Real estate in the US is heating up, and many areas are seeing record prices. That presents an opportunity for foreigners investing in US real estate. There are, however, a few things a foreign investor in the US considering real estate purchase should keep in mind.
If you are a foreigner and looking to purchase real property in the USA, here is some general advice to help your experience proceed as smoothly as possible.
Table of Contents
- Why Invest in the USA?
- Can Foreigners Invest in US real estate?
- Where Purchases Might Be Restricted
- Other Investment or Ownership Challenges
- Navigating Taxes
- Types of Real Estate Investments in the US for Foreigners
- Individual Direct Ownership
- Corporate Indirect Ownership
- Types of Real Estate Investments for Foreigners
- Residential Development
- Final Thoughts
Why Invest in the USA?
The US market for real estate is one of the most vibrant, busy, and profitable markets in the world. In fact, at the end of 2021, the US residential real estate market alone was worth over $40 trillion.
To put that in perspective, the US Gross Domestic Product is slightly over $20 trillion.
Can Foreigners Invest in US real estate?
The USA has an open economy. While many countries have laws that prohibit non-citizens from investing in real estate, the USA regards real estate sales to foreign buyers and investors as the same as sales to US citizens.
That means the answer to the question “can foreigners buy property in the US?” is yes, but with some caveats.
The first is the real estate investor or purchaser must abide by the rules and the law. The second is that the real estate investor or purchaser must abide by all taxation requirements and municipal, state, and federal tax regulations, penalties, and processes.
Where Purchases Might Be Restricted
As a matter of legality, a real estate buyer or investor might run into purchase prohibitions, or restrictions are when dealing with property management associations. In the US, there are three main types of property management associations:
- Homeowners Association
- Condominium Associations or Cooperatives
- Community Associations
These associations are legal entities that oversee the management of specific properties. A homeowners association, for instance, will supervise a home development community.
A condo association will oversee a condominium building. There are several types of community associations that are legal entities and manage properties or buildings.
The property owner and management associations cannot discriminate based on race or ethnicity (as well as gender, religion, political affiliation.) These groups do, however, wield a sizable amount of control.
Most associations have mandatory membership for all property owners or investors. Theoretically, property owners see increased value in their properties because of the associations.
Because of that, many associations have specific and firm rules.
These can be simple, like banning loud noises past acceptable nighttime hours. They can also be behavior limiting, such as prohibiting installing a swimming pool in a backyard.
For owners, along with the membership requirements, attending monthly maintenance meetings or at least the annual meeting is a good idea.
In some cases, it is mandatory. It is also in the best interest of the property owner or investor to attend.
Association Ownership Prohibitions
In some states, associations can restrict or even prohibit property ownership. The stated purpose of these rules is to prevent absentee ownership whereas enforcing Association rules is almost impossible.
Other Investment or Ownership Challenges
Foreign real estate purchasers and investors may find purchasing property in the USA very different from what they are used to in their own countries.
Here is a quick summary of some of the challenges a foreign real estate buyer or investor may face.
Securing Bank Loans
A foreign investor in the US generally has a more challenging time accumulating funding for real estate purchases. The reasons are simple.
Banks have little recourse if the foreign investor defaults on the loan. In addition, for many banks, verifying potential borrower data can be challenging.
For that reason, many US domestic banks will not lend to a foreign investor without significant scrutiny and requirements. Those additional requirements could be:
- Higher required down payments to qualify for a loan
- Higher loan interest rates allow the bank to get its money back quicker
- More paperwork to prove loan worthiness
- An American co-signer for the loan
- US-based collateral
The foreign real estate investor or property buyer may also be limited in what banks can do business with them because of Freddie Mac and Fannie Mae. Both Freddie and Fannie buy mortgages from lenders and banks and use them to create bundled securities.
Neither will purchase mortgages from non-US citizens, which means the borrower has to find banks that do not sell their loans to Freddie or Fannie.
In addition, many banks will not lend to a foreigner if that person has not paid taxes in the USA. Additionally, credit ratings help banks determine creditworthiness.
Many foreigners do not have a credit rating recognized by American banks. A foreigner with no American bank-recognized credit rating must jump through hoops to provide a lot of additional financial data proving a loan to them is a low risk for default.
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Closing and Loan Taxes and Fees
A foreign US real estate investor or property buyer will also have to assume some fees as part of the entire property buying and selling experience.
These come in four forms:
- Local and state taxes and fees
- Real estate commissions
- Home and property inspections
- Banking fees
The local and state taxes are transfer taxes to transfer a title for a home from the new buyer. Real estate commissions get factored into the home sale, but that also raises the cost of the property.
Home and property inspections are mandatory in some municipalities, but even if they are not, it is a good idea to get them done anyway.
A buyer does not want to find out the property or buildings have significant problems after the sale. The buyer usually pays for home inspection costs because they benefit the most if the inspector finds any issues.
Other banking fees include:
- An appraisal charge
- An origination fee
- Prepaid interest costs
- Closing fees
- Insurance fees
These fees are also why a bank might charge more to a foreign property investor than to a domestic buyer.
State and Federal Considerations
While foreigners can purchase any property on the market in theory, there are instances where state, federal, public safety, and national defense concerns factor in.
Examples of cases where there may be restrictions on foreigners or Americans buying property include, but are not limited to:
- Property purchases near nationally sensitive property (military bases, restricted areas)
- Land purchases near airports and marine ports
- Potential national defense concerns (nuclear reactors, reservoirs, etc.)
- State or municipal property that is sensitive (near drinking water reservoirs, etc.)
Another area that may have restrictions on foreigners purchasing properties is municipal property. Examples would be a property embroiled in eminent domain processes, municipal drinking water sources, or public health and safety-oriented properties.
Taxes associated with property purchases, title transfers, and property sales are another challenge. A foreign property buyer must comply with US taxes, which often confuse American citizens. Someone unfamiliar with the American taxation system has no chance.
Every foreign real estate investor or buyer must have an Individual Tax Identification Number (ITIN.) The ITIN is required even though the foreign individual may not have a green card. The reason for this is the federal tax system. The IRS likes to know who potentially owes it money.
Other taxes that could affect a sale are:
- Property taxes
- Transfer taxes (mentioned above)
- Real estate Capital Gains tax
- State and Federal estate taxes and fees
- State and federal income taxes
Property taxes in the USA vary from state to state. Some states rely on the property tax as a principal funder of state and local government. In many states, property taxes support the local public education system.
Transfer taxes fund the process of transferring a title from one owner to a new owner. Local municipalities usually collect transfer taxes, even if the revenue ends in state coffers.
Capital Gains Taxes
Capital Gains taxes apply to some profits made on a real estate investment.
If you buy a property for $300,000.00, for example, and sell it for $800,000.00, you would pay the Capital Gains tax on the profit you made from the sale. If you lose money on the sale of real estate, you owe no Capital Gains taxes.
State and Federal Estate Taxes
State and federal taxes apply to estates if the property exceeds a statutorily defined value. The amount owed varies, but it can be as high as 40 percent of the property value.
Municipalities assess properties and homes to come up with an assessed value. In most cases, an initial payment of a portion of the assessed property taxes is due at the property sale closing.
State and Federal Income Taxes
If a foreign investor in the US rents a building or home, it is considered source income and subject to local, state, and federal incomes taxes.
Types of Real Estate Investments in the US for Foreigners
Corporate holding structures provide tax and general liability relief. Holding structures are also a great way for an investor to stay off of any public disclosure documents. Many foreign investors utilize corporate structures, especially if they own multiple properties.
Individual Direct Ownership
An Individual Direct Ownership holding structure lets a foreign property buyer or investor own real estate in the USA under their name.
The benefit of the Direct Ownership approach is that it helps control costs. It comes, however, with liabilities.
The long-term benefits are almost nonexistent and expose the property owner to liability, estate taxes, and state and federal tax reporting requirements.
If the property is ever rented out under a direct ownership holding structure, the owner is responsible for income tax. In addition, liability protections are limited.
For example, if a tree falls during a storm and hits the house on a property under individual direct ownership, the owner is liable for all repairs unless it is covered by insurance.
If the property is rented and one of the renters damages the property or rental units, the owner can sue the renter, but there is not a lot that can be done if the owner is thousands of miles away.
Corporate Indirect Ownership
Corporations are exempt from paying the US estate tax, which makes a Corporate Indirect Ownership holding structure very attractive.
Limited Liability Company (LLC)
An LLC provides the lowest amount of income tax exposure compared to other corporate holding structures. It also limits wealth liability for investors, which is tied to the property value. Most importantly, an LLC helps investors or a foreign property owner to control liability exposure.
All the property owner’s property and associated assets are protected under an LLC.
That means if damages occur to the property, the LLC members are not responsible. If a renter damages a property or the personal property of other renters (or community members,) the LLC members are not held accountable.
Additionally, an LLC allows for ownership privacy. A foreign investor could purchase a property and remain anonymous by hiring a management company to oversee the property.
An LLC member also does not have to register their name on any government registry. The entity owning the property would appear as the name of the LLC.
A downside with LLCs is the liability for the estate tax. Additionally, any owed income or sales taxes for the property are levied on the LLC and due in the normal tax payment processes.
US Blocker Structure
A US Blocker Structure allows a property owner to avoid paying the estate tax. It affords almost complete privacy and asset protection. After a five-year waiting period on the sale of the property, the proceeds can be distributed to the owner with zero tax consequences.
The downside is having to wait for any sales proceeds and it will owe very high capital gains taxes when the property is sold.
A Leveraged Blocker is a holding structure that is similar to a US Blocker structure. There are some differences, and a Leveraged Blocker is only recommended in certain circumstances.
Specifically, a property buyer would set up a Leveraged Blocker if they were making multiple real estate investments or when the investments involve multiple investors or specialized funds.
The benefit of a Leveraged Blocker is that the overall effective tax rate is lowered significantly and there is limited liability protection.
A major downside, however, is that the foreign property investor must have a US corporation in addition to the Leveraged Blocker. Part of the investment amount must be loaned to the corporation. That provides certain tax deductions as well as being able to deduct loan interest.
Types of Real Estate Investments for Foreigners
The USA real estate market is wide open to foreign investors and property buyers and that reality opens a lot of property buying options. The following are the major forms of property.
Residential property comes in many different forms.
Single-family homes: Whether to live in, rent out or remodel and sell, single-family homes are the largest swath of real estate sales in the country.
Apartment Building: These are great investment opportunities, but do come with the trade-off of having to keep them up. As an investment, these are some of the most popular options.
Condominiums: These are as popular as apartments although the ownership structure for each unit is different. These also have to be maintained.
The issue with condominiums is much like those with Homeowner Associations and the expectations the owner of a property will be present and an active participant in the management of the building.
Cooperative: A cooperative is a homeownership option where a foreign investor would become a shareholder of a corporation that purchases a larger, usually multi-home property. Cooperatives are great from a capital perspective as other traditional forms of real estate.
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Another vein of residential homes is purchasing a tract of land zoned for residential use and parceling it off to accommodate multiple, zoned plots of land. The plots are then developed and buildings are constructed on them or the parcels are sold off for buyers to build on them.
For a foreign investor or property buyer, a development arrangement makes a lot of sense provided the buyer has:
- A management company that oversees the development of the land, including ensuring compliance with laws, permit requirements, taxes, etc.
- Contractors that can do any required building on the land
- Sales personnel that can sell plots or homes on the land
There are a few options in regards to the type of buildings that can be constructed on development land.
Single-family homes: These are new construction homes that are then sold separately.
Manufactured housing: Manufactured housing is fabricated in a factory and delivered to a job site. Construction personnel installs all infrastructure like links to sewage, water, etc.
Apartment Buildings: These types of construction projects are a little more complicated, but a foreign investor can build apartments and/or condos for individual purchase or rent.
Converted rental space: In this scenario, the property buyer or investor purchases existing buildings and converts them to residential facilities.
Commercial property is specifically zoned as such. It can include developable land, existing storefronts or buildings, or new building construction. This can be done directly or via crowdfunding platforms such as Diversyfund.
Here are a few examples of commercial uses for property purchases.
Agricultural: This falls under land development, but an investor or individual buyer can rent the land to develop crops or raise livestock. The arrangements for this type of use are usually a lease or rental agreement.
Commercial Construction: This entails constructing buildings, remodeling existing structures, or developing land that complies with commercial zoning regulations.
- Strip mall retail space construction or renovation
- Older building renovation
- Business rentals of new or existing space
- Parking facilities
Industrial: Industrial space also has several categories, including
- Undeveloped land that is split up and zoned for commercial use
- Warehouses, which serve as repositories for supplies or fulfillment processes
- Factories: These can be built or pre-existing and converted
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There are many options for foreigners investing in US real estate. The USA welcomes foreign investors and property buyers as long as each adheres to local, state, and federal law.
The key to looking at opportunities for investing in US real estate for foreigners is that they have competent representatives working out all the details of the various property types.
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Kyle Kroeger, esteemed Purdue University alum and accomplished finance professional, brings a decade of invaluable experience from diverse finance roles in both small and large firms. An astute investor himself, Kyle adeptly navigates the spheres of corporate and client-side finance, always guiding with a principal investor’s sharp acumen.
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