Articles Posted in Directs

Despite the IRS “ordering” over 10,000 employees back into IRS offices a couple weeks ago, it appears many IRS employees have respectfully declined to follow this IRS directive. Recall on April 27, the IRS ordered its “mission critical” employees back into the IRS offices. This request for employees to return to the IRS offices came only about a month after the IRS ordered most of its employees out of the IRS offices. In late March, the IRS, which employs around 75,000 people across the country, sent many workers home as a precaution against the spread of Coronavirus. Around 44,000 started working from home, with around 30,000 or so continuing to be paid but not working. And then on April 27th, the IRS “ordered” around 10,000 employees (presumably amongst the group not already effectively working from home) to go back into the IRS offices, however a closer look at that “order” reveals the IRS merely requested the employees to go back to work in various IRS offices, and tried to tantalize them back into the offices with incentive pay.  Not surprisingly, the offer of a little extra incentive pay does not appear to have done the trick, and apparently many IRS employees declined this order/request. Of course it didn’t help that the IRS did not even have face masks (at all its offices…it did have them at some) to give to its employees for their safety in this terrible time of Coronavirus.

Now over two weeks after the April 27 “order”,  it appears that the IRS still needs many more “volunteers” to return to work in their IRS offices. It’s unclear if the IRS is offering extra incentive pay (above what they offered in the first go-around, which was reported to be a bump of between 10% to 25% of base salary for the near-term) to further entice the employees who have decided not to return. But my guess is even extra incentive pay is unlikely to do the trick for many IRS employees. IRS Commissioner Chuck Rettig told congressional staff late last month that 100 IRS employees had contracted Coronavirus, and four had died. Would an IRS employee (or anyone for that matter) really want to go back into a cramped IRS office when they were already being paid their full salary (and in many cases not actually being required to work for their full salary) during the Coronavirus pandemic? Compliments to them if they do, but I doubt many are retuning (even with incentive pay). The IRS is probably going to have to order them back into their offices (a real order, not a request) in order to complete all the tax refund work in 2020, and such an order may not be easy to issue or enforce.

Our work at DIRECTS focuses exclusively on foreign sellers of US real estate and their tax refunds from 2019 (or earlier) sales of US real estate, or withholding certificate applications for 2020 sales, or procuring ITIN’s (Individual Taxpayer ID Numbers) for the foreign sellers. Although we assist foreign investors selling real estate throughout the entire United States, the majority of the foreign sellers we assist are selling US real estate in California (for example Los Angeles, San Gabriel Valley, Orange County and the Palm Springs area are big hotspots for foreign investment in real estate). We rely heavily on two IRS offices (in particular) to function at high efficiency. The most important IRS office for FIRPTA (foreign seller tax) work is the IRS office located in Ogden, Utah, where the IRS’ “FIRPTA Unit” is located. This is the office that reviews our withholding certificate (8288-B) applications. The other office we rely heavily upon is the IRS office in Austin, Texas, where the IRS processes both ITIN requests and tax return/ withholding tax refund requests. Both offices appear to be having significant challenges in terms of bringing back employees into the IRS offices, largely because of local conditions and/or local stay-at-home ordinances. You can see the challenge for the IRS higher officials looking to get the refunds back on track- how can we order our employees back in the offices when local stay-at-home orders (see for example the May 8th Austin, Texas stay-at home order, which was extended despite the State of Texas lifting its stay-at-home order on May 1st) are keeping the general population at home for safety reasons?

Following up on DIRECTS’ most recent blog post, where I discussed the concerning issue of IRS employees who had become frightened to go into the (cramped) IRS offices and do work which I really believe can only be accomplished in their offices, the story has taken a profound and potentially confrontational turn. Starting Monday (April 27), the IRS has ordered its “mission critical” employees back into the IRS offices. To reassure the employees (I guess), the IRS is requiring PPE to be utilized at all times within the IRS offices, but the IRS may not be able to provide such PPE to the employees. A leaked IRS internal memo suggests the employees consider “utilizing cloth face coverings fashioned from household items or made at home from common materials at low cost” if they have no other PPE available. Ugh. The head of the Treasury Employees Union stated “the initial wave [of employees returning to the IRS offices] will include about 10,000 employees at 10 locations who will be opening taxpayer correspondence, handling tax documents, taking taxpayer telephone calls and performing other functions related to the filing season.” At least some employees are being offered incentive pay, and (at this point) the employees are not being forced to return (they are permitted to turn down the order to return to the office). Many IRS employees had been permitted to work from home recently (given the current health crisis ravaging the country), but from the what we’ve been seeing recently at DIRECTS, working at home does not lead to the speediest of results from the IRS. Nobody has been able to call the IRS for about a month, and mail sent to the IRS “has been piling up in trailers”, according to the Wall Street Journal.

The issue of whether the IRS employees work from the actual IRS offices is of particular interest to us at DIRECTS (Domestic and International Real Estate Closing Services), because we focus on non-US sellers of US real estate, who are always awaiting large tax refunds this time of year, plus our 2020 foreign sellers  who are applying for ITIN’s and applying for 8288-B/ withholding certificates are very much interested in speedy IRS compliance as well. Our FIRPTA-related work requires the IRS employees to be in their offices and on their game, there is no doubt in my mind. This push by the IRS has been prompted by the need to inject the stimulus checks into the economy, but really the IRS needs its employees back in the offices for all reasons, including processing tax returns and issuing refund checks (such as the large refunds typically due non-US sellers from the prior year). We have seen the time for the IRS to process refunds, ITIN’s and 8288-B withholding certificates really start to drag sharply in the last month, so for us this (push back into the IRS offices) really is needed.

Is this the end of it; the IRS employees are just going to go back to the IRS offices, no problem? I doubt it. As of Monday, they are not actually required to go back in (it appears to be just a request from the IRS officials). What if there are not many IRS employees who agree to simply return to the the IRS offices?  Plus members of Congress have already begun openly complaining that the employees are not being given PPE by the IRS. Moreover, I have no doubt these people are scared. One incident of Coronavirus in one over-stuffed IRS processing center and this could become a huge mess. It might not even take an incident for this to become a huge mess.

By: Michael W. Brooks, Esq.

Purchases of US real estate by non-US (foreign) persons slowed considerably during the period of April 2018 to March 2019, per a recent report issued by the National Association of Realtors entitled “Profile of International Transactions in U.S. Residential Real Estate 2019”. This report generally reviewed residential real estate purchases only (not commercial purchases). Much of this international investment drop off was felt in California, which is currently the #2 state in the US in terms of international ownership of US real estate (only Florida annually has more international transactions per year). Foreign persons consist of both non-US citizens who live in the US full-time (such as of foreign workers working in the US on an H-1B Visa) and foreign persons who purchase US real estate but do not live in the US full-time (we see many of these purchases/ purchasers in the Palm Springs area, where most Canadian owners of Palm Springs real estate are still full-time residents of Canada, and we also see many of this type of purchaser just outside of Los Angeles, with the thousands of Chinese owners of real estate in the San Gabriel Valley and Irvine (Orange County) area (where a significant percentage (around 40%) of the Chinese owners remain residents of China (i.e., do not move to the US) while owning the US real estate)).

Foreign Purchases in US Real Estate Decline Generally in 2018-2019

By. Michael W. Brooks, Esq.

The US government shutdown finally ended on January 28th– five weeks after it started. The full force of the IRS is back at work. What does this mean for the (in many cases) large refunds due to the non-US persons who sold US real estate in 2018 (and before), who were subject to a 15% IRS withholding tax (15% of the gross sales price must be sent into the IRS at the close of the sale…that’s the US tax law for non-US persons selling US real estate (known as “FIRPTA”))? In a normal period, a foreign investor who sold US real estate in one calendar year (where the 15% was sent into the IRS at the close of the transaction), could probably count on receiving their withholding tax refund around the summer or fall of the following calendar year (provided they were working with a tax professional who knew foreign real estate seller tax withholding system well- such as DIRECTS, Inc.). But in (late 2018 and) early 2019, the US experienced a five-week government shutdown, where a closed IRS still received thousands of forms, letters and overall correspondence from individuals from the US and not from the US. That’s a lot of piled and backed up correspondence IRS officials just back at work are going to have to sift through (are they even permitted to process tax refunds without first going thought the huge pile up in unopened mail?). In addition, each January apparently the IRS engages in a considerable amount of training of new employees (and even older ones), as each tax year brings with it changes that differ from prior years, and all IRS employees must prepare for the new changes. So even though the shutdown is already in the rear-view mirror, many tax experts are predicting significant delays to the IRS refund schedule caused by the mess the 2019 shutdown caused to the IRS in January 2019. While all this is going on at the IRS, we still have so many 2018 (and earlier) non-US sellers of US real who ae expecting big refunds in 2019. Will this IRS delay affect them? Let’s explore below.

The Shutdown’s Effect on The Withholding Tax Refunds Due to 2018 Foreign Sellers of US Real Estate

我是一名中国公民,3年前出售了我在尓湾的房子但是一直没有拿回之前售房时被国税局根据美国房地产税收法(FIRPTA)所扣押的30万美金预扣税。现在我还有机会拿回这30万美金预扣税吗?当然可以!!

作者:Michael W. Brooks (税务律师/DIRECTS 董事长)

Angela Li (DIRECTS 国际税务部经理)

By Michael W. Brooks, Esq.

President DIRECTS

At DIRECTS (Domestic and International Real Estate Closing Tax Services, Inc.), all day, every day, we work on tax matters relating to FIRPTA (the Foreign Investment in Real Property Tax Act). We work for clients from throughout the world who invest in real estate throughout the United States, but most of our clients own (or owned) real estate in California, and some of our clients are owed tax refunds from the IRS from real estate sales years which took place several years ago.

By Michael W. Brooks, Esq. (President DIRECTS)

In January 2017, the IRS suspended the right of privately licensed tax professionals and companies (such as my firm- DIRECTS) to certify non-US passports, which slowed down significantly the time it took for a non-US person who sold US real estate to obtain an ITIN (an Individual Taxpayer ID Number)  in connection with their real estate sale, and therefore slowed down significantly the time it took for non-US persons to obtain a refund of the mandatory (up-front at the time of sale of US real estate) IRS withholding tax. By the end of 2017, the IRS had reinstated the right to private certifying acceptance agents to certify passports, but a lot of damage had already been done.

Recall the Basic Rules of FIRPTA, and What the Goal of the Foreign Seller is with Respect to FIRPTA- Get the Big Refund!

By Michael W. Brooks, Esq.

As discussed in Part 1, we know Foreign Investors are permitted to enter IRC Section 1031 (like-kind exchange) transactions provided certain conditions are met.  The Foreign Investor can avoid (really delay) paying tax on the sale of the first property (the relinquished property), provided the Foreign Investor identifies a qualifying replacement property within 45 days of the sale and completes the purchase of the replacement property within 180 days of the sale.  But what about the 15% (of the gross sales price) non-US seller withholding tax?  Must the escrow company withhold 15% of the sales price because the seller is foreign (even though the foreign party is entering into a 1031 like-kind exchange)?  The answer is yes- 15% of the gross sales price must still generally be withheld at the time of closing, and not distributed to the Foreign Investor or to the 1031 Accommodator.  This is where 1031 transactions and the rules of FIRPTA (the Foreign Investment in Real Property Tax Act) intersect.  The Foreign Investor entering into a like-kind exchange transaction has a big problem with respect to this 15% withholding tax requirement under FIRPTA.  For IRC Section 1031 to work, the Foreign Investor must complete the purchase of the replacement property within six months, so he or she will need the 15% held by escrow back quickly, or he or she will blow the like-kind exchange and not be able to avoid the recognition of taxes on the sale relinquished property.

Consider the example below, where a Canadian couple needs their 15% back quickly, or they will owe tax on the sale of their first property.

 By Michael W. Brooks, Esq.

As with US persons, non-US persons and parties (“Foreign Investors”) are allowed to enter into Internal Revenue Code Section 1031 (like-kind exchange) transactions. Foreign Investor exchanges allow owners of investment and business real estate to delay paying income tax on the appreciation of the property being sold (the “relinquished property”), provided the owner identifies a “replacement property” within 45 days of the sale of the relinquished property, and completes the purchase of the replacement property within 180 days of the sale of the relinquished property. This allows the person (even a Foreign Investor) to avoid paying the US (and California) tax on the sale of the relinquished property, but the investor will carry a lower basis from the relinquished property into the replacement property.

Take the example of a Chinese person who purchases an investment property (used as a rental property) in Irvine for $1,000,000. Three years after the purchase, the value of the Irvine property rises, and the Chinese person receives an offer to purchase the Irvine property for $1.5M. If the Chinese investor were to sell the property and not enter into a 1031 transaction, the investor might owe around $60,000 in tax to the IRS ($500,000 gain minus (say) $100,000 in realtor fees= $400,000 gain; $400,000 x 15% (federal capital gains tax rate)= $60,000 in tax owed to the IRS). The investor might also owe a tax to the State of California under this scenario, perhaps around $36,000 ($400,000 x 9% (average California tax rate)= $36,000). So in this case, our Chinese person will owe around $96,000 in total taxes on the sale if he does not take some action.   So what can he do to at least delay paying the $96,000 total tax on the sale? As long as he is willing to purchase another parcel of California real estate in the next 180 days the answer is simple- enter into a valid 1031 transaction. So to complete the example, let’s assume our Chinese person, within 45 days of the sale, identifies a Newport Beach property he wishes to buy (and again rent out) for $1.5M. Provided he completes the purchase of the Newport Beach property (the “replacement property”) within 180 days of the sale of the Irvine property (the “relinquished property”), our Chinese investor can delay paying any of the $96,000 in total tax pursuant to Internal Revenue Code Section 1031. In three years however, when our Chinese investor sells the Newport Beach property for $2M, he will owe probably $200,000 in total tax to the IRS and California (i.e., he must then pay the tax on the gain from the sale of both properties…but at least he was able to delay the tax on the sale of the Irvine property for three years because of Internal Revenue Code Section 1031).

Starting in 2016, US individual taxpayer ID numbers (“ITINs”) not used in the prior 5 years on a US tax return will be deactivated by the IRS.  So, staring in 2016, if a foreign person hasn’t sold US real estate since (at the latest) 2010 (which should have led to them doing a tax return in 2011), the ITIN they are giving to their escrow officer is very likely no longer valid. In my experience as a tax attorney and the President of a tax firm which works daily with foreign sellers of US real estate, the use of an invalid ITIN can be one of the biggest headaches the foreign seller will ever encounter in their dealings with the IRS.  And you can bet a foreign seller not receiving a proper IRS refund will be none too shy about letting their escrow officer know all about the problem.  As the age old saying goes: happy foreign seller, happy escrow officer (or something like that).

Why is a Valid ITIN So important to the Foreign Seller?

The stakes for the foreign seller are simple- he or she will need a valid ITIN to obtain a (very possibly large) refund of the federal taxes sent into the IRS by escrow (and maybe the California state taxes too).  The federal taxes are the big one.  Recall the Internal Revenue Code generally requires the buyer (really the escrow company on the buyer’s behalf in California) to “withhold” 10% of the gross sales price from the foreign seller, and transmit the 10% withholding tax to the IRS at the time of sale (or at least keep the withholding tax in a client trust account while the IRS reviews the seller’s 8288-B withholding certificate application, if applicable).  But the 10% withholding tax is almost surely more than the seller really owes in federal income taxes on the sale.  For example, if a foreign person bought a Los Angeles vacation home a few years ago for $800,000, and then sold the house for $1,000,000, the escrow company would be required to withhold $100,000 ($1,000,000 x 10%) at the time of sale.  The escrow company then sends the $100,000 into the IRS at close (assuming the seller does not file an IRS Form 8288-B with the escrow company holding the withholding tax in a trust account).  But while the IRS holds onto $100,000 of the $1,000,000 sale’s proceeds, the foreign seller’s real income tax bill on the sale would likely be closer to $30,000 ($200,000 appreciation x 15% capital gains rate= $30,000).  So in this example the IRS is holding onto an extra $70,000 of our foreign seller’s proceeds, and our seller will undoubtedly be quite eager to receive the $70,000 back.  But our foreign seller could be in for quite a wait if the escrow company sent in the $100,000 withholding tax with an invalid ITIN.  Let’s see why….

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