FIRPTA Update: Withholding Requirement Increases To 15%

housingBackground. Upon the closing of a real estate transaction in the U.S., a Federal law, known as the Foreign Investment in Real Property Tax Act (“FIRPTA”) may require a portion of the seller’s proceeds be withheld, if the property is located within the United States and the seller is a “foreign person.” A “foreign person” includes a non-resident alien individual, foreign corporation, foreign partnership, foreign trust and foreign estate. The amount withheld from a seller’s proceeds had previously been ten percent (10%) of the gross sales price (hereinafter, the “Withholding Requirement”). As discussed below, that percentage has changed in certain circumstances.

The FIRPTA law is particularly draconian – if the seller is a foreign person, and the required withholding is not made, unless exempted, the buyer, whom the law defines as the “withholding agent” will become responsible for payment.  Since most title/escrow companies have a standard form, buried neatly in the middle of the stack of papers given the parties to sign at closing, relieving them of the responsibility to vet the FIRPTA issue, the buyer, as the “withholding agent”, can be left holding the bag, if the law is ignored.  This is not to say the companies will not vet the issue – most of them will – but they have to be requested to do so. In other words, if it isn’t raised by the parties or their real estate agents, escrow cannot, be held liable for not addressing it.

And lest real estate brokers think they are merely innocent onlookers in this arcane and little known process, here is a wake-up call: If, at closing, the seller submits a signed Affidavit of Non-Foreign Status, thereby exempting themselves from the Withholding Requirement, and either real estate agent has actual knowledge that it is false (i.e. the seller is a “foreign person”), he/she can be held liable for payment of the Withholding Requirement, up to the amount of their commission.

The reason for this is because for purposes of meeting the Withholding Requirement, in addition to the buyer serving as the “withholding agent”, FIRPTA also defines an “agent” to include “…any person who represents the transferor or transferee in any negotiation relating to the transaction or in settling the transaction.” See, 26 USC § 1445(d). As explained in the online article The Buyer’s Burden: FIRPTA Tax Withholding Requirements:

Both the buyer’s and seller’s agents are required to provide notice to the buyer if they know that the seller’s affidavit is false. Any agent that fails to provide notice will be liable for the tax that the buyer should have withheld. However, the agent’s liability cannot exceed the amount of compensation the agent earned from participating in the transaction.

Update: Increased Withholding Requirements. On December 18, 2015, Mr. Obama signed the interestingly titled Act, “Protecting Americans from Tax Hikes Act of 2015” into law.  Obviously, it was not intended to protect “foreign persons” from tax hikes, as the Withholding Requirement went up, in some instances, by 33%.

Here’s the scoop:

  • There still is no Withholding Requirement if the purchase price of the property is not more than $300,000 – even if the seller is a “foreign person” – and it will be occupied as a residence by a buyer who is an individual, or by a member of the buyer’s family[1];
  • When the purchase price of the property is over $300,000, but less than $1,000,000, the Withholding Requirement will be ten percent (10%) of the purchase price if it will be occupied as a residence by a buyer who is an individual, or a member of the buyer’s family; and
  • The Withholding Requirement will be fifteen percent (15%) of the purchase price when it is over $1,000,000, regardless of use of the property.

Conclusion. With an influx of foreign money coming into this country over the past few years, and much of it being used to purchase real estate, we can expect that the foreign buyers will eventually become foreign sellers. So even though most real estate brokers have never had a transaction triggering the FIRPTA withholding requirements, over time, this is bound to change – and with it, broker liability. To be forewarned is to be forearmed…. ~PCQ

[1] There are additional occupancy requirements over a two year period.