With so many beautiful and exotic places around the world to enjoy, it’s no wonder why many Americans are looking to buy and sell real estate abroad. However, buying and selling a foreign property can impact your US expat taxes and there are many important factors to consider. This article outlines several tips to reduce your tax liability when selling real estate abroad and important things to consider before you make the decision to sell.
Is Buying a Foreign Property Reported on a Tax Return?
When it comes to buying real estate (US property or foreign property), the transaction is not considered a “taxable event,” meaning you don’t need to report it on your tax return. There are some exceptions, such as when a Homebuyer credit is available.
While the purchase of property generally does not affect your US expat taxes, eventually the sale of property will need to be recorded on your US tax return. You will need to know detailed information from both the purchase and the sale of the property, so keeping good records of both is essential.
What Portion of the Real Estate Sale is Taxable?
If you sell your personal residence for a gain, the profit is considered income on your tax return, but there are some exceptions. The Sale of Main Home Exclusion allows you to deduct up to certain amounts, if you qualify.
- Individuals can exclude up to $250,000 of the gain from taxation
- Married taxpayers filing a joint tax return can exclude up to $500,000 of the gain from taxation
Do You Qualify For the Sale of Main Home Exclusion?
Qualifying for this exclusion depends on how long you have lived in the house. You must have lived in the house for a total of two of the last five years (ending on the date the property was sold). The years of ownership and occupation don’t need to be the same years.
These are the standards by which home sales in the US and abroad are first considered:
- Any gain that exceeds the exclusion amount, or the whole amount if you don’t meet the qualifications, is considered capital gain.
- If you owned the house for more than a year, you will be taxed at long-term capital gains tax rates, with a max rate of 15%.
- If you owned the home for less than a year, you will be taxed at your ordinary tax rate.
Now you have to figure out what a foreign sale brings to the mix. Any gain that is not excluded using the Sale of Main Home Exclusion is considered foreign sourced income, and therefore the foreign tax credit can be used to help offset any taxes incurred. While it’s considered foreign sourced income, it’s not considered foreign earned income, and therefore cannot be excluded using the Foreign Earned Income Exclusion (like a salary or wage income).
How to Calculate Exchange Rate Gains and Losses
All figures on a US tax return need to be reported in US dollars. So, all figures for the purchase and sale of the property will need to be converted from the foreign currency to USD. The conversion is calculated based on the average daily exchange rate for each transaction date; purchase date, sale date, etc. It is important to pay attention to the exchange rate trends when you are considering the purchase or sale of property.
Here is an example to explain how to calculate gains associated with selling a foreign primary residence:
- John Expat moved to China in 2010 and he began is house search
- He signed the papers to purchase his new home on November 17, 2010
- He paid 1,865,000 Chinese Yuan (CNY) for the property on the date of sale
- He paid 50,000 CNY for new windows on the house on May 25, 2012
- In 2015, he decided he wanted to move back to the US and put his house on the market
- He signed the closing papers on June 24, 2015, with a sale price of 2,010,000 CNY. At that time, he had 1,725,000 CNY left to pay on his mortgage
This chart represent the dates and figures used in this example. Note: Each transaction is converted to USD at the date the transaction occurred.
Because John owned and lived in the property for at least two of the last five years, he is eligible to exclude the entire gain associated with the sale of his principle residence.
The total impact to John’s US expat taxes resulting from the sale of his Chinese principle residence is zero. If John had not lived in the house for two of the five years he owned it, he would have to include the gain on his tax return as a long term capital gain.
What About Bank Accounts Holding Funds for Purchase or Sale?
In addition to how the capital gains and losses will affect your US expat taxes, you will also have to consider the mechanics of the purchase and sale of the property. Money will need to be transferred from point A to point B, sometimes with several stops along the way.
With the purchase and/or sale of foreign property, chances are the money will be held in a non-US account for at least some portion of time. This most likely will trigger Foreign Account Tax Compliance Act (FATCA) reporting requirements. You will need to report the bank balances on your yearly FinCEN form 114 filing, and possibly the 8938 on your tax return.
For the FinCEN form 114 (also known as the FBAR) if you have more than $10,000 USD (converted from the foreign currency) in a foreign bank account, even for one day, this form is required to be filed for all owners of the bank account that are US citizens.
A Few Additional Tips to Consider
In addition to figuring the income or loss on the sale of your property, there are some things that you will need to consider when going through with a foreign transaction of this size.
- The laws and regulations of foreign countries are different than those of the US, and financial transactions will be different too.
- It’s important to do your research regarding the applicable laws and insurance requirements for your new host country.
- Consult with licensed realtors and lawyers to be sure the transactions are being handled correctly and you are complying with all rules and regulations.
Tax deductions remain the same for the foreign and domestic real estate.
- You are able to deduct on your tax return property taxes paid on your property, as well as interest you pay on your mortgage.
- Interest paid on your personal residence is deductible up to the amount you pay on $1,000,000 of mortgage.
- Mortgage interest paid on property that is not your personal residence can be deducted as investment interest on your tax return.
There are a lot of things that need to be figured when it comes to buying and selling real estate outside the US. Many great opportunities abound, and it’s best to be careful and thorough with your planning and choosing for maximum tax saving benefits.
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