June 3, 2005

Thomas C. Roberge, CPA
St. Petersburg and Sarasota

Copyright, 2005, Thomas C. Roberge
All Rights Reserved
 

Foreigners renting their Florida vacation property are generally subject to a 30% tax on the gross rental income from that property unless they are actively involved in the operation of the property.  Because they are normally involved in the management of the property from their home country they are frequently not active (from a tax perspective) in managing the property for purposes of avoiding the 30% tax.  Or, their level of activity is such that it is not clear whether it is sufficient to escape the 30% tax.

To remedy this problem there is a special election whereby the foreign property owner can treat the income from the rental property as "effectively connected", thereby avoiding the 30% tax for the year the election is made and for all subsequent years.  The election is made with the income tax return for the year it is to take effect.

The effect of the election is to get the taxpayer into what is referred to as "net income taxation".  This means that they get to deduct all operating costs of that rental property against the rental income in arriving at taxable income.

For example, suppose Jane Smith, a citizen and resident of Country X, has rental income from her Florida condominium of $20,000 for 2005 and operating expenses (e.g. property taxes, maintenance fees, supplies, etc.) of $30,000, thereby generating a loss of $10,000 for the year.  Further assume that Jane pays a rental management company to collect the rents, handle leases and pay all the operating expenses.  Without the election Jane's income tax would be $6,000 ($20,000 gross rental income times 30%).  However, if she makes the special election, her income tax is zero since she will show an operating loss of $10,000 ($20,000 rental income less $30,000 operating expenses).  This loss, if properly structured, can be carried forward to future years and applied against profits from the rental operation or the gain on the eventual sale of the property.

Contact us if you have foreign clients who could benefit from these rules and from our expertise in making this and other special elections that are available to them as foreign investors.  The end benefit of these elections can be enormous tax savings.