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Tenants and Property Managers Beware: You Could be Liable for Your Non-Resident Alien (“NRA”) or Foreign Corporation (“FC”) Landlord’s Tax Bill

November 4, 2022 Real Estate Real Estate Blog

Although many real estate professionals are familiar with the withholding requirements under the Foreign Investment in Real Property Tax Act (FIRPTA) when a non-resident alien (“NRA”) or foreign corporation (“FC”) sells U.S. real property, a less-often discussed topic is the similar withholding required when a NRA or FC owns and leases real property to a third party. In recent years, the IRS has intensified its review for compliance on both of these rules. As such, if you are a property manager or tenant, you should make sure you understand your obligations when paying rent to a landlord who is a NRA or FC.

Unless otherwise exempt, a NRA or FC is generally subject to a flat 30% income tax on gross income (including rental income) generated by U.S. real property and not connected with a US trade or business. All persons having the “control, receipt, custody, disposal, or payment” of rental income subject to the tax, which includes tenants and property managers, must withhold the tax from rent payments to the landlord. Like FIRPTA, tenants and property managers who fail to withhold are personally liable for the tax if their landlord, who is not otherwise exempt, fails to pay its tax bill!

Property managers and tenants should take the following steps if they think their landlord might be a NRA or FC:

  1. Determine whether your landlord is a NRA or FC
    • Note, even a domestic entity can be subject to withholding if it is a flow-through entity and the beneficial owner is a NRA or FC
    • If your landlord is a U.S. taxpayer, request a Form W-9 or Certificate of Non-foreign status specifying, at least, the landlord’s name, address, and TIN.
    • If you are still negotiating the lease or property management agreement, consider requiring a representation by the landlord that it is not a non-resident alien or foreign corporation for purposes of 26 USC 1441 and a promise to provide a W-9.
    • Even if the landlord confirms that it has U.S. taxpayer status, you must withhold the 30% tax if you know or have reason to know that a claim of U.S. status is incorrect, using a “reasonably prudent person” standard.
  1. If your landlord is a NRA or FC, determine whether your rental income is exempt from withholding
    • Even if the landlord is a NRA or FC, rental income is not subject to withholding if it is either: (i) obtained in connection with the landlord’s U.S. trade or business or (ii) passive income, but the landlord elects to treat it as business income under Section 871(d) or 882(d).
    • If the NRA or FC landlord claims the rental income is exempt, you should request a Form W-8ECI, which the landlord is required to provide, and keep it in your file.
  1. If the rental income is subject to withholding under Section 1441
    • If a landlord’s rental income is subject to withholding, you should request a Form W-8BEN (for NRAs) or Form W-8BEN-E (for FCs), which the landlord is required to provide.
    • You must send the withheld tax to the IRS, along with a completed Form 1042. You should consult an accountant for assistance with completing the appropriate forms, meeting filing deadlines, and confirming no exemptions apply.
    • Property-related expenses paid by the tenant, such as property taxes, insurance, or maintenance, are generally included in the landlord’s gross rental income and subject to the 30% withholding.

For NRA or FC Landlords:

  1. Make sure you provide your tenants and property managers with the appropriate forms designating your taxpayer and withholding status.                                                                                                                                                                                                                                                                                              
  2. Consult with an accountant or tax attorney about whether you should make a Section 871(d) or 882(d) election to avoid the flat 30% tax on rental income and claim additional deductions related to the property.[1]                                                                                                                                                                           
  3. Note, you may be exempt from the 30% tax or eligible to be taxed at a reduced rate under a tax treaty between the United States and your country of residence.

[1] Note, to make an election under Section 871(d) or 882(d), you must obtain an EIN (or ITIN for FCs) and timely file a U.S. tax return.