Richard S. Lehman, =
P.A. ATTORNEY AT=20
LAW 2600=20
Military Trail, Suite 270 =95 Boca Raton, Florida 33431 Phone=20
561-368-1113 =95 Fax 561-998-9557
August 20,=20
2010 Tax Planning for =
Foreign=20
Investors Acquiring Smaller ($500,000 and under) United States =
Real=20
Estate Investments This is an article about tax =
planning=20
for the non resident alien individual and foreign corporate =
investor that=20
is planning for smaller size investments in United States real =
estate --=20
"The Foreign Investor" click=20
here to read full article
U.S. Taxation of Foreign Investors =
The following =
narrative=20
outline is intended to provide the foreign investor, both =
corporate and=20
individual, with a basic introduction to the tax laws of the =
United States=20
as they apply to that foreign investor. BROWSE DIGITAL =
ENGLISH=20
VERSION - click here
Download entire outline in (.pdf) format in these=20
languages:
English =
| French=20
| German | =
Italian
Spanish =
| Chinese |=20
Arabic=20
| Russian
By =
Richard S.=20
Lehman Esq.
1. =
U.S. Taxation=20
of Foreign Corporations And Nonresident Aliens General=20
Rules
2. Tax =
Planning=20
Before Immigrating to the U.S.
3. Tax =
Planning=20
for the Foreign Real Estate =
Investor
INTRODUCTION
The United =
States has=20
long been a safe haven for foreign investors. Now it has become =
not only a=20
safe haven for foreign investors, it has also become a nation that =
has=20
myriad real estate and business assets all available for =
acquisition at=20
bargain prices due to the precipitous fall in the U.S. dollar. =
What is =
not so well=20
known is that the United States tax laws are very favorable to =
foreign=20
investment; providing at times for the payment of tax free =
interest by=20
U.S. taxpayers to foreign investors. Capital gains from investment =
may be=20
tax free or subject to tax rates of 15%, and the complex laws =
provide for=20
numerous methods of deferring the payment of U.S. taxes to a later =
point=20
in time.
At the =
same time,=20
these same laws can become tax traps for the poorly advised =
investor and=20
can cause income taxes on profits to be as high as 65% and estate=20
(inheritance) taxes to be paid on U.S. assets held at death as =
high as=20
48%.
The =
following=20
narrative outline is intended to provide the foreign investor, =
both=20
corporate and individual, with only a basic introduction to the =
tax laws=20
of the United States as they apply to that foreign investor. =
Hopefully, it=20
will let the foreign investor know that they are welcome in the =
United=20
States. More importantly, it should help the foreign investor know =
that=20
the U.S. tax laws are complex and must be dealt with in a highly=20
professional manner; if one is to avoid the tax traps and take =
advantage=20
of the many tax benefits offered by the United States.
The =
general principles=20
discussed herein are not intended to be legal or tax advice and =
taxpayers=20
should consult with their individual legal, accounting, and tax =
advisors.=20
U.S. Taxation of Foreign Investors Table of=20
Contents
I. TAXATION=20
PATTERN
II. STATUS FOR TAX=20
PURPOSES
III. TWO TYPES OF =
FEDERAL INCOME=20
TAXATION PATTERNS
IV. THE EFFECT OF =
BILATERAL=20
TREATIES
V.=20
THE BRANCH PROFITS TAX
VI.=20
PRE-IMMIGRATION PLANNING =96 INCOME TAX AND =
GAINS
VII. PRE-IMMIGRATION =
PLANNING =96=20
ESTATE AND GIFT TAX
VIII. EXCEPTIONAL =
CIRCUMSTANCES=20
AND SPECIAL TAX BENEFITS
IX. REAL ESTATE - =
TAXATION=20
PATTERN
=
X.=20
OWNERSHIP OF REAL PROPERTY
XI.=20
TAX PLANNING BENEFITS AND TRAPS UNIQUE TO THE FOREIGN INVESTOR =
IN REAL=20
ESTATE
XII.=20
THE TAX PLANNING =
STRUCTURES
I. TAXATION PATTERN=20
- United=20
States Resident Alien ("Tax Resident") - Subject to=20
Taxation
a.=20
Income Taxation - Worldwide Income b. Estate =
Taxation - Worldwide Assets c. Gift Taxation =
-=20
Worldwide Assets
- Non=20
Resident Alien - Subject to Taxation
a.=20
Income Taxation - United States Source Income, Limited type of =
Foreign=20
Source Income b. Estate Tax - United States =
Situs=20
Assets Only c. Gift Tax - Real and Tangible =
Personal=20
Property with a United States Situs
There is a =
vast=20
difference in the manner in which the United States will apply its =
income,=20
estate and gift taxes to a would-be immigrant that is considered a =
"tax=20
resident" and one that still has "non-resident alien" status. A =
tax=20
resident will be subject to U.S. incomes taxes, estate taxes and =
gift=20
taxes on a worldwide basis. Non-resident aliens will generally =
only pay=20
U.S. income tax on income earned from U.S. sources and will pay =
U.S.=20
estate taxes only on real property and tangible personal property =
in the=20
United States, and selected intangible assets.
II. STATUS FOR TAX=20
PURPOSES
- Resident=20
for Income Tax Purposes
a.=20
Green Card b. Substantial Presence=20
Test c. Voluntary Election d.=20
The Closer Connection Exception e.=20
Treaties: Tie Breaker
Nonresident=20
Alien Individuals - Income Tax A nonresident alien =
individual=20
is defined as any citizen of a country other than the United =
States who is=20
not a "U.S. resident" for U.S. income tax purposes. The general =
rule is=20
that an alien is not considered to be a U.S. resident for tax =
purposes if=20
the alien does not have (1) a green card representing permanent =
residency=20
in the U.S. or (2) a "substantial presence or time period" in the =
U.S. as=20
described below. There are exceptions to this general rule that =
will also=20
be discussed.
An alien =
individual=20
has a "substantial presence" in the United States for the calendar =
year in=20
which the alien is both physically present in the U.S. for at =
least 31=20
days and; in that same calendar year is considered to have been in =
the=20
U.S. for a combined total of 183 days or more over the past three =
years=20
pursuant to a formula.
For =
purposes of=20
calculating this combined 3 year, 183-day requirement; each day =
present in=20
the United States during the current "combined" calendar year =
counts as a=20
full day, each day in the preceding year as one-third of a day and =
each=20
day in the second preceding year as one-sixth of a day. This is =
shown on=20
the example below.
The United =
States has=20
tax treaties with many countries. These treaties generally provide =
that=20
the residents and corporations of each country to the treaty are =
entitled=20
to a more liberal tax treatment than residents and corporations of =
non-treaty countries. The concept of residency under the treaties =
is=20
different than the general definition and may permit a nonresident =
alien=20
to spend more time in the U.S. each year without being a U.S. tax=20
resident. Generally, the tax treaties will permit the alien =
individual to=20
remain a non-resident for U.S. tax purposes so long as the alien =
covered=20
by the treaty stays less than 183 days in the U.S. each separate =
year: and=20
not over the cumulative three year period.
This same =
type of=20
treatment, that of permitting aliens to have an extended stay in =
the U.S.=20
of less than 183 days in each year without becoming a U.S. tax =
resident,=20
is also available to certain aliens that are not from countries =
governed=20
by a U.S. tax treaty. If an alien has provable close business and =
social=20
ties to his or her native country; the substantial presence test =
is=20
extended due to their "closer connection" to a foreign country =
than to the=20
U.S.
Foreign=20
Corporation - Income Tax A foreign corporation is a =
recognized=20
separate taxpayer for U.S. tax purposes. A foreign corporation for =
U.S.=20
tax purposes, is a corporation that is not organized under the =
laws of the=20
United States or any one of the states of the United States. A =
foreign=20
corporation=92s articles of incorporation will reflect whether it =
is a=20
foreign corporation or a U.S. domestic corporation.
III. TWO TYPES OF FEDERAL INCOME TAXATION =
PATTERNS
U.S. Taxpayers=20
(Citizens and Resident Aliens) As a general rule, U.S. =
domestic corporations and United States citizens and residents are =
taxed by the U.S, on their worldwide net =
income=20
regardless of the source of the income. Exceptions to this rule =
exist only=20
to prevent "double taxation" of foreign income earned by U.S. =
individuals=20
and Companies abroad. Double Taxation is prevented by allowing =
U.S.=20
taxpayers to obtain a credit against their U.S. tax for foreign =
taxes paid=20
on that same income.
Foreign=20
Taxpayer Foreign Taxpayers (both alien individuals =
and=20
foreign corporations), however, pay U.S. tax on U.S. income in two =
entirely different ways depending upon whether the income the =
Foreign=20
Taxpayer earns is from "passive" sources or whether the income =
results=20
from the Foreign Taxpayer=92s conduct of an active trade or =
business in the=20
U.S.
Furthermore, the U.S.=20
tax rules for Foreign Taxpayers take into account the fact that =
the=20
jurisdiction of the United States can extend just so far. =
Therefore, as a=20
general rule a Foreign Taxpayer will only pay U.S. tax on their =
"U.S.=20
Source Income" and not on income earned from outside of the United =
States.=20
There are however exceptions.
In order =
to understand=20
the two different types of taxation, it is important to examine =
the=20
general rules that define whether a Foreign Taxpayer is conducting =
an=20
"active business in the U.S." or a "passive investment" as well as =
the=20
rules governing "source of income" and the "source of deductions". =
These=20
definitions determine which one of the two sets of tax rules must =
be=20
applied in order to calculate the U.S. tax liability of foreign=20
corporations and nonresident alien investors.
- Source of=20
Income Rules
a.=20
U.S. Source Income b. Foreign Source=20
Income c. Deductions
There are a strict =
set of=20
rules that govern the determination of whether income finds its =
source in=20
the United States or a foreign place for U.S. tax purposes. They =
are as=20
follows:
1.=20
Compensation for personal services. The source of =
income from=20
the performance of personal services is located at the place =
where the=20
services are performed. 2. Rents and =
royalties. Rent=20
or royalty income has its source at the location, or place of =
use, of=20
the leased or licensed property. 3. Real Property =
Income and=20
Gain. Income and gain from the rental or sale of real =
estate=20
has its source at the place where the property is=20
situated. 4. Sale of personal property.=20
Historically, gain from the sale of personal property has been =
sourced=20
at the "place of sale" which is generally held to be the place =
where=20
title to the goods passes; however the rules have become more =
complex=20
taking other factors in place. 5. Interest. =
The=20
source of interest income is generally determined by reference =
to the=20
residence of the debtor; interest paid by a resident of the =
United=20
States constitutes U.S. source income, while interest paid by =
foreign=20
residents is generally foreign-source income. 6.=20
Dividends. The source of dividend income generally =
depends on=20
the nationality or place of incorporation of the corporate =
payor; that=20
is, distributions by U.S. corporations constitute =
domestic-source=20
income, while dividends of foreign corporations are =
foreign-source=20
income. There are, however, several important exceptions to =
these=20
rules. 7. Partially Within and Partially =
Without.=20
There is a set of source rules that consider the sources of =
income that=20
can be partially earned in the U.S. and partially from foreign =
sources=20
such as income from transportation services rendered partly =
within and=20
partly without the United States; income from the sale of =
inventory=20
property "produced", "created", "fabricated", "manufactured",=20
"extracted", "preserved", "cured", or "aged" without and sold =
within the=20
United States or vice versa, and several other types of income.=20
Generally, this is done on some type of allocation basis between =
the=20
source countries.
Source of=20
Deductions The source rules for deductions are =
considerably=20
less specific than those dealing with gross income. The rules =
regarding=20
claiming deductions against U.S. income earned by a Foreign =
Taxpayer=20
merely provide that taxable income from domestic or foreign =
sources is to=20
be determined by properly apportioning or allocating expenses, =
losses, and=20
other deductions to the items of gross income to which they=20
relate.
- Taxation of=20
Passive (Non Business Income)
a.=20
30% Flat Tax Rate =96 Gross Income b. =
Withholding=20
obligations
- The=20
Taxation of Passive Income
If the income that a =
Foreign=20
Taxpayer earns is passive in nature and does not result from the =
Foreign=20
Taxpayer conducting an ongoing "trade or business"; the Foreign=20
Taxpayer=92s U.S.-source investment income is taxed at a flat 30 =
percent=20
rate (with no deductions). Generally, the passive types of =
income earned=20
by investors are such things as interest, dividends, royalties =
and other=20
periodic payments that arise from the licensing of trademarks, =
goodwill=20
and numerous types of intellectual property. Foreign Investors =
that earn=20
only passive U.S. income are also generally not subject to tax =
on=20
capital gains and other nonrecurring U.S.-source =
income.
Since as=20
a general rule Foreign Taxpayers earning passive income in the =
U.S. have=20
only limited ties to the U.S.; a tax "withholding system" is in =
place.=20
This system essentially forces the U.S. person that is paying =
the=20
passive income to a Foreign Taxpayer to collect the tax that is =
due and=20
pay it to the United States. Failure to do so can result in the =
U.S.=20
person that is responsible to withhold this tax being personally =
responsible for the tax.
- Taxation of=20
Active Trade or Business Income
a.=20
Graduated Corporate Tax Rates b. =
Graduated=20
Individual Tax Rates c. Effectively =
Connected=20
Income
Of central =
importance=20
to the U.S. taxation of Foreign Taxpayers is whether the foreign =
persons=20
are engaged in a trade or business and, if so, whether the trade =
or=20
business is located within the United States. Foreign Taxpayers =
engaged in=20
a trade or business are taxed on their U.S. source income in the =
same=20
manner as U.S. citizens, tax residents and domestic corporations. =
That is=20
they are taxed on their taxable U.S. source income after allowable =
deductions at graduated tax rates.
Whether =
the Foreign=20
Taxpayer is considered to be engaged in a trade or business within =
the=20
United States depends on the nature and extent of the taxpayer=92s =
economic=20
contacts with the United States. It is clear that the entire =
business=20
operation need not be centered in the United States.
The =
difficult question=20
is, how much of the business functions must be located in the =
United=20
States in order to create a U.S. trade situs?
A fully =
integrated=20
enterprise that manufactures and sells its total output in the =
United=20
States, and is managed and controlled in the United States, is =
clearly a=20
U.S. trade or business.
At the =
other end of=20
the spectrum, is the wholly foreign enterprise that merely ships =
products=20
to customers in the United States, but has no other economic =
contact with=20
the United States engaged in a U.S. trade or business. Between =
these two=20
extremes, however, the presence of a U.S. business situs has to be =
determined on a case-by-case basis, to identify the point at which =
mere=20
business with the United States crosses the line and becomes =
business=20
within the United States.
As a =
general rule, the=20
more deeply a foreign corporation becomes enmeshed in the economic =
and=20
commercial structure of the United States, the more likely it will =
be=20
found to have established a trade or business in the United =
States.=20
Income Effectively Connected with a U.S.=20
Business Unlike a Foreign Taxpayer that is =
taxed on=20
passive U.S. source income only; income of a Foreign Taxpayer that =
conducts a trade or business in the U.S. will pay tax on all of =
its United=20
States source income and in limited circumstances, U.S. tax must =
be paid=20
on income that is earned from foreign sources and not U.S. =
sources.=20
Foreign source income that is attributable to a
Foreign =
Taxpayer=92s=20
U.S. trade or business activity maybe taxed by the U.S. and is =
called=20
"Effective Connected Income".
Whether =
non-U.S.=20
source income earned by a Foreign Taxpayer is taxed as "trade or =
business"=20
income is determined by how closely the income is attributed to =
the=20
Foreign Taxpayer=92s U.S. trade or business.
In =
addition to certain=20
foreign source income being subject to U.S. tax; U.S. passive =
source=20
income may be taxed like trade or business income, if it is =
considered to=20
be "effectively connected income."
It is =
possible that at=20
times, U.S. source passive type income will be subject to a tax on =
net=20
income and not the usual 30% tax that is applied to gross income. =
For=20
example, though interest income is normally considered "passive =
income";=20
it is "active business income" to a Foreign bank that holds =
deposits and=20
conducts business in the U.S. Therefore, interest earned on such =
deposits=20
would not be taxed at a flat rate. Rather it is taxed on a =
progressive=20
rate that permits offsetting deductions for the foreign bank=92s =
cost of=20
funds and other costs of doing business in the U.S.
IV. THE EFFECT OF BILATERAL TREATIES
Bilateral Tax=20
Treaties The role of bilateral tax treaties in the =
taxation of=20
Foreign Taxpayers on their U.S. source income is frequently of =
even=20
greater importance than the basic statutory general rules just =
mentioned.=20
Tax treaties between the U.S. and other countries can operate to =
(1)=20
reduce (or even eliminate) the rate of U.S. tax on certain types =
of U.S.=20
income derived by Foreign Taxpayers situated in the treaty-partner =
country; (2) override various statutory source of income rules (3) =
exempt=20
certain types of income or activities from taxation, by one or =
both=20
treaty-partner countries; and (4) extend credit for taxes levied =
by one=20
country to situations where the domestic law would not so=20
provide.
The =
principal purpose=20
of the U.S. bilateral tax treaties is to avoid the potential for =
double=20
taxation arising from overlapping tax jurisdictions (e.g. income =
source=20
arising in one country while the taxpayer is resident in the other =
country.)
V. THE BRANCH PROFITS TAX
The Branch=20
Profits Tax There is an additional tax that foreign=20
corporations must be aware of. This is a major trap for the =
unwary. Absent=20
the tax benefits of an applicable United States tax treaty; a =
Foreign=20
Corporation may be subject to not only the combined Florida and =
Federal=20
income tax approaching 40%; but depending upon the facts and=20
circumstances, foreign corporations with earnings from United =
States=20
investments could be subject to an additional United States tax =
known as=20
the Branch Profits Tax. The 30% tax is applied to U.S. income that =
is=20
either not distributed as a dividend or reinvested in U.S. assets =
by the=20
Foreign Corporation.
Tax Planning Before =
Immigrating=20
to the U.S. Safeguarding The =
Immigrant's=20
Financial Interests Prior to Tax=20
Residency |
VI. PRE-IMMIGRATION PLANNING =96 INCOME TAX AND =
GAINS
- Objective =96=20
Minimize United States Gains and Income Tax =
a.=20
A nonresident alien, prior to becoming a U.S. tax resident will =
want to=20
make sure that he or she does not have to pay a U.S. tax on =
money that=20
as a practical matter, was earned before their residency=20
period.
A key =
strategy=20
therefore, is to accelerate gains prior to residency so that =
gains=20
earned while one was a nonresident alien are not subject to U.S. =
tax=20
after residency is obtained. An example of acceleration would be =
to=20
trade securities with unrealized gain and sell them before =
residency.=20
There would be no tax on the gain and the shares can be =
repurchased with=20
a new high cost basis.
Assume a nonresident alien owned =
$1.0=20
million dollars worth of shares of Ford Motor Company that was =
purchased=20
for $100,000. If the shares are sold after U.S. tax residency is =
assumed, there will be a tax on $900,000 in gains. A sale of =
these same=20
shares by a Nonresident before obtaining U.S. income tax =
residency would=20
result in no taxable gain.
b. Another =
key=20
strategy is to accelerate income that is expected to be paid =
after=20
residency. Payments should be collected prior to residency. =
Examples of=20
income acceleration:
1. =
Exercise stock=20
options 2. Accelerate taxable distributions from deferred=20
compensation plans 3. Accelerate gains on Notes held from=20
installment sales
c.=20
One can also defer recognizing a loss until after obtaining =
residency so=20
that it can be used against post residency gain. Assets with a =
fair=20
market value below cost can be sold after=20
residency.
VII. Pre Immigration =
Planning =96 Estate=20
and Gift Tax
- Residency=20
for Estate and Gift Tax Purposes=20
A =
nonresident alien=20
individual can be subject to the United States estate and gift =
taxes.=20
However, nonresident aliens are subject to U.S. estate and gift =
taxes=20
only on assets situated in the U.S.
The definition of=20
nonresidency for estate and gift tax purposes is completely =
different=20
than the definition of residency for income tax purposes. A =
nonresident=20
alien for estate and gift tax purposes is an individual whose =
"domicile"=20
is in a country other than the U.S. Domicile is a subjective =
test based=20
on one=92s intent of permanency in a country.
- Objective-Minimize =
United=20
States Estate Tax
a.=20
Key strategy is to minimize assets in one=92s estate before =
obtaining=20
residency status; and where possible to retain some degree of =
control=20
over assets.
b.=20
Planned gifts to third parties should be made prior to=20
residency.
c.=20
Planned gifts of United States Situs =
Property
1. =
Tangible=20
Property - Physical Change of Situs to a Foreign Situs Before =
Gift is=20
made. 2. Real Estate - Contribution to foreign corporation =
and gift=20
of stock in foreign corporation.
d.=20
Transfers in Trust for Beneficiaries
VIII. EXCEPTIONAL=20
CIRCUMSTANCES AND SPECIAL TAX BENEFITS
a.=20
A foreign student who has obtained the proper immigration status =
will be=20
exempt from being treated as a U.S. resident for U.S. tax =
purposes even=20
if he or she is here for a substantial time period that would =
ordinarily=20
result in the student being taxed as a U.S. resident.
b.=20
This student visa not only permits the student to study in the =
United=20
States but to pay taxes only on income from U.S. sources not =
worldwide=20
income. The visa also permits the student=92s direct relatives =
to=20
accompany the student to the United States and receive the same =
tax=20
benefits.
c.=20
Assume the student, a South American woman aged 40, is married =
to an=20
extremely successful South American businessman who accompanies =
her with=20
their two children to the U.S. His annual income is $1.0 Million =
and is=20
earned from the banking business in Columbia. He earns no U.S. =
income.=20
Under those circumstances, for U.S. income tax purposes, this=20
businessman is exempt from U.S. tax on his worldwide income =
while living=20
full-time in the U.S. for less than five calendar=20
years.
a.=20
Aliens that are governed by a tax treaty can generally spend =
more time=20
in the U.S. than an alien not covered by a treaty before being=20
considered a resident alien for tax =
purposes.
TAX PLANNING FOR THE FOREIGN REAL ESTATE=20
INVESTOR Tax Benefits and Tax=20
Traps |
IX. Real Estate - TAXATION PATTERN
U.S.=20
Taxpayers
- U.S.=20
Citizens, Resident Aliens and Domestic Corporations=20
- Real Estate Income =
Subject to=20
Taxation
a. Income=20
Taxation =96 Worldwide Income b. Estate =
and Gift=20
Taxation (Individuals only) =96 Worldwide=20
Assets
Foreign=20
Taxpayers
- Nonresident Aliens and =
Foreign=20
Corporations
b. =
Capital Gains=20
Taxation
- Alien=20
Individual =96 Individual Tax Rates=20
- Foreign=20
Corporation =96 Corporate Tax Rates
c. =
Estate=20
Taxation
- Alien=20
Individual Residency for Estate Tax Purposes
- U.S. Real=20
Property, U.S companies holding U.S. Real Property and the =
U.S.=20
estate and gift taxes
d. The =
Branch=20
Profits Tax (Foreign Corporation=20
Only)
Income=20
Tax Income derived by a Foreign Taxpayer from United =
States=20
real estate has its own unique taxation pattern that is different =
in many=20
instances from other types of income earned by the Foreign =
Taxpayer. A=20
Foreign Taxpayer will generally pay income tax like a United =
States=20
investor on its real estate income and the Foreign Taxpayer will =
pay tax=20
on capital gains derived from a sale of United States real =
property like=20
the U.S. taxpayer.
Capital=20
Gains Like the U.S. taxpayer, in the event of real =
estate=20
capital gains, there is a distinct benefit between capital gains =
earned by=20
a nonresident alien individual who will be taxed at the lower =
long-term=20
capital gains rate of 15%, and the capital gains earned by a =
foreign=20
corporation that might carry a Florida state and Federal income =
tax on the=20
same gain approaching 40%.
Estate/Gift=20
Taxes A nonresident alien individual can be subject to =
the=20
United States estate and gift taxes. However, non- resident aliens =
are=20
subject to U.S. estate and gift taxes only on assets situated in =
the U.S.=20
U.S. real estate is one of the items that is subject to U.S. =
estate and=20
gift taxes.
The Branch Tax There is an=20
additional tax that foreign corporations must be aware =
of. This=20
is a major trap for the unwary. Subject to the provision of a =
potentially=20
applicable United States tax treaty; a foreign corporation may be =
subject=20
to not only the combined Florida and Federal income=20
tax approaching 40%. Foreign corporations with earnings =
from United=20
States real property investments could be subject the additional =
United=20
States Branch Tax of 30%.
X. OWNERSHIP OF REAL =
PROPERTY
- How =
Should the=20
Foreign Investor Hold U.S. Property =96 Alien Individual =
Ownership,=20
Partnerships, Limited Liability Companies and Foreign and =
Domestic=20
Corporations
a. Capital Gains=20
Benefits b. =
Ordinary Income=20
Taxes c. Estate =
Tax=20
Burdens
An alien =
individual=20
may conduct his or her real estate business in the United States =
as an=20
individual owner of real property, as a partner in a partnership, =
as a=20
member of a limited liability company or as a shareholder of a =
corporation=20
either foreign or domestic.
Individual=20
Ownership and Ownership by Pass Through Entities =
Individual=20
ownership or the use of a limited partnership or limited liability =
company=20
does generally provide the best income tax results. This is =
because both=20
partnerships and most (but not all) limited liability companies =
("Pass=20
Through Entities") pass all of their U.S. tax attributes to their=20
individual owners directly;as if the entity does not exist for tax =
purposes. The long-term capital gains rate for a nonresident alien =
individual will be at a maximum of 15%.
Individual =
or pass=20
through entity ownership has its income tax benefits but has =
several=20
drawbacks. The conduct of the real estate business through =
anything other=20
than the typical corporation will not accomplish the goal of =
Foreign=20
Investor anonymity.
Ownership =
individually=20
or through Pass Through Entities require the Foreign Taxpayer =
Owner to=20
file a U.S. tax return. Furthermore, a nonresident alien=92s individual ownership or pass through ownership of =
U.S. real=20
property will also most likely subject the nonresident alien to a =
U.S.=20
estate tax on the equity value of the real property. The =
individual=20
Foreign Taxpayer may at times be forced to trade off the income =
tax=20
benefit versus these other exposures.
Corporate=20
Ownership The ordinary income rates and capital gain =
rates of=20
a corporation are the same. Therefore, both ordinary income and =
capital=20
gain earned by a corporation can be subject to a U.S. and =
individual state=20
tax rate approaching 40%; as compared to the 15% capital gain rate =
paid by=20
a nonresident individual owner.
Furthermore, the=20
payment of dividends by a corporation to its nonresident =
shareholder might=20
be subject to an additional U.S. withholding tax on dividends. =
However, ownership of U.S. real property through =
the=20
corporate form will insure that individual tax returns do not need =
to be=20
filed by the individual Foreign Investor.
Often with =
proper tax=20
planning, the tax barriers of corporate ownership of real estate =
can be=20
significantly reduced.
XI. TAX PLANNING BENEFITS AND TRAPS UNIQUE =
TO THE=20
FOREIGN INVESTOR IN REAL ESTATE
- Tax =
Treaties=20
- Liquidation of=20
Corporation
a. The =
Problems of=20
Double Taxation b. Foreign Investors =96 =
Payment of a=20
Single U.S. tax
- Portfolio=20
Interest
a. Tax =
Free U.S.=20
Income b. U.S. Interest=20
Deductible c. The Restrictions on Portfolio=20
Interest d. Planning =
Techniques
- Sale of =
Foreign=20
Corporate Stock
a. Tax=20
Benefits b. Practical =
Applications=20
Once the =
form of=20
ownership is determined there are several additional planning =
tools that=20
may be specifically helpful to the Foreign =
Taxpayer.
Tax=20
Treaties As mentioned previously, a primary planning =
tool=20
available to certain Foreign Taxpayer is their ability to rely on =
a United=20
States tax treaty that may exist with the Foreign Taxpayer=92s =
host country.=20
This type of tax treaty will assure that there is no double =
taxation=20
between the two countries.
Income =
will only be=20
taxed at the maximum highest rate of both countries. Treaties may =
also=20
provide for the prevention of double taxation under the estate tax =
laws of=20
the two countries, reduce or eliminate the Branch Tax and =
generally reduce=20
United States taxes on the Foreign Investor=92s interest, =
dividends and=20
business income that are earned from U.S. sources.
A =
Single U.S.=20
Tax Even without treaty benefits, Foreign Taxpayers =
investing=20
in the United States in corporate form can ensure that there will =
be no=20
dividend or Branch tax on income earned from United States real =
property=20
by a corporation.
So long as =
a corporate=20
entity sells or distributes all of its real estate assets and pays =
a U.S.=20
corporate tax on gain; it may be timely liquidated and distribute =
all of=20
the sales proceeds free of any further tax. This can avoid a =
second U.S.=20
tax by the Foreign Taxpayer since the distributions from the =
Corporation=20
that are liquidation proceeds and not dividends, are excluded from =
further=20
U.S. taxes.
Portfolio Interest Another =
planning=20
tool permits Foreign Taxpayers, both corporate and individual, to =
benefit=20
from the fact that they are permitted to earn tax-free=20
interest income on certain loans to support U.S. real =
estate=20
investments. By taking advantage of and meeting the requirements =
of the=20
"portfolio interest rules", the Foreign Taxpayer may earn tax-free =
interest instead of taxable real estate profits or =
dividends.
Sale of=20
Stock/Foreign Corporation U.S. taxes on real estate =
profits=20
can be totally eliminated in rare occasions in which a real estate =
buyer=20
is willing to acquire a Foreign Taxpayer=92s shares in a foreign =
corporation=20
that owns U.S. real estate. A Foreign Taxpayer may form a foreign=20
corporation to own United States real estate. Gain=20
from the sale of shares of stock in that foreign corporation by =
the=20
Foreign Taxpayer generally is not =
subject to=20
tax; even if the foreign corporation owns U.S. real estate. =
Due to=20
its many complexities, this technique is applicable only in very =
limited=20
situations and is not considered to any degree in this =
outline.
XII. THE TAX PLANNING STRUCTURES
- Specific Tax=20
Planning Entities for Nonresident Aliens and Foreign Corporate =
Real=20
Estate Investors
- Objective =96=20
Minimize U.S. Income Tax, Capital Gains and Estate Tax on Real =
Estate=20
Profits. It is important to note that income tax planning and =
estate and=20
gift tax planning are often at cross purposes.
- The =
Structure =96=20
Individual or Partnership or Limited Liability Company=20
Ownership
a. Income =
Tax b.=20
Capital Gains Tax c. Estate Tax
- The =
Structure =96=20
Foreign Corporation Ownership
a. Income=20
Tax b. Estate Tax c. =
Branch=20
Tax
- The =
Structure =96 A=20
Foreign Holding Company and a U.S. =
Subsidiary
a.=20
Income Tax b. Estate =
Tax c.=20
Branch Tax
To take =
advantage of=20
any of the several unique tax benefits and avoid the traps, the =
Taxpayer=20
Investor must find the proper investment vehicle that meets the =
Foreign=20
Taxpayer=92s tax needs and his or her other personal and =
commercial needs.=20
Each Foreign Taxpayer will find that their tax structure will be =
unique to=20
them and the various tax planning techniques fit in some =
situations and=20
not others.
There are =
three very=20
basic structures that will show the different types of tax =
considerations=20
depending upon the nature of the real estate. A chart of the three =
structures and their tax attributes may be found following this=20
discussion. The cost factor of any tax planning structure must be=20
considered in advance. Generally, a transaction should be of a =
certain=20
significant size to benefit from the more complex =
structures.
Individual=20
Ownership/Pass Through Entity Individual ownership of =
real=20
property by a nonresident alien or ownership through a Pass =
Through Entity=20
results in the nonresident alien being required to file a U.S. tax =
return=20
and most likely subjects him or her to estate taxes on the real =
property.=20
However, it is the best vehicle for income tax =
purposes.
Foreign=20
Corporate Ownership A Foreign Taxpayer investing in =
passive=20
real estate (that is not income producing, such as raw land) who =
wishes to=20
avoid estate taxes and preserve anonymity might use a single =
foreign=20
corporation to own the real estate.
The =
Foreign Taxpayer=20
should know that the capital gains earned by the foreign =
corporation from=20
the sale of the real estate could be significantly higher than =
individual=20
ownership. Since there is no annual income from passive real =
estate=20
holdings, the Branch Tax can be avoided by the liquidation of the =
foreign=20
corporation after the sale of the foreign corporation=92s real=20
estate.
Real Estate=20
Holding Company A Foreign Taxpayer involved in the =
active real=20
estate business, such as ownership of income producing property or =
development property, may as a general rule, invest in the =
following=20
fashion. The Foreign Taxpayer will form a foreign holding =
corporation that=20
then is the 100% owner of a domestic corporation such as a Florida =
corporation. The Florida corporation is the direct real estate =
owner.=20
This =
structure can=20
eliminate at least two of the three taxes that the Foreign =
Taxpayer might=20
face. Since the direct investor in the real estate is a domestic=20
corporation, it need not pay any Branch tax on its profits. Since =
the=20
Foreign Investor owns only shares in a foreign corporation, there =
is no=20
estate tax upon his or her demise. The income tax, however, is =
generally=20
unfavorable as compared to individual ownership.
# # #
Copyright =A9 2004-2010
This firm =
has had=20
extensive experience with all areas of the Internal Revenue Code =
that=20
apply to both non-resident aliens and foreign corporations =
investing or=20
conducting business in the United States, and U.S. citizens and =
domestic=20
corporations investing abroad.
Richard S. =
Lehman,=20
P.A
- Georgetown University J.D.=20
- New =
York University=20
L.L.M. Tax=20
- Law =
Clerk to the=20
Honorable William M. Fay - U.S. Tax Court=20
- Senior =
Attorney,=20
Interpretive Division, Chief Counsel=92s office, Internal =
Revenue=20
Service=20
- Author: =
=93Federal=20
Estate Taxation of Non-Resident Aliens,=94 Florida Bar=20
Journal=20
- Contributing Author=20
and Editor: International Business and Investment =
Opportunities=94 Florida=20
Department of Commerce, Division of Economic Development, Bureau =
of=20
International Development (translated in German, Spanish, and=20
Japanese)
Today=92s =
tax and=20
financial planning landscape is a complex one, undergoing constant =
change.=20
If businesses and individuals expect to make the proper moves, =
keep=20
abreast of changing legislation, and make sure that they legally =
pay the=20
least amount of taxes, they must rely on tax attorneys.
Richard S. =
Lehman,=20
P.A. has been meeting these needs when it comes to dealing with =
the=20
federal tax law for more than three decades. Thanks to a team of =
tax=20
attorneys who are familiar with every aspect of the Internal =
Revenue Code,=20
the tax needs of international and domestic clients, corporations =
and=20
individuals have been met. The firm has been involved in unique =
and=20
complex tax situations on behalf of the affluent from its=20
beginning.
Richard S. =
Lehman,=20
with four years of U.S. Tax Court and Internal Revenue Service =
experience=20
in Washington D.C., has built a boutique tax law firm with a =
national=20
reputation for being able to handle the toughest tax cases, =
structure the=20
most sophisticated income tax and estate tax plans, and defend =
clients=20
before the Internal Revenue Service. It regularly works with law =
firms,=20
accountants, businesses and individuals struggling to find their =
way=20
through the complexities of the tax law. In short, the firm is a =
valuable=20
resource to each of these audiences.
Central to =
the firm=92s=20
philosophy is the recognition that the tax laws do not exist in a =
vacuum.=20
Legal and other professional disciplines often need to be woven =
together=20
to assure a successful outcome. Consequently, the firm is =
regularly=20
approached by and often works with the finest professionals in =
many areas=20
of the law and the business world to untangle complex tax =
situations that=20
require its specialized expertise.
Regardless =
of the=20
issue, the firm has consistently guided clients on topics ranging =
from=20
complex tax scenarios in real estate, business acquisitions and =
sales,=20
securities offerings, tax contests, probate litigation and =
numerous other=20
areas of commerce.
As a sole=20
practitioner, Mr. Lehman assures each client of his personal =
attention at=20
all times.
Richard S.=20
Lehman, P.A. 2600 Military Trail, Suite 270 Boca =
Raton,=20
Florida 33431 Phone: 561-368-1113 Fax:=20
561-998-9557
|