrecognition provision in the Internal Revenue Code or a provision in a U.S. tax treaty. You must file a copy of the notice by the 20th day after the date of transfer with the:
7. Internal Revenue Service Center
P.O. Box 409101
Ogden, UT 84409.
8. The amount the transferor realizes on the transfer of a U.S. real property interest is zero.
9. The property is acquired by the United States, a U.S. state or possession, a political subdivision thereof, or the District of Columbia.
10. The grantor realizes an amount on the grant or lapse of an option to acquire a U.S. real property interest. However, you must withhold on the sale, exchange, or exercise of that option.
11. The disposition (other than certain dispositions of nonpublicly traded interests) is of publicly traded partnerships or trusts. However, if an interest in a publicly traded partnership or trust was owned by a foreign person with a greater than 5% interest at any time during the previous 5-year period, then that interest is a U.S. real property interest if the partnership or trust would otherwise qualify as a USRPHC if it were a corporation, and you must withhold on it.
2016 Change in Withholding Rates
Recent federal tax legislation increases the FIRPTA general withholding rate from 10% to 15% effective for closings on or after February 16, 2016. (See H. R. 2029, now known as Public Law 114-113. See Section 324 for text of changes).
The 10% rate will still apply for those transactions in which the property is to be used by the Transferee as a residence, provided the amount realized (generally the sales price) does not exceed $1,000,000, and the existing $300,000 “exemption” remains unaffected. So here are your new guidelines:
If the amount realized (generally the sales price) is $300,000 or less, AND the property will be used by the Transferee as a residence (as provided for in the current regulations), no sums need be withheld or remitted.
If the amount realized exceeds $300,000 but does not exceed $1,000,000, AND the property will be used by the Transferee as a residence (there are no regulations that specifically address these changes but many are assuming you can follow the current regulations for the $300,000 exemption), then the withholding rate is 10% on the full amount realized.
If the amount realized exceeds $1,000,000, then the withholding rate is 15% on the entire amount, regardless of use by the Transferee.