Tax Planning for Foreign Investors

MULLIN DEAN Φ HEIMOS LLP

Introduction

The accelerating growth of the global economy has created a dramatic expansion of cross-border transactions and investments. Small and medium sized businesses are now able to operate beyond their countries' borders, while investors access new markets and diversify.

Nations have responded with fiscal policies aimed at attracting foreign investment while preserving their existing tax bases, leading to the development of hyper-technical tax regimes, commercial regulations and multinational treaties.

Accordingly, companies and private parties need refined and creative advice to manage their tax exposure, orchestrate multi-jurisdictional transactions and mitigate their economic risks. International clients require competent counseling from advisors who avoid the general practice of law and are committed to working exclusively within the arcane realm of international tax and business planning.

MDΦH is a law firm dedicated to counseling U.S. based companies pursuing opportunities abroad, foreign clients investing in U.S. real estate and businesses, as well as private individuals with global estates and investments.

Focus, responsiveness and quality - our clients deserve nothing less.

We assist our U.S. Clients in:

¨ Structuring foreign corporations, including international joint ventures, mergers and acquisitions.

¨ Developing tax plans that minimize the impact of Subpart F and PFIC provisions.

¨ Negotiating multi-national distribution agency and licensing agreements.

¨ Achieving tax efficiency through bilateral income tax treaties and foreign tax credits.

¨ Crafting estate and wealth preservation plans for high net-worth individuals and global entrepreneurs.

We assist our Non-U.S. Clients in:

¨ Conducting business activities in the U.S.

¨ Tax planning for foreign investment in U.S. real estate.

¨ Portfolio tax-exempt financing for U.S. investments.

¨ Minimizing income, gift and estate tax burdens on U.S. investments.

¨ Pre-immigration planning.

¨ Designing simple and effective estate plans for transfers of U.S. property.

General Tax Information

Rental Income

Foreign persons owning real estate in the U.S. should file a U.S. income tax return and elect to be taxed on the net income (gross income, less deductions for expenses of operation); otherwise, the rental income is subject to a 30% withholding tax on the gross amount of the rent paid by the tenant. Management companies may be liable to withhold this tax.

Sale of U.S. Real Estate

Foreign sellers are subject to U.S. income tax on the sale of their U.S. real estate. 10% of the sale proceeds is withheld from the foreign seller at the closing and paid to the IRS towards the total tax liability. A U.S. tax return must be filed to report the sale along with payment of any remaining tax due or to claim a refund. Some states also have a separate withholding requirement. Moreover, foreign persons are eligible to utilize a 1031 tax-deferred exchange of their qualified U.S. property.

Estate Taxes

U.S. estate taxes are usually a greater concern than U.S. income taxes because income taxes are assessed only on the appreciation of the property, while estate taxes are assessed on the full market value of the property at the date of death. Estate taxes are progressive, starting at 18% on estates of $10,000 and rising to 47% (2005) for estates over $2 million. From 2005 through 2009, the top tax rate gradually drops to 45%. These rates are applied on the market value of the real estate after reduction of certain deductions and credits.

The effective tax rates for foreign investors are significantly higher than for U.S. persons because the deductions and credits available to foreign persons are far more limited than for U.S. persons. For example: U.S. persons are entitled to exclude up to $1,500,000 of assets which increases to $3,500,000 in 2009. Foreign persons meanwhile are generally entitled to an exemption of only $60,000. Although in 2010 the U.S. estate tax will be repealed, in 2011 the U.S. estate tax will return unless a permanent repeal is enacted. Generation-Skipping Taxes (GST) is also an issue for the foreign persons.

 For Example

U.S. estate taxes are assessed on U.S. property that passes from the foreign person to his spouse if such spouse is not a citizen of the U.S. However, with proper planning and use of Qualified Domestic Trust (QDOT) U.S. estate tax can be deferred until the death of the second spouse or earlier distribution of property from QDOT.

Gift Taxes

The U.S. also taxes gifts of U.S. property made by foreign persons in a similar manner as estate taxes. However, while U.S. persons are entitled to exclude up to $1,500,000 of gifts in 2005 which increases to $3,500,000 in 2009, there is no equivalent exemption from gift taxes for foreign persons, including no $60,000 exclusion as there is for estate taxes. There is however, a small exception for annual gifts of up to $10,000 to each recipient from a foreign person; and foreign persons may make annual gifts of up to $100,000 of U.S. property to their spouse tax free.

Summary

Planning to avoid or minimize U.S. income, gift and estate taxes can involve various techniques. These include the use of foreign corporations, foreign partnerships, foreign and U.S. trusts, life insurance, non-recourse financing and family limited liability companies and partnerships. Because of a lifetime and testamentary desires as well as the particular facts surrounding the status of each foreign investor is different, there is no standard tax planning technique suitable for al investors. Rather each client deserves to have his or her investment criteria evaluated in light of their unique circumstances and intentions. Especially important is whether a U.S. Tax Treaty is available to the foreign investor that may reduce the cost of income, estate and gift taxes for owning, selling and transferring U.S. real estate below the cost otherwise provided under general tax rules.

Caveat

In no event should any acquisition, transfer or other disposition of U.S. real estate be undertaken without competent legal or tax assistance based on the investor's particular facts and circumstances and the availability of any estate, gift or income tax treaties. The above information is for general informational purposes only and no action should be taken or withheld based on the information supplied herein. This material is presented with the understanding that the author does not rendering any legal, accounting or other professional service. In no event will the author be liable for any direct, indirect or consequential damages resulting from the use of this information.

For any additional information please contact:

Kevin J. Mullin, JD, CPA, LLM (Intl. Tax)

1601 Arapahoe Street

3^rd Floor

Denver, Colorado 80202, USA

Tel: (720) 259 5680

admin@mdhlex.com

http://www.mdhlex.com

Representative offices in Geneva, Switzerland and Washington, D.C., and correspondent office in Panama City, Panama

Kevin J. Mullin Bio Summary

Kevin has more than 25 years experience in international tax and business planning for foreign investment in U.S. real estate and U.S. investments and operations abroad. His tax planning expertise also extends to crafting shari'ah complaint instruments. He frequently speaks before international and national legal, accounting and real estate groups and is the author of various articles regarding tax planning. He is a member of the District of Colombia, Virginia and Colorado bars, U.S. Tax Court and various state and federal tax courts.

Disclaimer: The preceding information was provided by the Law Firm of Mullin Dean Ô Heimos LLP. The Prinsloo Group does not endorse any or certify any attorney as an expert. Information is being provided for informational purposes only. Please consult with your attorney for legal advice and your accountant for tax advice. The Prinsloo Group accepts no responsibility for any information contained within and will not be liable for any direct or indirect or consequential damages resulting from the use of this information.