FIRPTA tax is imposed on nonresident alien individuals and foreign corporations.

If a Canadian sells real estate located in the U.S. , a withholding tax of 10% of the gross sales price is normally payable under FIRPTA (the Foreign Investment in Real Property Tax Act of 1980). The tax withheld can be offset against the U.S. income tax payable on any gain realized on the sale, and refunded if it exceeds the tax liability. The 10% withholding requirement on the gross sales price applies regardless of the sellers adjusted basis in the property.

Prior to 1981, foreign investors could sell their real estate without incurring a U.S. tax on the gain, provided the property was not used in conducting a business in the U.S. In 1981, however, "FIRPTA," the Foreign Investment in Real Property Tax Act of 1980, was adopted to impose a tax on capital gains derived by foreign persons from the sale of their U.S. property.

FIRPTA imposes an income tax on the sale of what is termed a U.S. real property interest ("USRPI"). A USRPI includes U.S. real estate owned directly by the foreign investor, as well as, shares owned by a foreign person in a U.S. corporation that owns substantial real estate.

To ensure collection of U.S. taxes that are due on the sale by a foreign investor, FIRPTA also provides a withholding mechanism under which the buyer, who is the transferee of a USRPI, is obligated to withhold 10% of the purchase price at closing and send it directly to the IRS instead of paying the full amount to the foreign seller.

When the withholding tax under FIRPTA is applicable, the transferee of the USRPI must deduct and withhold 10% of the "amount realized" by the foreign seller. The amount of the seller's gain on the sale is irrelevant. The "amount realized" is usually the purchase price for the property and includes the cash paid to the seller, the fair market value of other property transferred to the seller, and the outstanding amount of any liability assumed by the transferee.

The 10% withholding tax imposed on the foreign seller of a USRPI is not the amount of tax actually due. It is merely an advance payment toward the foreign seller's U.S. income tax obligation arising from the sale of the property. The foreign seller must file a U.S. income tax return for the year of the sale by the applicable filing deadline. Such return will show the amount of gain derived from the disposition of the USRPI and the amount of U.S. income tax due on the gain. The amount of the foreign seller's U.S. tax obligation is determined by crediting the withholding tax against the amount of income tax due as shown on the return.

There are two exceptions to FIRPTAs 10% withholding requirement which may reduce or eliminate the requirement.

Exception 1: Sales price less than U.S. $300,000

First, withholding under FIRPTA will not apply if the property is sold for less than U.S. $300,000, and the purchaser intends to use it as a principal residence. The buyer need not be a U.S. resident. for this exception to apply, the purchaser must have definite plans to reside at the property for at least half of the time that the property is in use during each of the two years following the sale. However, the gain on the sale will still be taxable in the U.S., and a U.S. tax return must therefore be filed. Thus, if a Canadian is selling an Arizona real estate or any other U.S. real estate, for less than U.S. $300,000 to a buyer who intends to occupy it as a principal residence, the seller will receive the full purchase price rather than having 10% withheld by the buyer and remitted to the IRS.

Exception 2: Withholding Certificate

The second exception allows for reduced, or eliminated withholding, where the Canadian obtains a withholding certificate from the IRS on the basis that the expected U.S. tax liability will be less than 10% of the sales price. The certificate will indicate what amount of tax should be withheld by the purchaser rather than the full 10%. A withholding certificate issued after the transfer of the property may allow the seller to receive an early refund.