Foreign Nationals are allowed to own real estate in the US. In fact, there are very few differences between a foreign and US buyer when purchasing real estate. It is important that the Foreign Buyer understands the Buying Process and knows some basic information about general US real estate practices that may vary greatly from a buyer’s home country.
US REAL ESTATE PRACTICES
Transparency – In the US, real estate is very transparent. A new listing for sale is required to be posted to the listing service within 24 hours so that active listings are available to all agents. This is unlike in many other countries, where buyers have to go from agent to agent to find a property. We have access to all the listings in New York and Florida and can assist you in the sale of any one of them. Commissions – The sales commission is always paid by the seller (and then divided equally between both the buyer’s and seller’s brokers), so buyers don’t pay anything to have a buyer’s agent working on their behalf. It is always advisable for a buyer to work with an Exclusive Buyer’s Agent who will protect the buyer’s interests in the transaction.
FOREIGN BUYERS ARE GENERALLY PROHIBITED FROM BUYING COOPS
Coops generally prohibit foreign ownership. Coops usually require a buyer’s source of income to be from the US and assets to reside in the US (at least the bulk of the assets). Coops require this because they are ultra-conservative corporations and, if for whatever reason the corporation had to sue an owner, it would be very difficult to be successful in the litigation. Even if the corporation obtained a judgment against a foreign owner, it would likely be unenforceable if the owner’s assets were sitting in another country 4,000 miles away. Accordingly, Foreign Buyers are restricted to buying Condos (Condominiums), Condops (Coops with Condo rules), and Townhouses. Buyers, however, have more rights when buying a Condo, Condop or Townhouse than when buying Coops, which are very restrictive on the use of the property. See Determine the Type of Property to Buy for more information on the differences between these types of properties.
FOREIGN BUYERS DO NOT HAVE TO BE IN THE U.S. TO CLOSE THE DEAL
At the closing of the transaction, when the property is transferred to the new owner, the new owner does not need to be in the US. Rather, the new owner can provide his or her representative with “Power of Attorney” and the representative will have the right to close the deal on behalf of the new owner. This is quite common and convenient for the buyer who does not want to come back to the US for the closing.
FOREIGN BUYERS SHOULD CONSULT WITH THEIR HOME COUNTRY TAX SPECIALISTS AND U.S. TAX SPECIALISTS
A Foreign Buyer’s overall tax liability may be different than that of a US resident depending upon the buyer’s home country’s tax laws and tax treaty with the US, if any, as well as how they structure their purchase. A local tax lawyer who is familiar with your home country’s tax laws working in tandem with a US tax specialist would be the best resource for answers to these questions.
FOREIGN BUYERS MAY BE ABLE TO DEFER CAPITAL GAINS TAXES BY ENGAGING IN A LIKE-KIND EXCHANGE FOR ANOTHER PROPERTY
The US government allows Foreign Sellers to use Section 1031 of the IRS Code to defer capital gains taxes. The rules are quite complex and one must not stray from the rules, otherwise the transaction won’t qualify for deferral.
FOREIGN BUYERS MAY “ELECT” TO PAY U.S. INCOME TAXES ON NET RENTAL INCOME
It is often difficult to determine whether the ownership and rental of US real property by a Foreign Investor constitutes a US trade or business although ownership of a building, which is rented pursuant to a triple-net lease (i.e., a lease in which the lessee pays rent to the lessor as well as all taxes, insurances and maintenance expenses that arise from use of the property) generally should not be treated as a US trade or business. If the Foreign Investor’s activity level with respect to the property and the total facts and circumstances lead to the conclusion that the Foreign Investor is not engaged a US trade or business then consideration should be given to whether the Foreign Investor should make a so-called “net” election. This election to treat income as if it were “effectively connected income” (ECI) even though it is actually not (as mentioned, it is possible that such rent is actually treated as effectively connected with the conduct of a US trade or business) may be beneficial in certain circumstances as it avoids the 30% gross withholding tax that applies to non-ECI US source real estate rents and permits the deduction of expenses (such as real estate taxes, depreciation and other expenses) of the real estate against the rental income. The Foreign Investor would pay US federal income tax on the difference at net income tax rates. The net election applies to all US real estate owned by the taxpayer and is a “forever” election unless the taxpayer revokes the election three years from the date on which the return making the election was filed. After the 3-year period has elapsed, the IRS must consent to a revocation. It should be noted that in certain circumstances a net election may be disadvantageous. For example, if there were large deductions associated with the US real estate in early years, such as mortgage interest and rapid depreciation, and smaller future deductions in later years, then, as the US tax deductions decline, the regular US net income tax tends to become a tax on gross income and could result in a greater tax burden than the 30% gross withholding tax since, at least currently, the highest marginal US federal net income tax rate for individuals is greater than 30%. It would need to be verified with the Foreign Investor’s accountants whether the real estate rental income is ECI because the net election can only be made with respect to real estate income that is not ECI. The Foreign Investor also would need to consult his or her accountants to model the amount of US federal income tax (and any state or local tax) that would arise as a result of the net election taking into account the particular rental income stream, depreciation, and expenses associated with the property.
FOREIGN INVESTMENT IN REAL ESTATE PROPERTY TAX ACT (FIRPTA)
When a non-resident sells US property, the Internal Revenue Service wants to be sure they get paid capital gains taxes. Accordingly, the Purchaser generally is required to withhold 15% of the gross purchase price of the property. (Some states, such as New York, may also impose an estate tax.) When a US tax return is submitted reporting the capital gains tax, if there is any refund due, that money will be refunded to the filer.
FOREIGN BUYERS MUST PLAN TO AVOID THE U.S. ESTATE TAX
When a Foreign Buyer dies, his or her estate will be taxed by the US government at close to 40%. In addition, states such as New York may impose an estate tax. One structure to address US federal estate tax issues involves forming a Limited Liability Company (LLC) and a Foreign Corporation. The LLC would own the property, the Foreign Corporation would own the LLC, and the buyer would hold shares of stock in the Foreign Corporation. Under this scenario, since the property is “owned” by the Foreign Corporation, the US government would receive nothing upon the death of the Foreign Buyer. This is a great tax savings from the US estate tax for Foreign Buyers and is not very expensive to implement. This structure also allows for the transfer of the property from one party to another by the selling of shares of the corporation (without US federal income tax) rather than the sale of the property, which would generally trigger a taxable event. However, a buyer may prefer to buy the property rather than the shares. It is advisable for any owner of investment real estate (foreign or US) to create at least an LLC to hold the property, since using this structure limits the owner’s liability to the value of the LLC, which would strategically own only that particular property and, therefore, the owner’s liability would be limited to the net value of the property. Taking this one step further, using a Foreign Corporation to own the LLC would provide protection to the Foreign Buyer against the estate tax. If a Foreign Buyer does not want to maintain the LLC and the Foreign Corporation (perhaps because the investment is small), an alternative approach would be to obtain life insurance in the amount of equity in the property. For example, a 38-year-old man in good health would pay $1,300 per year for a 10-year term life insurance policy paying a death benefit of $1,000,000. While the Foreign Buyer would not avoid the estate tax, his or her heirs would receive the same amount in the case of death.
The foregoing tax points are general tips. As noted above, prospective buyers should be sure to seek tax advice from experienced US and home country tax professionals.