What is FIRPTA? Why Buyers in M&A Deals Should Care About FIRPTA

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What is FIRPTA?

              FIRPTA enables the IRS to tax non-US persons on their dispositions of U.S. Real Property Interests (USRPI).[1] A USRPI is an interest in real property, such as a building and certain attachments (e.g. a well). As a rule of thumb, real property includes anything that is affixed to the land and would cause damage to the land if removed. Determining what qualifies as “real property” can be a tricky prospect at times. Intangibles such as goodwill are often considered real property, while what is considered an attachment can become dicey. Consider the following example:

              A U.S. corporation considers buying a wind farm in the United States that is owned by a Canadian company. The U.S. corporation should find out whether the blades on the turbines could be removed from the base. If so, then the blades would not be considered real property and thus would not be subject to FIRPTA since it is not considered fixed to the land. Furthermore, the U.S. corporation will buy the license required to operate the wind farm from the Canadian company. Since the license is considered goodwill, how much is the U.S. corporation required to withhold in taxes?

The above example illustrates one trap that unwary buyers often fall into: the uninitiated are prone to overlook details that cause them to pay more in taxes to the IRS. Determining what constitutes real property is one of many traps that FIRPTA creates. Once the real property interests are identified, the buyer in the situation above withholds 15% on the gains that the Canadian company will realize from the sale.[2] The FIRPTA withholding tax is essentially the IRS’s first cut of the sale- the Canadian company may have further taxes that it needs to pay to the IRS.

 

Why Should Buyers Care About FIRPTA?

              The primary reason why buyers and deal professionals should care about FIRPTA is to make sure that they do not need to withhold or that they withhold the correct amount. If the buyer fails to withhold the correct portion of their payment to the seller or if they fail to withhold at all, the buyer is on the hook for that portion of the seller’s taxes to the IRS. In order to prove that FIRPTA does not apply, the seller is required to provide the buyer with the correct forms. Unfortunately, the seller sometimes fails to supply the correct forms, and the buyer is ultimately liable for the amount they otherwise would have withheld from their payment to the seller. This ultimately has a negative impact on the IRR in the aftermath of the deal. Buyers involved in asset deals or stock deals involving a non-US company that owns real property interests should always find out whether FIRPTA applies.

 

What Can a Buyer Do?

              Advance tax planning can help buyers mitigate or eliminate the need to withhold taxes. Since FIRPTA and the relevant IRS tax filings are often convoluted to non-U.S. sellers, the buyer should ensure that both compliance and reporting requirements are met in order to avoid paying the seller’s taxes. Certain certificates, such as the “FIRPTA certificate” can greatly reduce or entirely do away with the need to withhold taxes. Furthermore, not all investors and sellers are subject to FIRPTA. Since certain qualified foreign pension funds and sovereign wealth funds are exempt from the FIRPTA withholding tax, deal professionals should always consult with a knowledgeable tax adviser to determine whether FIRPTA applies. At Leo Berwick, our trusted tax professionals are equipped to help deal professionals navigate FIRPTA’s murky waters.


[1] Dispositions include sales, liquidations, gifts, etc.

[2] https://www.irs.gov/individuals/international-taxpayers/firpta-withholding

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