What is CAL-FIRPTA Withholding?

Posted on by Shirley Kim

Unless you have a reason to be familiar with tax laws, you are probably wondering, “what is FIRPTA?”.  FIRPTA stands for Foreign Investment in Real Property Tax Act. It is a tax law that ensures foreign taxpayers pay income tax on their sale of US real estate. Read on for more information about what FIRPTA is and how it works.

Why Was FIRPTA Created?

For domestic citizens, capital gains tax money is taken out of your regular income tax. In contrast, foreign persons are taxed only on certain items of income and are not taxed on most capital gains items, including real estate. This being the case, FIRPTA was put into place to ensure that the government gets their piece of the pie when a foreign person living in the US sells real estate. It applies to almost any sale where a foreign owner of a US property sells said property.

Federal Withholdings:

To ensure the taxes are collected, buyers of real estate that falls under this tax act are required to withhold 10% of the sales price from the seller and deposit it with the IRS. This 10% deposit is applied to taxes owed on the sale (or transfer) of the property. If the actual taxes are calculated to be less than 10% of the sales price, the seller will receive a refund for the difference. If no taxes were owed, the entire deposit is refunded to the seller.

State Withholdings:

Separate from the federal withholding requirements of FIRPTA, some states require buyers to withhold an additional amount to cover taxes that may be owed by sellers, even if the sellers are US citizens who reside in that state. For example, California requires that 3 1/3% of the sales price be withheld by buyers and deposited with the state’s Franchise Tax Board, whether the seller is or is not a Californian resident. Just like the federal deposits, the seller receives a refund if taxes owed turn out to be less than the amount withheld.

Exemptions to the Rule:

If one or more of these circumstances apply, a seller may be exempt from this law:

  • The sales price is less than $300,000 and the buyer has definite plans to reside in the home for at least 50% of the first 24 months that the property is being used by any person
  • The seller provides written certification that they are not a foreign person
  • The buyer receives a withholding certificate from the IRS that excuses the withholding
  • The amount the seller realizes on the sale or transfer of the property interest is zero

 

The Foreign Investment in Property Tax Act (FIRPTA) is a certificate of non-foreign status. FIRPTA addresses the disposition of U.S. real property interest by a foreign person. Section 1445 of the Internal Revenue Code requires that all transferees (buyers) of real property owned by a foreign person withhold and pay to the IRS up to 15% of the amount realized on the sale.

When dealing with a foreign seller, at the very beginning, agents should be confirming if the seller is a foreign seller or not. If he is a foreign seller (non-resident alien) and does not have an individual tax payer identification number (ITIN), then the agent should recommend he seek the assistance of his CPA in order to apply to the IRS for his ITIN and help him through the paperwork.
Who is a non-resident alien? A non-U.S. citizen who does not pass the green card test or the substantial presence test is considered a “non-resident alien.” If a non-citizen currently has a valid green card, he would pass the green card test and would be classified as a resident alien.

U.S. Real property interests include: Interest in a parcel or parcels of real property.

The IRS definition of an agent: Any person who represents the transferor (seller) or transferee (buyer) in any negotiation with another person (or another person’s agent relating to the transaction in the settling of the transaction).

Liability of agents: If the transferee (buyer) or other withholding agent receives a certification of non-foreign status and the agent knows that the document is false, the agent must provide notice to the transferee (buyer) or other withholding agent. If the notice is not provided, the agent will be liable for the tax that should have been withheld but only to the extent of the agent’s compensation from the transaction.