One of the most confusing (and important!) parts of selling property is the impact from the foreign capital gains tax. We, of course, hope you realize a gain, but let’s look at capital gains more closely, so you can fully understand how to calculate your gains/losses, how to report them on your expat tax return, and what the tax impact may be.
What Is the Capital Gain Tax on Foreign Property?
Capital gains and losses are generated when you sell property or an investment. Property can be anything from real estate to jewelry, while investments are generally stocks, bonds, and other monetary instruments.
The basic premise is this: when you sell property or investments for more than the cost basis, you have a gain, and when you sell for less than your cost basis, you have a loss. Most gains and losses will need to be claimed on your US tax return if you are a US person (citizen or permanent resident) as a capital gain tax.
Personal Property Sale
When you sell personal property, you will need to report any gains from the sale on your tax return. Contrary to popular belief, losses from the sale of personal property are not deductible and cannot offset income on your tax return.
If you sell your main home – the one you primarily lived in – you can exclude up to $500,000 on any gain from the sale so long as you lived in and owned the home for any 2 of the 5 years preceding the sale. Losses from the sale of the property cannot be claimed. There are some rules in place if you did not live in your primary home for 2 of the past 5 years or owned the property for less than two years. Please consult your tax advisor to see if you are able to claim at least a portion of the exclusion.
There are special rules for property that is considered “collectible.” Collectibles include but are not limited to artwork, coins, precious metals and stones, stamps, and antiques. Collectibles gain is taxed at the rate of 28% even if held for more than one year.
Types of Capital Gains on Foreign Property
Capital gains are classified as long term or short term.
After the necessary documentation has been gathered regarding the sold or disposed assets, the next step is to determine the length of ownership. If the assets were held for one year or less, they are considered “short-term” assets on your US expat taxes and will be reported in Part I of the Schedule D. Anything held over one year will be reported in Part II of Schedule D.
The distinction between the ownership periods is important because different tax rates apply to short-term and long-term assets. Gains from assets held for less than one year will be subject to ordinary income tax rates (i.e. your highest tax bracket associated with your US expat taxes). Long-term assets are eligible for reduced “capital gains” tax rates, which can be 15% or even 0% depending on the individual situation.
See the chart for the long-term capital gains tax rates from the IRS here.
Foreign Capital Gain Tax: Calculating Your Gain or Loss
Before you can figure out your foreign capital gain tax (or loss), you will first need to know what your cost basis is in the property. This often consists of what you paid for the property, but it can be increased or decreased based upon other factors.
Examples of increases to your basis:
- Costs of improvements that have a useful life of more than 1 year (new roof, additional bedrooms, fences, etc.)
- City or county assessments for local public improvements
- General sales tax imposed on the purchase
- Settlement charges from the purchase or sale including fees, title fees, attorney fees, and commissions
- Commissions and fees relating to the sale/purchase of stocks and bonds
Examples of decreases to your basis:
- Insurance payments received for casualty losses
- Depreciation allowed for business use of the property
When you sell the property, you subtract the basis in your property from the sales price. This gives you your total capital gain or loss.
Selling Your Property
When you sell property, both inside and outside of the US, you will need to know the following for your tax return:
- Date of purchase
- Purchase price and settlement charges
- Improvements and other increases/decreases to the basis
- Date of sale
- Amount of sale and any settlement charges
When you sell property outside of the United States, there are more considerations you will need to make in order to properly classify your gains or losses. The largest consideration you will need to take into account is the exchange rate. The IRS requires you to convert all foreign currency amounts to US dollars before calculating the gain or loss from the sale. Since exchange rates fluctuate on a daily basis (if not hourly!) you should consider the rate before you buy and sell. The exchange rate used for both buying and selling property will be considered the spot rate for the day, unless otherwise specified. Gains and losses can even be created by an exchange rate difference!
To provide you an example of how currency fluctuations impact capital gains, let’s consider a hypothetical sale of land in Germany. You own 100 acres of land in Germany, purchased on July 1, 2016, for 500,000 Euros. You sell the land on July 1, 2019 for 500,000 Euros. Ostensibly you have no gain since you sold the land for the same amount you purchased it for, but since you have to convert the Euro to the dollar, this is not the case.
- July 1, 2016 – 0.8960 Euros per $1 USD
- July 1, 2019 – 0.9170 Euros per $1 USD
Purchase price – July 1, 2010
- $558,035.71 (500,000 ÷ 0.8960)
Sale price – July 1, 2014
- $545,256.27 (500,000 ÷ 0.9170)
You will show a loss of $12,779.44 on your US taxes for the sale of the property.
How Capital Gains/Losses are Reported on Your Tax Return
You will report the gain or loss on Schedule D of Form 1040 on your US tax return. You will need to include a brief description of the property, the purchase date and price, and the sale date and price. Capital gains and losses are netted against one another. Net capital gains are included in your income and then taxed accordingly based on your total tax picture. Net capital losses are reported on the tax return and help to lower the taxable income from other sources.
Capital losses can be taken against capital gains, and may exceed the total capital gains by up to $3000 on the tax return. Any losses over $3000 and not claimed on the tax return can be carried forward to a future year, or carried back to a previous tax year.
Here’s some good news: US taxes attributed to capital gains from the sale of foreign property may be offset using the Foreign Tax Credit. The Foreign Tax Credit is a dollar for dollar reduction in your US taxes using taxes paid to a foreign country on the same income. However, capital gains cannot be offset using the Foreign Earned Income Exclusion, as the gains are not considered “earned” income, which is a requirement to utilize this exclusion.
When selling property – foreign property in particular – we advise you to speak to a tax professional before doing so to ensure it’s a sound financial decision given the various factors mentioned above.
Are There Exceptions?
The primary capital gain exclusion that many individuals take advantage of is excluding part of the gain on a personal residence. You are eligible for this exclusion if you have owned and used the home as your main residence for at least a period of two years out of the total five years prior to the sale. You can exclude up to $250,000 (or $500,000 for a married couple) on your overseas tax return. In fact, if you plan on excluding this income, the IRS does not want you to report it at all.
You can generally only use this exclusion once every five years. For example, if you sell your life-long residence and buy a beach house, you can exclude the gain from your life-long residence. If in two years you decide that you want to buy the house next door with a hot tub, you are not going to be able to exclude the capital gain from the sale of your beach home as your primary residence. You can also not use this exclusion for properties bought by 1031 exchange.
Note that it does not matter if your property is in France or Florida – it still counts as a capital gain or loss.
Need More Information About How Your Property Affects Your Expat Tax Return?
Visit our blog page specifically for property investors for more detailed information. If you would like help filing your US expat tax return and with the foreign capital gains tax, please let us know!
Originally published in 2016; updated December 2020.