Foreign Investment Real Property Tax Act
This memorandum provides a brief summary of FIRPTA and sets forth the escrow procedures you are to follow to ensure compliance with the Act.
I. General Analysis of FIRPTA
a. Purpose and Definitions
Section 1445 of the Internal Revenue Code requires that all buyers of real property owned by a “foreign person” withhold and pay to the IRS 10% of the “amount realized” on the sale unless certain exceptions apply. The purpose of this statute is to ensure collection of a foreign person’s tax on the disposition of real property owned by that person in the United States. The IRS accomplishes this result by imposing withholding and reporting requirements on the buyer. This, in turn, leads to our holding the necessary funds and making the required remittance on behalf of the buyer.
“Foreign person” includes a non-resident alien individual or a foreign corporation, foreign partnership, foreign trust or foreign estate. The term does not include a resident alien individual.
“Amount realized” is essentially the sales price for the property. Under this definition, the amount to be withheld is NOT affected by the amount of cash paid by the buyer. For example, withholding on the full purchase price is immediately due even if payment is deferred by installment sale. Consequently, if the cash paid at closing is not sufficient to meet the 10% withholding requirement, the seller will need to provide cash at closing sufficient to cover the shortfall or apply for a withholding certificate (discussed below).
b. Reporting and Withholding Requirements
Unless an exception from withholding applies, the buyer must report the sale to the IRS on Forms 8288 and 8288-A (available on the IRS website at http://www.irs.gov/formspubs) and pay 10% of the amount realized (sales price) to the IRS within 20 days of the date of sale. If an application for a withholding certificate is filed on or before the date of sale, this deadline is extended to the 20th day after the IRS accepts or denies the application.
c. Exceptions
There are several exceptions to the withholding requirement. Those we are most likely to encounter include:
1. Seller is not a foreign person. A buyer may rely on the seller’s certification, signed under penalty of perjury, affirming that the seller is not a foreign person and containing the seller’s name, address and social security number or taxpayer identification number (“TIN”).
2. Residence purchased for $300,000 or less. If the property is acquired for use as the buyer’s residence (as defined by the IRS) and the sales price is $300,000 or less, no withholding or reporting is required. This exception only applies if the buyer is an individual.
3. Non-Recognition Notice. No withholding is required if the seller provides a written notice, singed under penalty of perjury, stating that it is exempt from U.S. tax law or international treaty.
4. Withholding Certificate. The seller may file an application for a withholding certificate to reduce or eliminate the 10% withholding. If the IRS approves the application, the amount to be paid to the IRS is reduced by the amount stated in the certificate. The IRS is to respond within 90 days of receipt of an application. During this 90-day period, the full 10% must still be withheld.
5. The “amount realized” by the seller is zero. Remember: “amount realized means more than cash proceeds received by the seller. It can also include the amount of any carryback note, the value of other property transferred or to be transferred to the seller, or the amount of any liability assumed by the buyer.
d. Social Security/Taxpayer Identification Numbers and 1099 Reporting
A non-resident alien may have a social security number (“SS#”) or taxpayer identification number (“TIN”). A TIN is an employer identification number of a business or an identification number assigned by the IRS. Simply having such a number, however, does not mean an individual is a resident alien. Thus, unless one of the exceptions noted in Part C applies, we must withhold 10% of the sales price regardless of whether a foreign seller has a SS# or TIN.
A SS# or TIN is, nevertheless, critical to closing the transaction. Effective November 3, 2003, FIRPTA requires that a foreign seller’s SS# or TIN be included on Form 8288 and on an Application for Withholding Certificate. If it is not on Form 8288, the IRS will still process the payment but will not provide a receipt (Form 8288A) until the seller provides the number 0 meaning that the seller may not receive credit for the payment. The IRS also will not process a Withholding Certificate without a SS# or TIN. It is therefore critical to determine as soon as possible whether a foreign seller has a SS# or TIN.
If a foreign seller does not have a SS3 or TIN, then two options are available:
1. It takes approximately 2 – 6 weeks to obtain a TIN from the IRS. If there is sufficient time to do so prior to closing, the seller should be advised to make application immediately.
2. The seller can complete IRS Form W-7. This form is available on the IRS website at http://www.irs.gov/formspubs. Form W-7 may be sent to the IRS along with Forms 8288, 8288A and the 10% payment. The only caveat is that this package is NOT sent to the usual FIRPTA filing address but is sent to the address shown on the W-7 Instructions. If the seller is filing an Application for Withholding Certificate, Form W-7 can be sent along with the Application. The IRS will then process the packages as usual.
Note: There is an issue with using the Form W-7 at close of escrow that involves 1099 reporting requirements. 1099 reporting must still be done for foreign sellers. Generally we will not close a transaction without a seller’s SS# or TIN for 1099 purposes. Because the W-7 will not be processed until after closing, however, if we use Option 2 above, then we will not have a SS# or TIN at closing. To address this situation, and in line with the January 2005 WRELT Bulletin, IF the seller has completed the W-7 and we are sending that form to the IRS with Forms 8288, 8288A and the 10% payment, we can close the transaction if the seller agrees to our holding all remaining proceeds pending receipt of the SS# or TIN. If the seller is sending the W-7 to the IRS along with his/her Application for Withholding Certificate, we can close and hold 100% of the proceeds if the seller provides us with a copy of the completed W-7 and the Application for Withholding Certificate and completes our Notice of Application for Withholding Certificate. Once the seller has received the SS# or TIN, we can release all but the 10% withheld amount to him/her. We need to keep the 10% until the IRS has provided its response to the Application.
For an article from the September/October 2007 Tucson Realtor Magazine click here: http://www.casagrande-realestate.com/agent_files/FIRPTA/firpta%20article.pdf
To view the flowchart used in this article click here: http://www.casagrande-realestate.com/agent_files/FIRPTA/firpta%20flowchart.pdf
This information is courtesy of Title Security Agency.
