Here’s a problem that comes up again and again, so I am going to solve it for the interwebs once and for all.
Let’s take a common situation. A nonresident of the United States creates a Bahamas corporation to buy U.S. real estate. The Bahamas corporation is the owner of the real estate.
Later, the nonresident decides to sell the U.S. real estate. Technically, the seller is the Bahamas corporation, since the Bahamas corporation is the true owner of the real estate. As is normal, 10% of the sales prices is withheld for Federal income tax.
No income tax returns is filed in the United States for the year in which the real estate is sold. This may happen because the person did not know of the requirement, or because the person had a busy life full of other things that had to be done.
Then, a few years later the person remembers the amount of tax withheld and wonders if some or all of it can be claimed as a refund.
U.S. tax law is designed to treat nonresident owners of real estate exactly the same as residents. In theory, two identical real estate investors (one a resident, one a nonresident) should pay exactly the same tax on the capital gain made when real estate is sold.
In the case of a U.S. resident who sells a piece of real estate, there is no requirement of tax withholding. The U.S. government is confident of its ability to collect tax on the sale. Why is the government so confident? Simple. The U.S. resident faces a very real threat of imprisonment if taxes aren’t paid. 🙂 And if not imprisonment, then forcible collection of the tax by assorted means.
With nonresidents, the U.S. government is quite certain of its inability to collect tax on sale of the U.S. real estate. A nonresident can sell U.S. real estate, wire the money to his/her/its home country, and never set foot in the United States again. Avoiding the tax is trivially easy, and the U.S. threat of imprisonment or forcible collection is laughable to someone who will never set foot in the United States again.
That’s why withholding exists for nonresidents.
The “10% of gross sale price” withholding is not the nonresident’s final tax liability. It is a credit against the actual tax liability that is computed for the sale.
The nonresident is required to file an income tax return (Form 1040-NR for humans, Form 1120-F for foreign corporations) in the year of sale. On this tax return the nonresident calculates the actual capital gain and the tax due on that gain.
The rules for claiming a tax refund apply to nonresident investors in U.S. real estate in exactly the same manner as they apply to U.S. residents.
If you believe you are entitled to a tax refund, there are time limits for claiming that money. If you never filed a tax return, the time limit is two years from the date that the tax was paid.
You sold U.S. real estate in October, 2001. That means you paid the 10% withholding tax in October, 2001. You have until October, 2003 to claim a refund of the tax.
You sold U.S. real estate in October, 2008. That means you have until October, 2010 to claim a refund of the tax.
File your tax return promptly and claim the refund if you are entitled to it.
Related recommendation: if you are in the middle of a sale transaction now, consider using the procedures of Form 8288-B for reducing withholding tax in the first place.