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January 22, 2016 - Phil Hodgen

Nonresident investors, U.S. real estate, and secrecy

Hi from Phil, and welcome to the Friday Edition. Every other week you get something about International Tax from me. And every now and then, a Jello Shot from a random airport somewhere. If you want these to stop, just click the unsubscribe link at the bottom of this email.

Nonresidents, Secrecy, and U.S. Real Estate

Your U.S. government (say that in your best reverberating sports stadium announcer’s voice, the way the guy says “Your Los Angeles Dodgers”) is on the move again.

More “transparency for thee, but not for me” stuff from Your Public Servants.

This time, it is aimed at nonresidents who buy U.S. real estate through holding structures that obscure the true owner’s identity.

Background

TL;DR

  • If you are a nonresident investor in U.S. real estate, think about your exit strategy.
  • If you are thinking about making investments in U.S. real estate, expect your identity and investment to be disclosed to your home country.
  • If you are a real estate professional, your life will be more complicated and have higher personal risk if you are not careful and methodical.
  • This will reduce capital investment in U.S. real estate at the margins; slowly, at first. I don’t know how much, but some people will be deterred.
  • “Bad people, dirty money, go away.” Meh. Go read Marcus Aurelius.

Recommendation

If you are a nonresident with U.S. real estate investments, fix your messes now. If you are thinking about investing, think carefully. If you are a real estate professional, up your game, because life is getting more complicated.

What Is Happening

FinCen is an arm of the U.S. Treasury. Here is what it does:

FinCEN’s mission is to safeguard the financial system from illicit use and combat money laundering and promote national security through the collection, analysis, and dissemination of financial intelligence and strategic use of financial authorities.

This agency is running a limited-time test in Miami and Manhattan. It will run from March until August, 2016.

Title insurance companies will be required to disclose the identities of the buyers when there are certain types of all-cash transactions. In short, if you are using a holding structure, the U.S. government wants to know who is behind it.

In short, if you are buying a property in those two markets in this time frame, you will be disclosing your identity to the U.S. government.

Read the PDF that I linked to in order to get the details.

Why?

The PDF tells you why FinCen is doing this.

Prevent money laundering in the USA

They think that all-cash real estate purchases are a great way for foreign individuals to launder money. They are thinking of corrupt politicians, drug traffickers, etc. All the usual bogeymen.

FinCen wants to make it impossible for money laundering to occur in the United States.

IMPORTANT. Note that complete compliance with U.S. law is not what they’re going after. They are going after bad stuff that the foreign investors did outside the United States. I will tell you why that is important in a moment.

Find people like me

The other reason that FinCen is looking at these transactions is to find the people they call “enablers”. These are accountants, lawyers, bankers, etc. who are involved in these real estate transactions.

The theory is that if you find one bad “enabler” you will find a bunch of people he or she has helped.

Once they find those people, the U.S. government squeezes them. Hard. Exhibit A: Swiss banks.

IMPORTANT. Note that secrecy does not help you. It hasn’t for a long time. (Secrecy as a tax planning strategy is a fool’s game). Watch carefully who you work with.

Why FinCen Wants Information

Two reasons:

  • To get, you must give.
  • Embarrassment.

Share Information With Foreign Countries

The U.S. government wants this information because it wants to give it to foreign governments.

FATCA agreements provide the pipeline for information flow from foreign banks to the United States.

Governments in other countries, naturally, want information flows in their direction. They want information about their taxpayers and financial activity in the United States.

If the U.S. government does not give information, it will not get information via FATCA. Simple enough.

Embarrassment

The U.S. government also wants this information because there is a persistent but apparently effective public relations campaign that paints the United States as a good place to hide money. “No one knows who owns that LLC.”

This is embarrassing. To be pushing high-minded morality and transparency but not live by those principles? Awkward!

What Will Happen In The Long Run?

Unlike financial investment advice, past performance is entirely predictive of the future, when it comes to government policy.

Here’s my prediction:

  • The test drive will be extended and expanded. FinCen will want more data. Expect other markets (in California and Texas especially, I would guess) to be added to this program. Reason: look how the IRS handled its Voluntary Disclosure Programs as a method for data collection on taxpayers and “enablers”.
  • Rules will be written to force all of the professionals involved in transactions to provide the information the government wants — on pain of personal liability (financial or freedom). Reason: when all you have is a hammer, everything looks like a nail. The only thing bureaucrats can do is write rules.
  • The scope of transactions that this covers will be expanded. It won’t just be high dollar residential transactions for cash. Every real estate transaction will eventually be included (with maybe some low-dollar thresholds that are excluded). Reason: scope creep; if it can be done, it will be overdone. Exhibit A: the Internal Revenue Code. Exhibit B: surveillance in the Land of the Free.
  • The United States will be proactive in sharing information about foreign real estate investors with their home countries.
  • In order to make this all work, a FATCA-like withholding system will be imposed on all foreign real estate investments. “Yes you can sell your U.S. real estate and get your money out of the United States, but it will cost you 30% off the top nonrefundable, or you can tell us who you are.” Something like that. Reason: FATCA withholding. Works like a champ. Let’s do it again!

What Does It Mean To You?

What does all of this mean?

I think the first important point is that you can see down the road. Look at what happened to U.S. taxpayers and Swiss banks since 2007 and the beginning of the saga in Lichtenstein.

Imagine if you could have foretold the future and made some prudent moves early.

With that in mind, here is something for you to think about. (For various defined values of “you”.)

Existing Investor, Worried

If you are an existing investor with U.S. real estate and you are worried about something in your home country, you have two choices:

  • Eliminate the source of worry in your home country (this is sometimes impossible, even if you want to); or
  • Eliminate the source of information leak by getting rid of your U.S. real estate investment.

Getting rid of worries in your home country — this is a topic that is too vast to even think about covering. It can be a surprisingly subtle and sometimes sympathetic problem, despite the puritanical views of bureaucrats, press, and do-gooders.

Existing Investor, Not Worried

If you have U.S. real estate investments and you are unconcerned with full details about it flowing back to your home country, all is well. For now.

These people remind me of the ones that condone NSA surveillance because “I have nothing to hide”.

Or, as Cardinal Richelieu said:

If you give me six lines written by the hand of the most honest of men, I will find something in them which will hang him.

Future Investor, Worried

If you are a future investor in U.S. real estate, expect your investment information to bleed back to your home country. If that worries you, then your choices are to:

  • Eliminate the source of worry in your home country; or
  • Avoid U.S. real estate as an investment.

Do not expect clever lawyer tricks or front-men to solve the problem. You have not solved a problem by putting a “trusted” person as the visible investor, with you behind it. You have merely increased its attack surface.

This is not to say that you avoid using holding structures and agents. You can use these tools — and more. They can provide good tax saving, liability protection, and management solutions.

Just be sure, when you do something, that you are prepared for the day when you need to explain what happened.

Real Estate Professionals

In the same way that FIRPTA withholding become the personal liability of a withholding agent if done incorrectly, real estate professionals should expect several more high-risk items to land on their checklists. You are in a regulated profession. Regulators gotta regulate.

There are skanky transactions going on out there. I hear about them. Don’t participate.

When you handle new transactions, know who you are dealing with. Watch for new paperwork requirements, and handle them.

For great professionals this will be a boon. Higher friction costs and more complexity will weed out many competitors.

The Market

I’m curious about this. I wonder whether the luxury home market will top out, and maybe decrease.

When I look at high end real estate (we do a lot of it, by the way, so Hello FinCen we will probably be on your lists), it is abundantly obvious to me that these are not people buying homes. Not even second homes. Not even sixth homes.

Many of these purchases are flight capital.

They are investments with a twist. They are investments by nonresidents looking to reduce economic risk by parking capital in U.S. dollar-denominated assets.

And they are investments that are designed to reduce political and economic risks.

As soon as you say “flight capital” you can imagine that what is legitimate today on another country may someday be claimed (by the successor government in another country) to be illegitimate.

What happens then? Does the U.S. government share information with the new government about you and your real estate investments?

I think this will have a tiny effect on the market for high-end houses. Not much at first, but more as time goes by and people start to understand the game-changer that is unfolding in front of us.

Recommended: Bose Soundlink Mini II Bluetooth Speaker

I received a great Christmas present from my family: a Bose Soundlink Mini II. This is a bluetooth speaker that runs on batteries; you recharge it with a micro-USB cable plugged into a pouwer source. The speaker is surprisly tiny and sounds great — it punches out a lot of bass.

I took the speaker with me on my recent trip to the Middle East. I used it incessantly in my hotel room, streaming Spotify from my phone or my laptop. I have niche tastes in music (hehe, try Ben DJ “Do It Anyway” (YouTube) or listen to Groove Salad on SomaFM).

My own streaming soundtrack is vastly preferable to being awakened by jet lag and listening to my brain talk to me until dawn.

This goes counter to my “pack as little as possible” mantra, I know. But adding this one (semi-heavy) item to my backpack this trip made things a little bit better.

Pro-tip: if you’re going through the German equivalent of TSA screening in Frankfurt, don’t forget to take the speaker out of your backpack when you empty out the two mobile phones, laptop, and Kindle. This cost me a “let’s go take a look at everything you have in this backpack” detour on my way to catching my connecting flight.

I only made that mistake once. Oddly, this didn’t trigger any problems with the LAX TSA. I left the speaker in the backpack and it went through without an issue.

Until Next Time

That’s it for me. I am writing this at the Al Faisaliah Hotel in Riyadh, before dawn. Streaming Groove Salad through my Bose speaker and listening to the call to the pre-dawn prayers outside.

See you in a couple of weeks.

Phil

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