Ownership Structures Impact US Expats Investing in Real Estate
With mortgage interest rates near all-time lows, many US expats are entering the real estate investment market for the first time. There are many things for an investor to consider, but establishing a separate business structure under which to manage real estate investments should be a high priority, especially because of the tax implications. There are many different types of structures to consider but let's take a closer look at a few of the most popular ones and how they impact US tax for expats investing in US residential real estate.Most Desirable Property Structures
This is by far the simplest of all options, from both an 'administrative' position as well as a tax perspective. When an individual owns a property, the activity of the property is reported on the individual's tax return (Forms 1040 and 1040NR for US residents and non-residents). However, as an individual owner, you are not afforded any protection from liability or legal action if a lawsuit was associated with the investment property. This reason alone dissuades many expats from choosing individual ownership for their property.
Limited Liability Company
The Limited Liability Company, or LLC, is by far the most popular choice for US residential real estate investments. It offers the best of both worlds--it is relatively simple and affordable to establish and offers some protection against liability as well. One of the best features of the LLC is that if there is only one owner, the LLC is considered a disregarded entity and all activity associated with the property is reported on the individual owner's tax return. This is why it is simple from a tax perspective. There are no business taxes to be filed, which is a huge plus! If the LLC has multiple owners, the scenario is a bit different but still has its advantages. The LLC is then considered a partnership and must submit Form 1065 each year (US Return of Partnership Income) and each owner must report their share of the net income or loss on their individual tax return. But overall, this is a very advantageous property structure, especially as it relates to US tax for expats.
If your greatest concern is liability protection, this is the structure for you. A C Corporation is an entity entirely separate from its shareholders and allows investors the opportunity to control their taxable income by adjusting the amount and timing of dividend distribution. Why is this important, you ask? Well, shareholders have greater control over their tax bracket this way and can tailor their income to their individual deductions. But, there is one major drawback to the C Corporation--double taxation. Corporate profits are taxed at about 40% and once the profits are distributed to shareholders as dividends, they are taxed again at the individual level.Less Desirable Property Structures
S Corporations are not the top choice for US expats investing in US residential real estate. Tax accountants don't often recommend this structure for a number of reasons. S Corporations shareholders are taxed on all corporate income, minus business expenses. As a result, if you own 25% of an S Corporation that has a taxable income of $1,000,000, you will be taxed on $250,000 of income even if the corporation distributed no dividends to you. Under an S Corporation, the shareholder's ability to deduct any losses is limited to their basis in the company. In addition, it can be more challenging to obtain a mortgage as an S Corporation. This property structure also requires you to file a business tax return each year, adding the expense and hassle of filing another tax return.
This type of structure has become increasingly popular, but that doesn't mean it's the best option! Foreign residents likely find it easier to establish companies in their resident country, which may very well be appealing from a foreign tax perspective. But this may have an undesirable result--additional US tax reporting requirements and the possibility of double-taxation!
In addition, the IRS is very wary of foreign trusts, which have also spiked in popularity. But with the recent US crackdown on overseas tax evasion, you can imagine that they look at foreign trusts with a good deal of suspicion. If you do decide to use a foreign trust or entity, you should seek the advice of an expat tax professional to ensure the trust is established in a way that will be beneficial, not detrimental, to your finances.
Clearly there are many options for choosing a property structure for your US real estate investment. It is an individual decision, with a number of factors taken into consideration. It is recommended that you speak with a tax professional prior to establishing your business structure to ensure you are truly choosing the option that benefits you the most.