State and Federal taxes

State and Federal taxes

INTRODUCTION

INTRODUCTION We analyze for you the main state and federal taxes in force in the USA.

The foreigner who invests in the USA must take into account different tax implications, both if he intends to purchase a residential apartment to make income and if he has the ultimate goal of opening a commercial activity in the United States. Five are the most important American taxes to keep in mind: i) FIRPTA, ii) Income taxes (Income tax), iii) Capital gains (Capital gains), iv) Sales taxes (Sales Tax) and v) Transfers fees (such as inheritance taxes, gift taxes and transfer fees for subsequent generations). The objective of this article is to provide a brief description of these taxes and the implications they entail for the foreign investor. We will also provide advice on how to effectively carry out tax planning for your investment in the United States. Tax planning, when done correctly and intelligently, can in fact minimize the tax liability generated by your investment in this country.

FIRPTA

The US tax department provides specific regulations for foreigners who sell a property in the United States. Upon sale, the buyer is required to withhold and subsequently pay to the American Revenue Agency (Internal Revenue Service or IRS) a sum equal to 15% of the purchase price of the property as a preventive payment of the taxes due by the seller on the profit from the sale. For example: if Tizio bought an apartment in New York for USD 800,000 in 2016 and decides to resell it to Gaius after 2 years for USD 1,000,000, Gaius is required to withhold USD 150,000 at the source and remit that amount to the IRS as estimated taxes on the profit that Tizio obtained from the sale of the property. In truth, in this specific case, the taxes that Tizio should pay on the proceeds from the sale are around USD 40,000. However, due to a lack of tax planning, an additional sum of USD 60,000 will still be withheld by the IRS in advance. It should be noted that this withholding by the buyer is due even if the property is sold at a loss. The foreign seller will be able to recover the sum paid in advance by the buyer only at the time of presentation of his annual tax return, through a specific request for return to the IRS. Only in this declaration, in fact, will the tax on the gains from the sale be correctly calculated and given the possibility for the seller to obtain a refund. Please note that the entire procedure can take up to 18 months from the time of sale. Nine times out of ten a refund is actually required, as, in most cases, the amount retained in advance by the buyer is greater than the actual tax payable by the seller. With proper tax planning it is possible to avoid the application of this mandatory withholding tax. Two solutions for this purpose are to obtain a certificate of retention before the date of sale or to own the American property through a tax-effective structure. The most suitable solution will depend on your specific situation and must be tailored to your needs.

INCOME TAXES

Whenever you are conducting a business in the US, either "active" (as in the case of an ice cream shop), or "passive" (as in the case of a rented apartment), it is mandatory to pay taxes on the profit generated by the business . While almost all foreign investors are aware of having to pay taxes on the income generated by an active business, they do not always know that they have to pay taxes even on the income generated by a passive business (for example the income from the rental of a apartment in South Beach). Even if the lease lasts only one month, you may be obliged to report this income. Nevertheless, in most cases, you will not be required to pay any fees, thanks to various deductions available for property owners. While it is true that both Italy and the United States charge taxes on income generated by commercial operations in the United States, this does not necessarily mean that taxes must be paid in both countries for the same profit. The United States and Italy have signed a tax treaty to regulate these cases. According to the provisions of this treaty, the Italian investor can receive a tax credit in Italy for taxes paid in the United States on income generated by a commercial and / or investment transaction in the US.

EARNINGS

As a general rule, a tax on the proceeds of the sale is due at the time a capital is sold. The profit corresponds to the value of the sale price (to how much the good is sold), less the so-called capital base (usually the cost of the asset). If the asset has been owned for more than a year, taxation is usually based on a preferential rate. If, on the other hand, the asset was sold within less than a year of purchase, the rates for the tax on income will be equal to the rates applied for income taxes. A typical example of a capital gain transaction is the sale of an apartment. Let's say you bought an apartment in South Beach in 2015 for the sum of USD 100,000 and did not make any improvements to the apartment. Then in 2018 you sell this apartment for USD 150,000. Since you have held the property for over a year, you will be subject to a preferential rate. The amount of the gain, in this example, will be USD 50,000, ie the selling price (USD 150,000) minus the purchase price (USD 100,000).

SALES TAXES

While many of the taxes covered in this article are national taxes, there is a local tax that is important to talk about, the sales tax. Sales tax is a tax imposed by local governments on the retail sale of goods or services. The rate of this tax is not fixed, as is the category of goods and services that fall under this tax. Every state, every county and in some cases even some cities, have authority to modify and apply a different rate. Unlike the income tax, the sales tax is paid by the final buyer and not by the seller. However, it is the seller who is in charge of collecting the fee and in turn paying it to the local authorities. For example, you open a shop in Los Angeles for the sale of tailoring clothes imported from Milan. You are the person in charge of collecting sales taxes for purchases made by customers in your store and, at a later date, paying the collected amount to the California State Department of Finance. This tax is in addition to the income tax that must be paid on the profits generated by sales in the store. For those who deal with "virtual" sales (for example via an Internet site) we have good news: at the moment there are no taxes imposed on Internet sales. However, a series of regulations that would allow the introduction of a national tax on Internet sales if the consumer is in the United States is being considered by Congress. This could result in the imposition of a sales tax on your sales to the United States.

TAXES ON REAL ESTATE TRANSFER

Unlike income taxes, this group of taxes is imposed at the time of transfer for free of properties located in the USA, such as in case of inheritance or donation. There are three types of taxes that fall into this category. Inheritance tax, gift tax and transfer tax for subsequent generations. The inheritance tax is levied on the transfer of an asset located in the United States, upon the death of the owner, such as in the case of a legacy or legacy. The general rule establishes that when a foreigner transfers the ownership of an asset of this type at the time of his death, the inheritance tax is applied. The first USD 60,000 are exempt from taxation (exempt transfer) and the remainder of the value of the asset or of the estate is taxed according to a progressive rate system, with a maximum rate of 40%. To consider, however, that Italy is one of the few nations to have signed a tax treaty with the United States, making this tax almost irrelevant. However, it is important to know what the definition of an asset located in the United States is, so that your tax lawyer is aware of it and no other tax planning tools are needed.

For the purposes of inheritance tax, the following assets are considered assets located in the United States:

  • Real estate within the borders of the United States;
  • So-called tangible mobile goods, found in the United States (for example, cash, jewelery, works of art and cars);
  • Investments in US companies, such as corporations and limited liability companies; 
  • Property shares of another person's life insurance.

The donation tax is levied on transfers of assets located in the US during the life of the donor, for a value lower than the average market value of the asset. To consider that legal persons cannot make donations, and therefore this tax is generally applicable to persons and not to companies, trusts or associations. Unlike the above for the inheritance tax, there is no treaty between Italy and the United States on the tax on donations. It is therefore necessary to pay particular attention when transferring an asset located in the United States for a value lower than the market value. Furthermore, unlike what was said for the inheritance tax, the amount of the exemption is only USD 14,000 per year and per person.

For gift tax purposes, the following assets are considered assets located in the United States:

  • Real estate within the United States border; 
  • So-called tangible mobile goods, found in the United States (for example, cash, jewelery, works of art and cars);

As an example, if you owned a second home in Los Angeles, valued at USD 500,000 and would like to donate it to your daughter, the tax on this donation would be around USD 200,000. In such a scenario it is understandable the need to resort to careful tax planning to minimize the tax consequences, such as selling the house to your daughter or donating only part of it. The transfer tax to subsequent generations is a tax that is imposed in addition to the inheritance tax and the gift tax. This tax is levied on transfers to the second or subsequent generations. These transfers are taxed at a flat rate of 40%. The assets in question will be valued at the average market value. Going back to the example above, if instead of donating the Los Angeles home to your daughter, you wanted to donate it to your nephew, you would have to pay an additional 40% fee because the donation is made to your nephew (you are actually doing a donation to a subsequent generation, from which the tax takes its name). This tax is in addition to the tax on donations that is still due.

INVESTING IN THE UNITED STATES

The United States is considered as a country with great attractions for foreign investors. Tax planning cannot guarantee a perfect investment, but it certainly can guarantee an efficient investment by minimizing the taxes due and at the same time protecting the investor from unpleasant surprises.