U.S. Embassy Requirement Triggers Cancellation
A foreign seller poses as a U.S. Citizen. His lie is uncovered when the U.S. Embassy refuses to notarize his closing documents without additional identification.
Stephanie Cobb, an escrow closer for Fidelity's Metro West Office in Florida, recently handled a short sale transaction in which the seller filled out the approval paperwork listing his individual taxpayer identification number (ITIN) number as a Social Security Number. The short sale lender processed the short sale approval as if the seller were a U.S. Citizen.
Everyone in the transaction assumed he was a U.S. Citizen, including his real estate agent. The seller was in Brazil for the closing so Stephanie e-mailed him the documents to sign. She instructed him to go to the U.S. Embassy to have the deed notarized and provided him with the U.S. Embassy address and contact information.
The seller called Stephanie the next day and complained that he couldn't make an appointment with the U.S. Embassy and would need more time. He stated that because he was not a U.S. Citizen the Embassy required two forms of identification from their approved list of identification. The seller told Stephanie he would need an extra day to return his closing documents.
The conversation triggered a problem for this closing. Stephanie informed all parties that there might be an issue, since the seller was not, in fact, a U.S. Citizen and there was no withholding available to pay the IRS under the Foreign Investment Real Property Tax Act (FIRPTA). The real estate agent representing both buyer and seller, along with the buyers' new lender and the mortgage broker, wanted to push everything through and close immediately, regardless of the tax ramifications.
Stephanie called the short sale lender, who agreed to speak with her and the IRS on a conference call, to determine whether or not the withholding amount was due under federal regulations. Stephanie and the short sale lender spoke with the Social Security Administrator who determined that the identification number provided by the seller was not a valid Social Security Number. The short sale lender then was able to dig further and found that both the seller and his wife had been in and out of the U.S. illegally for several years. They had worked in the U.S. without green cards and there was even an outstanding warrant for the wife's arrest. Through the conversation, Stephanie and the short sale lender discovered the couple would owe taxes to the IRS if they were to go through with the short sale.
As a result, the short sale lender withdrew its approval letter and is proceeding with the foreclosure. In addition, the lender has petitioned the court to appoint a Florida Guardian Ad Litem for the sellers, since it is unlikely they will return to the U.S. to be served.
The buyer is not happy, having lost a great deal on a new home. The buyers' lender and mortgage broker are upset because they lost a new purchase money loan. They are not upset with Stephanie for detecting the problem, but they are upset with the real estate agent for not knowing earlier the seller was a foreigner.
Luckily, because of the problems the seller ran into at the U.S. Embassy, Stephanie was alerted to the fact he was actually a foreigner before the buyer signed or the lender funded. Had this transaction closed, the IRS considers the buyer the withholding agent and could have placed a lien on the buyer's property under FIRPTA for non-payment of the tax owed by the foreign seller
For her detection of the foreign seller and owed funds to the IRS, as well as her diligence in getting the short sale lender to speak directly to the IRS, Stephanie has received a $1,000 reward and letter of recognition on behalf of the Company.
Moral of the Story
Most sellers, buyers, real estate agents and even settlement agents believe a short sale means the seller is selling the property at a loss and therefore no 1099-S, federal or state withholding is required. This is simply not true. Settlement agents typically don't know the original purchase price of the property versus the short sale amount. Nor do they know how much the property had depreciated or how much equity had been cashed out – so there is no way for the settlement agent to determine capital gains. The capital gains are owed by citizens and foreigners alike, whether or not they receive proceeds at closing.
A seller that is a U.S. Citizen doesn't have to pay tax on the gain until they file their income tax return. A foreign seller has to pay an estimated tax on the gain of 10% of the gross sale price, regardless of whether they receive proceeds at the closing or not.
Remember: the U.S. Embassy requires at least two forms of acceptable identification from non-U.S. Citizens. This practice is sound given the fact U.S. notaries are not trained in the detection of foreign identification cards. All notaries should implement this practice for foreign signers or those presenting questionable identification. It's not likely a forger will have a second identification card, such as a principal's work badge or library card.