Hey, Mr. Taxman
We sit down with a U.S. tax expert to
answer your real estate questions
Benjamin Franklin said it best: “In this world, nothing can be said to be certain, except death and taxes.”
But if you’re a U.S. citizen who owns property in México, those certain taxes can feel quite confusing. And, in fact, you may need to file information about your México property on your U.S. taxes.
Luckily, I know an expert who is my go-to resource when clients have questions about their U.S. tax reporting responsibility. Don D. Nelson is a U.S. tax attorney and certified public accountant who has specialized in tax issues for expatriates for more than 35 years. He is considered the foremost authority on U.S. tax issues involving Mexican real estate. We posed four scenarios to Nelson, all true situations involving real clients. Here is his advice to them.
“Help! We’ve owned a house in Cabo for five years and never mentioned it on our taxes. We just changed accountants, and the new one says we should have. She says we may be in big trouble and face huge fines for failing to report it.”
The forms you will need to file, if any at all, depend largely on how you use your Los Cabos home or residence. If you own a house or condominium exclusively for your own personal use, the paperwork is minimal. Your home is not considered as asset as it is not producing income.
Americans who own property within 50 kilometers of the ocean must hold it in a trust that is known as a fideicomiso and established with a Mexican bank. As a rule, offshore trusts are of interest to the Internal Revenue Service, which requires strict reporting on the trusts. But in 2014, the IRS issued a summary judgment stating that for the purposes of taxation, a fideicomiso is not considered a trust as there is no income involved. Translation: It is no longer necessary to file forms 3520 and 3520A (beneficiaries of a foreign trust). Your tax return will only be affected if you deduct the property tax you pay in México or the interest from a mortgage on the property.
“We’re buying a condo and plan to rent it out when we’re not using it. Our realtor keeps bugging us to consult a tax adviser. Why?”
Many U.S. citizens who own in México rent their properties out when they are not using the homes themselves. That situation triggers tax issues on both sides of the border. On the U.S. side, you will need to use form 1040 Schedule E to report income or loss and expenses. You will work with a Mexican firm to pay tax on your rental income; you will collect and pass through both IVA (sales) tax and the lodging tax. You will report your Mexican taxes paid on the income on form 1116, which will allow you to use that amount as credit toward taxes owed in the United States. If the property is owned in a Mexican corporation, you must file form 5471 with your personal income tax return and the net income from the property may or may not be subject to U.S. income tax. You may also be eligible to take certain deductions concerning the property, including trips to inspect or repair the condo.
“I purchased a house via a ‘presale’ contract. I made a deposit of 30 percent of the purchase price this year, but the house won’t be delivered for 18 months. When do my tax obligations kick in?”
This could be construed as a foreign financial asset if the funds are on deposit in a foreign financial account. If the amount of the deposit exceeds $10,000 U.S. when combined with your other foreign financial accounts, it needs to be reported on form 1114 in order to avoid a potential penalty of $10,000 U.S. or more. If the amount is high enough and depending on whether you live in México or the United States, it might have to be reported on form 8938 to avoid the same large penalty. Form 1114 (FBAR) is filed online only, and the 8938 is filed with your personal tax return.
“I’m selling my house, and the real estate agent says I’ll owe taxes even though I’m not making anything on it. Why?”
You would think everyone is happy when the exchange rate goes up: You get more pesos for your dollar. But if you are selling your property, a high exchange rate works against you. Because the sale is recorded in México in pesos, on paper it appears you made a large profit even if in dollars you are only breaking even. The good news is the tax you will be charged on the profit in pesos is considered income tax, the same as if you paid it on wages earned in México. Just as in the case of rental income, you will report it on form 1116 and may use that amount as a direct tax credit on your personal return.
As you can see, the issues involving your U.S. tax return are complex, and you are always encouraged to consult with an accountant or other tax adviser. For more information, you may want to contact Nelson or visit his website, www.taxmeless .com. He can also be reached via email at firstname.lastname@example.org. His accounting firm, Kauffman Nelson, LLC, specializes in income tax preparation for U.S. expatriates and U.S. residents with foreign assets. You will be able to relax and enjoy your Los Cabos retreat that much more knowing that all the paperwork has been done, and done properly.
Carol Billups is broker-owner of Cabo Realty Pros, a full-service real estate firm in Cabo San Lucas. After more than 17 years, she still loves working with clients to find the perfect property and buy it safely. She can be reached by email at carolbillups@hotmail .com or by phone at 044-624-147-7541 in Cabo or 760-481-7694 from the United States or Canada. You can search the entire multiple-listing service inventory for free on her website www.caborealtypros.com.