Upon closing of a real estate transaction in the U.S., a Federal law known as the Foreign Investment in Real Property Tax Act (“FIRPTA”)[1], may require that escrow withhold a portion of the seller’s proceeds if the property is located within the United States and seller is a “foreign person.” A “foreign person” includes a non-resident alien individual, foreign corporation, foreign partnership, foreign trust and foreign estate (hereinafter “a foreign entity”). The amount deducted from the seller’s proceeds is ten percent (10%) of the gross sale price and is required to be delivered over to the Internal Revenue Service. [For details, go to IRS link, here.]
The buyer may become responsible for payment if FIRPTA applies and escrow is not instructed to withhold the funds. This means that if a transaction closes and funds are distributed to the seller who was legally a “foreign person,” the buyer may be held liable. There are some instances in which the real estate agents may become liable as well.
The major FIRPTA exclusions are: (a) the sale price is $300,000 or less; (b) the property is to be used by buyer as a residence; and (c) the buyer is an individual and not a foreign entity.
For lawyers drafting residential sale agreements for their clients, it is imperative that the seller’s FIRPTA status be addressed. One approach is for the seller to affirmatively represent in writing that he/she is not a “foreign person” under FIRPTA. If the seller is unsure about their legal status, he/she should first confer with their tax counsel or a CPA before entering into the real estate transaction.
If FIRPTA is applicable, the next issue is who to designate to carry out the provisions of the law, including the withholding and delivery of funds to the IRS. This is the role of the “Qualified Intermediary.” It used to be that the title/escrow company would routinely act in this capacity. Today, standard title industry practice is not to vet the issue unless asked by the parties. If asked, they will usually serve.
Practice Tip: If no one asks, there is a good chance the FIRPTA withholding requirements will be ignored. And you can be sure that in the stack of documents buyers and sellers sign at closing, is a statement exonerating the title insurance company from vetting the FIRPTA issue. For this reason, lawyers representing buyers should be proactive in vetting the issue of whether the seller is a “foreign person” under FIRPTA.
