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US to lift 35-year-old real estate tax on foreign investors

Estate tax

A tax on foreign investors looking to enter the US real estate market, which has been in existence for 35 years, now looks set to eased.

US president Barack Obama has signed into law the new measures, which could potentially see a larger number of foreign investors enter a market that has proved to be a crucial source of capital since the dawning of the financial crisis.

The provision, which reports have suggested has been made as part of a $1.1 trillion spending measure that was passed to avoid a government shutdown, reverses the measures outlined as part of the 1980 Foreign Investment in Real Property Tax Act, known as FIRPTA.

There has been criticism surrounding FIRPTA for a number of years now, with some analysts suggesting it has placed an unfairly high tax burden on foreign investors in the real estate market that are, in many cases, out of kilter with the tax paid by those investing in other areas, such as stock

Domestic investors purchasing real estate are exempt from such taxation, which led many experts to understandably conclude the market was wrongly penalising overseas investment.

Change in the air

The changes to the rules mean that as well as widening the net for potential bidders, there could also be greater confidence in the market for publicly traded real estate investment trusts, commonly known as REITs.

The new measures could allow foreign investors to acquire as much as ten per cent of a REIT’s shares, which is twice the previous amount permitted for foreign investors.

James Corl, a managing director at private equity firm Siguler Guff & Co told Bloomberg “This tax-law modification is a game changer”, with foreign investors already attracted to the US real estate market's relatively high yields and its reputation of providing a level of safety for its assets perceived to be higher than in many other markets.

Interestingly, before the latest the FIRPTA measures were eased, popularity was not exactly a problem, with figures from Real Capital Analytics suggesting the total amount of cross-border investment in U.S. real estate totalled around $78.4 billion this year, accounting for 16 per cent of the total $483 billion invested in U.S. property.

The demand from overseas has helped to drive real estate prices in the commercial sector to almost record highs.

However, previous purchases conducted by foreign investors were often structured in a way that allowed them to be minority investors, thus bypassing FIRPTA.

Pension funds

Pension funds accounted for about $7.5 billion, or almost 10 percent, of the foreign total, according to the New York-based property research firm, meaning the landscape of foreign property investment.

Mr Corl added: “FIRPTA has historically made direct investment in U.S. property a non-starter for trillions of dollars worth of foreign pensions."

There's a real feeling among experts in the industry that this latest move will result in hundreds of billions of fresh capital flows into the US real estate market.

New York, a city already a big draw for commercial real estate investment, could see a particularly high escalation in prices. The new rules are set to have strong impact on local property holders looking to sell as they look to take advantage of the expected surge in foreign investors.