NONRESIDENT US PROPERTY INVESTOR TAX GUIDE
The Federal Tax Implications of Purchasing an Investment Property in the United States
When a Nonresident Investor purchases a property in teh Unioted States as an individual, through an LLC, partnership or corporation and rents the property for more than 14 days in a year they are subject to the tax obligations to the IRS.
In the first year of your investment you will be required to
1. Apply for an ITIN Tax ID number
2. Prepare a W-8ECI
3. File a 1040NR Federal Non-Resident Income Tax Return
However there is good news. Based on our experience as long as you file a timely tax return and keep your tax affairs in order, it is unlikely that you will pay any income taxes as a first time investor owning one (1) investment property in the United States.
Your first task once you have completed your purchase is to apply for your Tax ID number. This is very important as without it you will be subject to the 30% Withholding Tax Rule explained below.
We would recommend that you use a “Certifying Acceptance Agent” to assist you in applying for an ITIN
The Certifying Acceptance Agent will ensure that you are in full compliance with the IRS guidelines and will be able to communicate directly with the IRS on your behalf.
Further the Certifying Acceptance Agent will be able to certify your ID documents which will mean that you will not be required to send your original ID documents to the IRS (usually your passport) or alternatively have them certified by the issuing agency which in many countries is not possible or a US Embassy or consulate.
The 30% Withholding Rule
As a non-resident if you do nothing you will be taxed at a flat rate of 30% of the gross income.
THIS IS NOT RECOMMENDED!!!
Unless you provide your property manager with a correctly completed and signed W-8ECI Form, the IRS expects your Management Agent to act as its Withholding Agent and collect this tax on their behalf.
By completing the W-8ECI Form you claim that your income is effectively connected with the conduct of a business in the United States, and state that you will be filing a tax return.
By filing the W-8ECI you are no longer subject to the 30% withholding and can avoid the flat 30% tax rate.
You will file a tax return make the correct elections and will then be able to claim all of the expenses associated with the property as deductions along with depreciation when calculating your net taxable income and tax liability.
In order to complete the W-8ECI form you will need to have obtained your ITIN number.
As long as you provide the management agent with the W-8ECI in a timely fashion before they have to send the funds to the IRS they will be able to release any funds that they have withheld up to that point and make a full distribution to you.
1040NR Federal Nonresident Income Tax Return
Please note that each legal owner of the property even if they are married will be required to file an individual income tax return as nonresident aliens cannot in most circumstances file an MFJ return.
The US tax year runs on a calendar basis, and income is taxed on a graduated scale. The deadline for filing a nonresident tax return is June 15th
From our experience most investors of one (1 )investment property are unlikely to pay any income taxes as they are able to offset any running costs associated with the property including management fees, HOA fees, real estate taxes, repairs and maintenance, professional fees, insurance, mortgage interest and an allowance for depreciation against their income.
They are also entitled to claim a personal exemption which means that they will not pay federal income taxes on the first $4,050(2016 Rate) of their net income.
However as described above if you fail to fulfill your federal income tax obligations and do not file your return in a timely fashion the IRS may disallow the expense deductions and tax you at the flat 30% tax rate.
In addition to standard income taxes you should also be aware. When you come to sell your property you will be subject to capital gains tax on the capital gains that you make on the sale of the property. It should be noted that the majority of our clients end up with a 0% effective captal gains tax rate due to the application of the current tax code.
State, Municipal/County Income Taxes
In addition to Federal Income Taxes most States in the US also have their own income tax system. In those states that have their own income tax system you will also be required to file a State Income Tax return.
The deadline for the State Income Tax return is the same as the Federal Income Tax return.
In general the same deductions and exemptions are allowed on the State Tax returns as the Federal Tax return but some differences do occur.
As well as the State Income Tax system some states also have a Municipal or County Income Tax System where these apply you will need to file a municipal or county income tax return. Often the deadlines, exemptions and the tax rates applying to these tax returns are different.
Please use the contact form below to contact us for a free consultation to discuss which of these taxes may apply to your investments and what adjustments will be need to be made to the Federal declared income.
Finally when you sell your property you may also be subject to capital gains tax at the State and Municipal tax level.
All property owners in the US are required to pay Property/Real Estate Taxes these taxes fund education and local services within the community that the property is located. The taxes are not related to income but are based on the appraised value of your property. The owner/investor is responsible for these taxes and not the tenant so you should ensure that they are paid and up to date to avoid any issues and potential repossession of your investment property.
FIRPTA – Foreign Investment in Real Property Tax Act
As a US nonresident when you come to sell your property you will be subject to FIRPTA. In simple terms when you sell your property the IRS will require your Settlement Agent/Attorney to withhold 15% of the contract price(subject to certain exemptions). This is done to ensure that you fulfill all of your US Tax Obligations before your funds are repatriated out of the US.
The 15% is considered by the IRS as an estimated tax payment to cover any outstanding Capital Gains or Income Tax liabilities you may have on disposal of the property.
Any withholding tax which is in excess of your final tax liability will be refunded either
1. As part of the settlement process if an 8288B is filed with the IRS prior to the sale.
2. When you complete your annual tax return for the year in which the sale takes place.
For more details please contact us using the form below or review the FIRPTA section of our website.
Should I Invest as an Individual or Through an LLC?
Whether an LLC is the right structure for your investment is always a personal decision based on your assessment of the risks of ownership and your need to segregate your personal assets from your investment property. The LLC’s most important benefit is the liability protection that it provides.
Many owners like to operate under an LLC because their personal assets are not at risk if an accident or other incident occurs within their rental property. Generally, all that is at stake in a lawsuit against an LLC are the assets held within the LLC. Often owners of multiple properties split them into separate LLC’s to segregate their liability.
LLC’s also allow for flexible profit distribution among their members and although a corporation could provide the same level of personal asset protection the LLC is more simple to run and less expensive to maintain.
From a tax perspective the LLC is classified by the IRS as a "pass-through" entity, this means its income is passed through to you as the owner and is taxed on your individual tax returns.
Holding your property in an LLC will incur additional costs. There will be fees to set up and maintain the LLC but underlyingly they provide a financial peace of mind somewhat like an insurance policy.
The information above gives a broad outline of the potential US tax implications of your US Property Investment. For specific information regarding your own personal circumstances please contact us using the form below for a free no obligation consultation.