LLC Issues for Non-U.S. Residents

Recently we had the privilege of working with a property management group who specialize in non-U.S. real estate investment. In other words, they sell U.S. real estate to investors who live outside of the U.S. That led to some interesting discussions on the tax and legal issues facing non-U.S. investors.

As an offshore investor, do you even need to worry about using a business structure?

The first question is whether or not you need to be concerned about using a business structure at all. And that depends, really on your own circumstances. You’re outside the country, so it’s unlikely that a creditor is going to spend the extra time and money to pursue your personal assets that aren’t located in the U.S. But the more assets you have in this country, the more beneficial it will be for you to have them held in one or more business structures.

From a tax perspective, there are advantages to each of the following methods:

The Direct Ownership Option

There are two options with direct ownership of real estate. You may choose to obtain an ITIN (International Taxpayer Identification Number) and voluntarily file in the U.S. tax system. This would allow you to take all deductions on the income allowed to U.S. resident taxpayers, and would put you into the same tax bracket as U.S. resident taxpayers. FIRPTA rules apply (see below) on a subsequent sale of the property.

You can choose to not enter the U.S. tax system at all, and simply hold the property personally. In this case, a property management company looking after the real estate would be required to hold back 30% from all payments made to you. Failure to withhold could result in the property management company becoming liable for unpaid taxes. FIRPTA rules would apply on a subsequent sale of the property.

Holding Real Estate in a U.S. Limited Liability Company (LLC)

With the LLC option, you could establish an LLC as a flow-through entity – also called a ‘disregarded’ entity for tax purposes. To make this work, you would need to apply for an ITIN – International Taxpayer Identification number. With that, you could file a U.S. non-resident tax return, on IRS Form 1040NR. The real estate would be reported the same way it would be for domestic, resident U.S. taxpayers. If you’re married and you and your spouse both own the LLC, you will both need to apply for an ITIN, and each of you will need to file a non-resident return.

The rental income generated by the real estate property will be considered Effectively Connected Income (ECI). It will be taxed at regular U.S. individual tax rates, on the same sliding scale available to U.S. residents. After accounting for depreciation and other deductions, there may be little, if any, reportable income.

On the sale of the property, FIRPTA (Foreign Investment in Real Estate Property Act) treatment would apply. A purchaser would be required by law to withhold 10% of the fair market value of the property. In addition, you will also have U.S. federal capital gains tax on the sale, at the then-applicable rates. However, because a disregarded LLC is transparent for tax purposes, you should be able to report the gain recognized in your home country as personal gain, and not income derived through a corporation.

The C Corporation Option

The C Corporation option has been a traditional option for non-U.S. shareholders, mostly because it simplified the process for the U.S. company. Once the U.S. return has been filed, there is little additional tax reporting for the entity in the United States. However, it is not as advantageous for you, when reporting the income back to your home country, as the same access to tax treaties and ability to take foreign tax credits may not apply.

The option you choose, as a non-U.S. investor, needs to be carefully weighed, and probably discussed with a tax professional in your home country. As a foreign investor, your big question is: how will the rental income be treated when it gets to your home in both instance (i.e., as personal direct income, or income received through a corporation). And, just as important (or perhaps even more important), how with the gain on sale income be treated?

There are many variables when you’re structuring a business. That’s why it’s hard to go through a quick-service website. Unless you talk to someone who’s got some knowledge and experience on both the tax and the legal side, it’s hard to know what you don’t know. And that can leave you vulnerable.

Got questions? Contact us! We’re here for you.

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