February 16, 2018
Industry Best Practices

FIRPTA Rates Increase

Changes to the Foreign Investment in Real Property Tax Act (FIRPTA) in 2016 brought about an increase in the withholding tax rate on the sale of a U.S. real property interest from 10% to 15%.

Withholding rate

There is now a tiered rate for the withholding tax based on whether the property is used as a residence or not:

  • Sales Price $300,000 or less:
    • If the Buyer will be using the property as his or her residence, then there is NO withholding tax under FIRPTA.
    • If the Buyer will NOT be using the property as his or her residence, then the withholding tax rate will be 15%.
  • Sales Price over $300,000 up to $1,000,000:
    • If the Buyer will be using the property as his or her residence, then the withholding tax rate will be 10%.
    • If the Buyer will NOT be using the property as his or her residence, then the withholding tax rate will be 15%.
  • Sales Price over $1,000,000:
    • The withholding tax rate will be 15%, whether the Buyer uses the property as a residence or not.

Exemptions typically used in residential real estate transaction:

  • Transferor is not a foreign person or entity – If the Transferor (Seller) provides a certification to the Transferee (Buyer) that the transferor is not a foreign person, no withholding tax is required. The certification should (1) state that the Transferor is not a foreign person; (2) set forth the Transferor’s name, identifying number (usually the Social Security Number or U.S. Employer Identification Number) and home address (in the case of an individual) or office address (in the case of an entity), and (3) be signed under penalties of perjury. (This is the standard exemption that most Sellers sign as a part of their closing package.)
  • Use of property as a residence – Depending on the purchase price, no withholding tax, or the reduced rate of 10% withholding tax will be required if (1) the Transferee is an individual and (2) the property will be used as a residence. To qualify as a residence, the Transferee must have definite plans to reside at the property for at least 50 percent of the number of days that the property is used by any person during each of the first two 12 month periods following the date of the transfer. The number of days that the property will be vacant is not taken into account in determining the number of days such property is used by any person. A Transferee will be considered to reside at the property on any day on which a member of the Transferee’s family resides at the property.

NOTE – If the Transferee is not an individual, the residence exemption will not apply even if the property is acquired for or on behalf of an individual who will use the property as a residence.

Practical reminders

A change in the way in which the property will be titled will affect the withholding tax. For example, if the Buyer is an individual and then decides to take title in the name of an entity, the Seller may now be required to pay withholding tax at the rate of 15%, which was probably not contemplated at the time of negotiation and execution of the contract.

It is important for the Seller’s and Buyer’s agents to understand the impact of such a change on the Seller’s anticipated net proceeds, and to advise their clients accordingly. If the change from an individual buyer to an entity is agreed, Land Title should be advised as soon as possible so that the correct settlement statements are sent out to the Seller. A change at the last minute, while not insurmountable, may result in a delay due to the re-execution of the settlement statements.

An important revision to the standard form of contract for 2016 is that the contract is not assignable by the Buyer unless otherwise specified in the Additional Provisions. Previously the contract allowed the Buyer to assign the contract without the Seller’s prior written consent, if this box was checked. With this change, the Seller will have greater control over an assignment, (unless otherwise agreed to in the Additional Provisions) particularly where the change may result in a withholding tax of 15%.

The transferee may refuse to accept the certification signed by the transferor or refuse to sign the certification regarding use of the property as a residence. If this happens, the withholding tax of 15% must be deducted from the amount realized by the transferor.