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Tax breaks for second home
on foreign soil
Dear Tax Talk:
I am from London, working here as a
permanent resident. I have my main residence in California. I eventually
plan to go back to London, but for the interim I am considering
buying a second home there. Since the house would be overseas, will
all the second-home tax rules apply?
Thanks,
Bill
Dear Bill:
A second home in a foreign country is the same as a second
home in the United States, so all the same benefits apply. An individual
can claim interest paid on a second home whether or not the home
is in the United States. An individual can also deduct real estate
taxes paid on property wherever located. The property does not have
to be a second home in order to deduct the real estate taxes (i.e.,
it can be a vacant lot in Tasmania).
Now comes the complicated part. As a U.S. resident,
you may be required to withhold U.S. income tax on payments made
to a foreign person, such as a bank that provides you the mortgage
on the London home. Internal
Revenue Service Publication 515 provides extensive rules on
the obligation of U.S. persons to withhold tax on payments to foreign
persons.
Payments of interest by a U.S. taxpayer to a foreigner
are considered U.S. source income and are subject to income tax
withholding of 30 percent, unless a lower rate applies by treaty.
Based on this, you could imagine that a lender who
knows that you are a U.S. taxpayer would be reluctant to provide
you a mortgage, even if a lower treaty rate applies. If you fail
to withhold tax, you could be personally liable for the tax. If
you fail to pay the lender the full amount of the mortgage payment,
you could be in default.
Since you'd be claiming the interest as a deduction
on your tax return, the failure to withhold would be readily apparent
in an examination of your tax return. I recommend that when you
shop for a mortgage, you advise the lender of this situation so
that together you can come to some sort of understanding.
-- Posted: May 15, 2002
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