Foreign Income & Taxpayers
The provisions of the Foreign Investment in Real Property Tax Act of 1980 (FIRPTA, part of the Omnibus Reconciliation Act of 1980, P.L. 96-499) are codified in Sec. 897. They subject to U.S. federal income taxation a foreign person’s gains from disposition of a U.S. real property interest (USRPI), regardless of whether the foreign person’s U.S. activities amount to a U.S. trade or business. Sec. 1445 sets forth the withholding obligations (and exceptions) of the parties involved in a foreign person’s disposition of a USRPI under FIRPTA. The Sec. 1445 regulations also provide notification requirements of FIRPTA transactions for transferors, transferees, targets of dispositions, and the IRS.
Parties involved in the disposition of a Sec. 897 USRPI as the result of a repossession of or foreclosure on the property need to be aware of their Sec. 1445(a) withholding requirements, as well as the availability of alternative withholding and notice requirements for foreclosure dispositions as provided in Regs. Sec. 1.1445-2(d)(3).
Alternative FIRPTA Rules for Foreclosures
The alternative FIRPTA withholding and notice requirements for foreclosure sales are consistent with the underlying purpose of FIRPTA: to ensure that, at some level, U.S. income tax is imposed on the disposition of a USRPI. However, these alternative requirements take into consideration that the transferor (i.e., debtor) in a foreclosure sale is unlikely to have gain from disposition of the USRPI. The alternative requirements also factor in the added role of a court or trustee in the foreclosure sale.
Withholding requirements: Generally, a transferee of a USRPI must withhold, report, and pay over to the IRS a tax under Sec. 1445(a) equal to 10% of the amount realized on the sale by the 20th day after the transaction. However, a transferee of a USRPI pursuant to a repossession or foreclosure on such property (under a mortgage, security agreement, deed of trust, or other instrument securing a debt) may report and pay, by that date, the lesser of the Sec. 1445(a) withholding tax or an “alternative amount,” as defined in Regs. Sec. 1.1445-2(d)(3)(i)(A), if the transferee complies with special notification requirements (described below).
The alternative amount is the amount, if any, as determined by a court or trustee with jurisdiction over the foreclosure that accrues to the transferor out of the amount realized from the foreclosure sale. This amount does not include any portion of a mortgage, lien, or other security agreement that is terminated, assumed by another person, or otherwise extinguished with respect to the transferor. If the alternative amount is zero (and the notice requirements are met), then no withholding is required by the transferee.
Notice requirements: To be eligible for reporting and paying the lesser of the Sec. 1445(a) withholding tax or the alternative amount, the transferee must comply with three notification requirements described in Regs. Secs. 1.1445-2(d)(3)(ii) and (iii):
- On the day of the USRPI disposition, the transferee must provide written notice to the court or trustee of the transferee’s name and address, a brief description of the property, the amount realized on the sale of the property, and the amount withheld under Sec. 1445(a).
- The transferee must provide further written notice to the court or trustee whether the Sec. 1445(a) withholding or the alternative amount of Regs. Sec. 1.1445-2(d)(3)(i)(A) will be (or has been) reported and paid over to the IRS. The notice should contain all the information from the first requirement above, the Sec. 1445(a) withholding amount or the alternative amount that will be reported and paid to the IRS, and the amount that will be paid to the court or trustee from the foreclosure sale.
- If the transferee withholds the alternative amount or does not withhold because the alternative amount is zero, the transferee must provide written notice to the IRS by the 20th day following the final determination by a court or trustee in a foreclosure action. The notice should state that it constitutes a notice of foreclosure action under Regs. Sec. 1.1445-2(d)(3); the transferee’s and transferor’s names, identification numbers, and addresses; the date of the final determination by a court or foreclosure trustee regarding the distribution of the amount realized from the foreclosure sale; a brief description of the property; the amount realized from the foreclosure sale; and the alternative amount.
Other Withholding Considerations
Aside from the alternative FIRPTA withholding and notice requirements, the transferor or transferee in a foreclosure sale may file a Form 8288-B, Application for Withholding Certificate for Dispositions by Foreign Persons of U.S. Real Property Interests, if the disposition is eligible for a withholding certificate.
If the IRS issues the requested certificate, it entitles the transferee to withhold a lesser amount, or exempts the sale from withholding altogether, depending on the specific circumstances of the foreclosure sale.
In the absence of filing the notices required by Regs. Secs. 1.1445-2(d)(3)(ii) and (iii) to withhold the alternative amount or application for and receipt of a withholding certificate, the transferee must withhold 10% of the amount realized from the transaction pursuant to Sec. 1445(a). A transferee that fails to withhold becomes liable for the amount of the required withholding, as well as penalties and interest under Regs. Sec. 1.1445-1(e)(1). Therefore, it is particularly important for the transferee to consider all withholding and notice requirements under Sec. 1445 and the associated regulations when reviewing the tax implications of a foreclosure sale of a USRPI.
EditorNotes
Annette Smith is a partner with PwC, Washington National Tax Services, in Washington, D.C.
For additional information about these items, contact Ms. Smith at 202-414-1048 or annette.smith@us.pwc.com.
Unless otherwise noted, contributors are members of or associated with PwC.
