How Is Foreign Real Estate Taxed in the US?

Arin V., EA , MBA

Arin is an Enrolled Agent (EA), authorized to represent taxpayers in front of the IRS, and holds a BA and MBA (Management) degree from California State University, Northridge.

For many, if given the opportunity, the lure of being an expat is simply too much to resist. Indeed, with the variety of cultural experiences, job prospects, and travel opportunities available to one who becomes an expat, it’s admittedly difficult to refuse this often-scintillating lifestyle. Similarly, one of the most appealing things about being an expat is the fact that it opens up more investment avenues for you; in particular, in the area of real estate.

But how is foreign real estate taxed and reported in the U.S.? This depends on various factors, such as whether the property is a rental property, whether it is owned personally or through an entity (such as a corporation), and whether the property is sold for a gain (or loss).

If you are a U.S. taxpayer and you simply own a home overseas in your own name, and you do not rent out the property for income, then there is nothing to report. This would be the case whether you owned one property, or ten properties. However, if you have foreign real estate that produces income, the income and expenses will need to be reported on Schedule E of Form 1040, just like it would if you had a rental property in the U.S. The good news is that you will be able to deduct expenses such as mortgage interest, property tax, management fees, and even depreciation. Please note that when taking a depreciation expense for a foreign property, that the time period for depreciation is 30 years, as opposed to 27.5 years for a U.S. rental property. 

If you sell a property that you own overseas, you will either have a capital gain or capital loss. This, of course, will need to be reported on Schedule D, Form 8949, or Form 4797 of your U.S. tax return (depending upon whether the property was placed into service as a rental property). If the foreign property was your main residence, then you may qualify for either a $250,000 (if filing Single) or $500,000 (if filing Jointly) gain exclusion on the sale of the home, just as you would if you had your main residence in the U.S. 

In terms of deductions on a foreign property that is not a rental property, you may deduct mortgage interest (on the first $750,000 borrowed), but, due to recent changes in the tax code, you will not be able to deduct foreign property taxes on your U.S. tax return anymore. 

If you own the foreign real estate through an entity, such as a corporation, then you may have to report the property on Form 8938, a form that is normally reserved for reporting of foreign financial assets over a certain value. What’s more, if you set up a foreign entity and purchased the property through that foreign entity, you may also have a Form 5471 filing requirement to report the ownership in that foreign entity. 

But how about selling a foreign investment property and then purchasing another one? In this scenario, you could perform what is called a 1031 exchange, whereby you sell the foreign rental property and buy another foreign rental property (certain criteria must be met for the exchange to qualify as a 1031 exchange), and postpone the capital gains. However, please note that when selling foreign property for a 1031 exchange, the replacement property must also be a foreign property. 

Another potential minefield for U.S. taxpayers is the fact that if you sell a foreign property, and the funds get deposited into a foreign bank account, then you will likely also have a Form FinCEN 114 (FBAR) and/or Form 8938 filing requirement to report the balance in the foreign bank account.

Therefore, as you can see, there may be numerous forms to fill out if one owns foreign real estate, such as Schedule E, Form 8938, the FBAR, Form 5471, and so forth. Given the multiple scenarios that may occur when one invests in foreign real estate, and, more importantly, the massive penalties that are levied for the non-filing of foreign tax forms such as Form 5471 and Form 8938, it makes sense to have a professional team on your side that is well-versed in dealing with the reporting of foreign real estate and assets. Please get in touch today to discuss your options around reporting foreign real estate, and let us handle the compliance aspect of it while you enjoy the splendors of investing and living in foreign real estate.