Are Section 897 Dividends Actually Taxable? Avoid this Mistake + FAQs

Yes, Section 897 dividends are taxable when derived from U.S. real property interests and paid to foreign persons.

This is a direct result of U.S. federal tax law aimed at ensuring foreign investors pay tax on gains from U.S. real estate. In other words, if a dividend (distribution) falls under Internal Revenue Code Section 897 – typically meaning it comes from the sale of U.S. real property – a foreign recipient must pay U.S. tax on it.

What you’ll learn in this article:

• Federal vs. State Taxation: How U.S. federal law taxes Section 897 dividends (and why) before diving into any state-level nuances that could add another layer of tax.

• Entity-by-Entity Impact: The tax implications for different entities – from individual foreign investors to corporations, REITs, partnerships, and trusts – to ensure all perspectives are covered.

• Key Legal Context & Updates: The latest court rulings, IRS interpretations, and tax policy changes (like FIRPTA amendments) that shape how Section 897 is applied today.

• Common Pitfalls & Examples: Definitions of essential terms, explanations of tricky concepts, real-world scenarios illustrating tax treatment, and common mistakes to avoid when dealing with Section 897 dividends.

• Practical Q&A: Concise answers to frequently asked questions (from forums and beyond) about Section 897 and FIRPTA, providing clarity on issues real investors and practitioners encounter.

Unpacking Section 897 and FIRPTA: Taxing Foreigners’ U.S. Real Estate Gains

Section 897 is a provision of the U.S. Internal Revenue Code born from the Foreign Investment in Real Property Tax Act of 1980 (FIRPTA). 💡 FIRPTA is a landmark federal law that closed a loophole: before FIRPTA, foreign persons could sell U.S. real estate without paying U.S. capital gains tax.

FIRPTA changed that by declaring that gains from U.S. real property by foreign investors are subject to U.S. tax, treating those gains as effectively connected income (ECI) with a U.S. trade or business.

Section 897 specifically lays out this rule. In plain terms, any gain a “nonresident alien” individual or foreign corporation earns from the disposition (sale or exchange) of a U.S. real property interest (USRPI) is treated as taxable U.S. income.

This means the IRS looks at that gain as if the foreign person was engaged in business in the U.S. (even if their only connection is owning the property).

Section 897 overrides the general principle that foreign investors aren’t taxed on U.S. capital gains (which normally applies to things like stocks) – for U.S. real estate, foreigners must pay U.S. tax on the gains.

What counts as a U.S. real property interest (USRPI)? It’s more than just land or buildings. A USRPI includes:

• Direct interests in real property located in the United States (e.g. selling a plot of land, a rental house, or a commercial building).

• Indirect interests through entities that predominantly own U.S. real estate. For example, shares of a U.S. corporation can be a USRPI if that corporation’s assets are mostly U.S. real property. Such a company is called a USRPHC (U.S. Real Property Holding Corporation) – generally, if over 50% of a corporation’s assets consist of U.S. real property, its stock is treated as a USRPI.

• Interests in certain partnerships or trusts holding U.S. real estate can also count, since partnerships and some trusts are basically look-through entities for this purpose. If a partnership’s assets are primarily U.S. realty, a foreign partner’s interest in that partnership is effectively an interest in U.S. real property.

Now, where do “Section 897 dividends” come into play? Section 897 dividends refer to distributions (dividends) paid to investors that are attributable to gains from U.S. real property interests.

In practice, this term usually comes up with REITs (Real Estate Investment Trusts) and some mutual funds (RICs – Regulated Investment Companies) that invest in real estate. Here’s why:

• A REIT is a special type of corporation that often doesn’t pay corporate tax (it passes income to shareholders). When a REIT sells a building at a gain and then distributes that gain to its shareholders, U.S. shareholders treat it as a capital gain dividend. But for foreign shareholders, that distribution represents gain from U.S. real property – exactly what Section 897 targets. So, that piece of the dividend is a “Section 897 dividend.” It’s as if the foreign investor themselves sold U.S. property and got the gain.

• Similarly, a RIC (like a real-estate focused mutual fund or ETF) that sells U.S. real property or receives a capital gain distribution from a REIT may pass through that gain to its investors. If those investors are foreign, the part of the fund’s distribution attributable to the real estate gain is taxable under Section 897.

Section 897 dividends are taxable because they represent gains from U.S. real estate that U.S. law says cannot escape taxation just because the recipient is foreign.

FIRPTA’s whole purpose is to impose tax on those gains, leveling the playing field between foreign and U.S. investors in real estate.

Federal Law: How Section 897 Makes These Dividends Taxable

Under federal law, the taxation of Section 897 dividends is clear-cut: if you’re a foreign person (which includes nonresident alien individuals and foreign corporations) and you receive a dividend attributable to U.S. real property gains, you owe U.S. tax on it.

The IRS doesn’t rely on the honor system here – there are withholding mechanisms to ensure tax is collected up front, and then you reconcile the final tax due via a tax return.

Let’s break down the core mechanics at the federal level:

• Effectively Connected Income (ECI) Treatment: Section 897 gains (including those paid out as dividends) are treated as effectively connected income with a U.S. trade or business. In tax terms, that’s huge. Normally, foreign investors pay a flat 30% tax on U.S. investment income like regular dividends or interest (classified as FDAP – Fixed, Determinable, Annual, Periodical income). But capital gains are usually exempt for foreigners unless they’re connected to a U.S. business. Section 897 makes real estate gains an exception, deeming them ECI. ECI is taxed at graduated rates, just like income of a U.S. person or U.S. company, rather than a flat 30%. This means a foreign person could actually pay less than 30% if the gain is long-term capital gain eligible for a 15% or 20% rate (for individuals), or they might pay the corporate rate (21% currently) if the recipient is a corporation. However, ECI also means the foreign taxpayer is expected to file a U.S. tax return to report that income.

• Withholding to Ensure Collection: The law requires payers to withhold tax at the source on these transactions, because the foreign recipient might otherwise not report it. For example, when a U.S. company (like a REIT) pays a Section 897 dividend to a foreign shareholder, it generally must withhold a percentage of that dividend and remit it to the IRS.

• Under FIRPTA withholding rules, a REIT must typically withhold 21% of any distribution to foreign shareholders that is designated as coming from the sale of a U.S. real property interest. (That 21% corresponds to the current corporate tax rate, ensuring that at least that portion is collected upfront.) If it were a partnership distributing the gain, the partnership also has withholding obligations on foreign partners’ shares of the income, often at the highest applicable rate.

• Tax Return Filing: After withholding, the foreign investor can (and usually should) file a U.S. income tax return (Form 1040-NR for individuals, or Form 1120-F for foreign corporations) to report the income. On the return, they calculate the actual tax due on the gain. If the gain qualifies for long-term capital gain treatment, an individual might owe only 15% or 20%, in which case the 21% withheld could lead to a refund.

• If the withholding was not enough (say the gain was short-term and taxed at 37% for a high-income individual), the investor would need to pay the difference. The return also allows them to claim any available deductions or treaty benefits (though most tax treaties do not exempt real estate gains – treaties generally permit the U.S. to tax real property income and gains in the country where the property is located).

• No Escape through Corporate Layers: Importantly, Section 897 has rules to stop foreign investors from avoiding tax by inserting companies or other entities. For instance, if a foreign person holds U.S. real estate through a foreign corporation, and that foreign corporation sells the U.S. property, Section 897 still applies (the foreign corp is subject to U.S. tax on that gain). If instead a foreign person holds stock in a U.S. corporation that is a USRPHC and that U.S. corporation sells the property and distributes the proceeds, the corporation itself pays U.S. tax on the gain (since it’s a domestic corporation).

• A regular U.S. C-corporation would pay tax on the sale at 21%, and any dividend to the foreign shareholder would then be taxed as a normal dividend (30% withholding or lower by treaty). In a REIT scenario, the REIT doesn’t pay tax at the corporate level, so Section 897 ensures the tax is captured from the shareholder. The key point: whether through withholding on a dividend or at a corporate tax level, the gain is taxed.

High-Level Federal Example

To cement how federal taxation works, let’s consider a brief example:

Example: Foreign Investor F owns 15% of a U.S. REIT that invests in commercial properties. The REIT sells an office building and realizes a $10 million gain. That gain is distributed to all shareholders as a special capital gain dividend. F’s share of the gain distribution is $1.5 million.

Because F is a foreign shareholder and owns more than the small-ownership exception threshold (we’ll discuss that exception soon), this $1.5 million is a Section 897 dividend to F.

• The REIT is required to withhold 21% of F’s $1.5 million distribution, which is $315,000, and send it to the IRS.

• F receives the remaining ~$1.185 million. F must also file a U.S. tax return. Suppose the $10 million gain was long-term (held over a year). A foreign individual can use the long-term capital gains tax rates on effectively connected gains, so F’s U.S. tax on $1.5 million might be 20% of $1.5M = $300,000 (if F is in the top tax bracket). F would report the $1.5M gain, owe $300,000, and since $315,000 was already withheld, F would actually get a $15,000 refund after filing. (If F didn’t file, the IRS keeps the $315k and F potentially overpaid.)

• Had F been a foreign corporation instead of an individual, the tax would be computed at 21% corporate rate on that gain (which equals $315,000, matching the withheld amount), and then potentially a branch profits tax on the after-tax amount could apply if F’s corporation doesn’t reinvest the money in the U.S. (Branch profits tax is 30% on repatriated earnings, analogous to a dividend tax on a foreign corp’s U.S. branch profits.) In this example, the 21% withholding would cover the corp’s income tax, and any further branch tax depends on what the foreign corp does with the funds.

The bottom line at the federal level is that Uncle Sam will collect tax one way or another when a foreign person realizes gains from U.S. real property – whether directly via FIRPTA withholding on a sale, or indirectly via withholding on a dividend that carries those gains.

State-Level Nuances: Do States Tax Section 897 Dividends?

Federal law is the primary gatekeeper for taxing foreign persons on U.S. real estate gains, but what about individual states? State tax rules can add complexity, though the impact is usually on the sale of real property itself rather than specifically on a “Section 897 dividend.” Here’s what to consider:

• State Income Tax on Real Estate Sales: Most U.S. states tax income from real estate sales located in that state, regardless of the seller’s residency. If a foreign investor sells a piece of property in, say, California or New York, that state will treat the gain as California-source or New York-source income and impose state tax on it. Many states even have withholding requirements at the time of sale (for example, California withholds ~3.3% of the gross sales price for sales by non-residents, which includes foreign sellers). This state-level withholding is akin to FIRPTA but is separate and in addition to the federal 15% withholding on real estate sales. The foreign seller can later file a state tax return to pay the actual tax (which might be around 9–13% of the gain in those states) and potentially get a refund of any excess state withholding.

• Dividends and State Tax: When it comes to receiving a dividend (like from a REIT), states generally tax residents on their income, but non-residents typically are not taxed by a state on dividend income from a corporation, even if that corporation does business in the state. So if you are a foreign person living outside the U.S. and you receive a REIT dividend, states usually do not have jurisdiction to tax that as personal income because you’re not a resident and the income is dividend income (which is typically sourced to the recipient’s country of residence or to no state at all). The key exception is if the dividend is effectively connected with a business you carry on in that state – but for a passive investor abroad, that’s not the case. Thus, in practice, Section 897 dividends generally don’t trigger direct state income tax on the foreign recipient.

• Entity-Level State Taxes: However, the entity paying the dividend (like the REIT or corporation) might be subject to state taxes on its income. Here’s a nuance: A REIT often doesn’t pay federal income tax, but states have varying rules. Many states follow the federal treatment and also don’t tax REIT income if it’s distributed, but some states might have franchise taxes or differing calculations. For example, if a REIT sells a property in a state, that REIT might have to file a state corporate tax return. Often, the dividends-paid deduction that REITs get federally is also allowed for state tax, meaning the REIT wouldn’t owe much state corporate income tax if it distributed the gain. But if a state disallows some deductions or imposes minimum taxes, the REIT could pay something at the state level. In contrast, a regular C corporation (not a REIT) definitely pays state corporate tax on a real estate gain in most states.

• So, any state bite for the foreign investor? Indirectly, yes, in the sense that if the REIT or corporation pays state tax on the gain, that might reduce what’s available to distribute (effectively the foreign investor bears a share of that cost). But the foreign investor likely won’t have to file a state tax return just because they received a Section 897 dividend. One scenario to watch: If a foreign investor owns real estate through a partnership or LLC that is considered to be engaged in business in a state, the state might require filing and paying tax on the pass-through income. Many states issue withholding requirements for partnerships with nonresident partners (not always specifically targeting foreign, but nonresidents in general). For instance, a partnership selling California real property must withhold on distributions to foreign partners similarly to federal law.

• Variations by State: Each state’s rules differ. Some states have no income tax at all (e.g., Florida, Texas), so they wouldn’t tax the gain or dividend at the state level. Others are very strict. Always, the location of the real property drives which state’s tax might come into play. If the REIT’s properties are in multiple states, the REIT will allocate income to those states, but as mentioned, the foreign individual shareholder typically does not personally file state returns for that.

In summary, federal law is the main hurdle for taxation of Section 897 dividends for foreigners, while states primarily tax the real estate gains at the source when the property is sold. Foreign investors should be mindful of state withholding at the property-sale stage, but receiving a dividend later generally doesn’t itself invoke another layer of state tax filing for the investor (except through the entity’s obligations). It’s always wise, though, to consult a tax advisor about the specific state laws whenever U.S. real estate is involved, since compliance with both federal and state rules is key.

How Different Entities Are Affected (Individuals, Corps, REITs, Partnerships, Trusts)

Section 897 can impact various types of taxpayers and entities in slightly different ways. While the overarching principle (tax the gain from U.S. realty to foreign persons) remains the same, the compliance and consequences differ by entity. Let’s examine each:

Foreign Individuals (Nonresident Aliens)

For a foreign individual investor, Section 897 means that any gain from U.S. property – whether received directly or through a fund/REIT dividend – becomes taxable U.S. income. Key points for individuals:

• Tax Rates: Foreign individuals pay the same graduated rates as U.S. individuals on effectively connected income. Long-term capital gains (for property held over a year) enjoy preferential rates (currently 15% for most, 20% for high earners). Short-term gains are taxed at ordinary income rates (which can go up to 37%). There’s no 3.8% net investment tax for nonresidents, so 20% is typically the max federal rate on long-term gains for a nonresident individual. This can be beneficial compared to the flat 30% that would apply if the income were instead treated as a normal dividend. In essence, FIRPTA (Section 897) forces you to pay tax, but at least it’s at potentially lower capital gain rates if applicable.

• Filing Obligations: A nonresident alien receiving Section 897 income must file Form 1040-NR. This is a common mistake: some foreign investors don’t realize they need to file a return if tax was already withheld. However, filing is crucial – it’s the only way to claim a refund if too much was withheld, and it keeps one in compliance (important for any future U.S. visa or immigration matters too, since tax compliance can be scrutinized). The return will report the gain and calculate tax with the allowed rates.

• Deductions and Expenses: Because Section 897 gains are ECI, a foreign individual can actually deduct selling expenses or other connected expenses against that income on the tax return. For example, if they sold a property and paid hefty legal fees or broker commissions, those reduce the taxable gain. In a REIT dividend scenario, there typically isn’t a specific expense to claim (since the REIT already netted out selling costs before distributing the gain), but if the individual had other effectively connected expenses or losses, those could potentially offset ECI gains.

• Estate Tax Note: Not directly Section 897, but worth noting for foreign individuals: U.S. real estate (and stock in U.S. corporations including REITs) is subject to U.S. estate tax if a foreign individual dies owning it. Some foreign investors use holding structures to avoid U.S. estate tax (like holding realty through a foreign corporation, since foreign stock is not U.S. situs for estate tax). But such structures do not avoid the income tax under Section 897 – it only changes who gets taxed (the foreign corporation instead of the individual).

Foreign Corporations

Foreign corporations are often used by non-U.S. investors to hold U.S. assets (they’re sometimes called “blocker” corporations because they can block certain tax or reporting consequences for the ultimate individual owners). How does Section 897 affect foreign corporations?

• Direct Ownership of U.S. Real Property: If a foreign corporation directly owns U.S. real estate and sells it, Section 897 treats that gain as ECI. The foreign corporation must file a Form 1120-F (the U.S. income tax return for foreign corporations) and pay tax at 21% on the gain. The buyer of the property also has to withhold 15% of the gross sale price at closing and send it to the IRS (under IRC §1445) to ensure the tax gets paid. The corporation can then claim that as credit against the actual tax. So effectively, the process is analogous to an individual, just at corporate tax rates.

• Branch Profits Tax: After the foreign corporation pays the 21% income tax on the gain, the U.S. also imposes the branch profits tax (BPT) on the repatriation of earnings. BPT is 30% of the after-tax amount, unless reduced by treaty. Many tax treaties reduce or eliminate branch profits tax, which can soften the blow. If no treaty applies, the combination of 21% income tax and 30% BPT on the remainder can lead to roughly 45% total tax on the gain distributed out, making it quite punitive. This is one reason smaller foreign investors might avoid direct corporate ownership.

• Use of U.S. Corporate “Blockers”: As an alternative, foreign investors sometimes set up a U.S. corporation (taxed as a domestic corporation) to own the real estate, reasoning that the U.S. corp will pay the taxes on gains (21% federal plus state taxes) and then the foreigner can decide when to take dividends (and pay 30% withholding on those). This can spread out or reduce branch profits tax issues via the dividend route (since a dividend can be timed or possibly reduced by treaty if the foreign investor’s country has a favorable treaty rate on dividends). However, using a U.S. corporation doesn’t avoid FIRPTA – in fact, if a foreign shareholder directly sells the stock of that U.S. corporation and it’s a USRPHC, FIRPTA taxes that sale as well! The only benefit of a U.S. blocker is to potentially qualify as a “domestically controlled” entity in certain cases (more on that under REITs) and to manage estate tax exposure.

• 897(i) Election: Section 897(i) is a quirky option that allows a foreign corporation to elect to be treated as a U.S. corporation for purposes of FIRPTA. Why do that? If a foreign corporation plans to regularly deal in U.S. real property, electing domestic status means buyers of its property wouldn’t have to do FIRPTA withholding (since the seller is treated as domestic for that purpose), and the foreign corp would just pay taxes like any U.S. corp. This election is irrevocable and not common unless the foreign corp is essentially operating as a U.S. business anyway. It doesn’t avoid tax; it just changes administration.

• Receiving Section 897 Dividends: If a foreign corporation is an investor in a REIT or fund that pays a Section 897 dividend, that dividend is ECI to the foreign corporation. The foreign corp would file 1120-F and include that income. It can use deductions if any (usually none specifically for a dividend). The REIT would have withheld 21%. The foreign corp pays tax at 21% – which likely nets out to little or no additional income tax due – but then that income, once in the foreign corp’s hands, could be subject to branch profits tax if the corp doesn’t reinvest it. (If the foreign corp instead was owned by foreign individuals, they might prefer the REIT route to avoid the extra branch layer.)

REITs and RICs (U.S. Entities Paying Section 897 Dividends)

Though REITs and RICs are U.S. entities (not foreign), they are central to the concept of Section 897 dividends. REITs in particular act as conduits of real estate income to investors. Here’s how Section 897 affects them:

• Qualified Investment Entity: The law often calls REITs and certain RICs “qualified investment entities” for FIRPTA purposes. Section 897(h) specifically deals with distributions by these entities. If a REIT (or an applicable RIC) disposes of a USRPI and has a gain, then any distribution it makes to shareholders that is attributable to that gain is treated as gain from the sale of a USRPI by those shareholders. That’s the technical way of saying: the distribution is a Section 897 dividend.

• Withholding Requirements: The REIT must withhold on such distributions to foreign shareholders. As noted, typically it’s 21% of the distribution for capital gain amounts. If the distribution is an ordinary dividend but is attributable to a USRPI gain (this can happen if the REIT had a short-term gain or certain depreciation recapture that is taxed as ordinary income to shareholders), then it still counts – the REIT would report that portion separately (on Form 1099-DIV it shows up in special boxes for foreign recipients) and withhold on it accordingly. In practice, many REITs will simply withhold the required FIRPTA amount and the foreign investor might not even realize it until they see tax documents or a reduced payment.

• Small Shareholder Exception: One important exception: if a foreign person owns a small amount of a publicly traded REIT, FIRPTA says that capital gain distributions are not treated as ECI for that person. Originally the threshold was 5% ownership; in 2015, Congress raised it to 10% for publicly traded REIT shareholders. So, if you are a foreign investor holding 10% or less of a REIT that is traded on a stock exchange, any capital gain dividends you get from that REIT are exempt from Section 897 taxation. Instead, they are treated like regular U.S. source dividends: subject to 30% withholding (or lower treaty rate) but not treated as a property sale. This is a favorable rule for passive, small investors because it means they don’t have to file a U.S. tax return for those gains – they just face the withholding and that’s it. (Do note: this exception does not apply to privately held or non-public REITs – it’s specifically for publicly traded ones.)

• Domestically Controlled REITs: Another concept: if a REIT is “domestically controlled” (meaning over 50% of its stock value is owned by U.S. persons over a testing period), then its stock is not considered a USRPI. In that case, a foreign investor can sell their shares of such a REIT without FIRPTA tax. However, even a domestically controlled REIT must still withhold and tax its foreign shareholders on any Section 897 dividends it pays. Domestically controlled status is only a benefit when selling the stock itself. It doesn’t change the tax on the REIT’s distributions of real estate gains. So a foreigner in a domestically controlled REIT gets no break on capital gain dividends (those are still taxable), but if they decide to sell their REIT shares outright, that sale would be free of FIRPTA tax. (Recent IRS regulations in 2024 clarified how to determine if a REIT is domestically controlled, making it a bit stricter by looking through certain foreign-owned holding companies.)

• RICs (Mutual Funds): Mutual funds that invest in REITs or real estate companies can also pass through FIRPTA gains. For instance, a U.S. mutual fund might invest in a bunch of REITs, get capital gain dividends from them, and then pay its own dividends to shareholders. Those second-tier dividends can also be Section 897 dividends for foreign investors. The mutual fund (RIC) would similarly withhold on foreign shareholders. Many mainstream stock or bond funds won’t trigger this, but a specialty fund (e.g. an ETF that tracks a real estate index) could.

• Reporting to Shareholders: U.S. shareholders of a REIT get information about how much of the dividend is ordinary vs capital gain, etc. Foreign shareholders get the additional info if some portion is FIRPTA-taxable (Section 897). With the advent of specific boxes on Form 1099-DIV (Box 2e, 2f labeled for Section 897 amounts), even U.S. investors might see a note of “Section 897 dividends.” If you’re a U.S. investor, you can ignore that label – it doesn’t change your tax. It’s there because brokers and companies need to inform any foreign holders and handle withholding appropriately. If you’re a U.S. investor reading this, rest assured that you don’t pay anything extra on “Section 897 dividends” – it’s the foreign investors who do (you just pay normal tax on those dividends like any other investor).

Partnerships and LLCs

Partnerships (including LLCs treated as partnerships) add another layer to consider. A partnership itself doesn’t pay tax; instead, it passes through income to partners. So if a partnership has foreign partners and it sells U.S. real estate:

• FIRPTA Withholding at Sale: The buyer of the property must generally withhold 15% of the amount realized and allocate it to the foreign partner’s share of the sale, similar to if the foreign partner sold directly. Alternatively, the partnership can provide certification of the foreign partner’s share etc. There are also Section 1446 withholding rules: actually two kinds now – 1446(a) for ongoing effectively connected income, and 1446(f) specifically for dispositions of partnership interests or assets. To simplify, partnerships have to pay an estimated tax on behalf of foreign partners on ECI anyway.

• Ongoing ECI Tax: If a partnership operates rental real estate, the rental income (after deductions) allocable to a foreign partner is ECI (because the partnership is engaged in a U.S. trade or business). The partnership must withhold tax each quarter on effectively connected taxable income for foreign partners (often at 37% for individual partners and 21% for corporate partners) under Section 1446. The foreign partner then files a return to report the income and claim the credit or refund. When the partnership sells the property, that big gain is just another chunk of ECI flowing through (with additional withholding at sale as noted).

• Distributions vs. Retention: If the partnership distributes the cash from a sale to the foreign partner, that’s not a “dividend” per se, but the tax result is similar – the gain was taxable regardless of distribution. Partnerships don’t have the concept of “Section 897 dividend” in the way a REIT does; instead, the foreign partner’s allocable gain itself is subject to tax as ECI. Some partnerships might choose to reinvest proceeds rather than distribute, but the foreign partner still owes tax on the allocated gain in the year of sale.

• Sale of Partnership Interest: A notable nuance: If a foreign person sells an interest in a partnership that owns U.S. real estate, that sale can also be taxed. Section 897(g) indicates that an interest in a partnership can be treated as a USRPI to the extent the partnership’s assets are USRPIs. There was some legal ambiguity historically (the famous Grecian Magnesite case in 2017 where a court allowed a foreign partner to not pay tax on selling a partnership interest, except for the portion attributable to U.S. real property). In response, Congress enacted Section 864(c)(8) in 2017, which, along with FIRPTA for the realty portion, ensures that essentially the entire gain is taxable if the partnership had U.S. assets. And the IRS introduced Section 1446(f) withholding to enforce it. The upshot: whether a foreign investor sells the property outright or sells their partnership interest, U.S. tax will apply to the real estate gain.

Trusts and Estates

Trusts and estates can own U.S. real property or shares in companies like anything else, and the rules of Section 897 apply based on the character of the trust or estate:

• Foreign vs. Domestic Trust: If a trust is a foreign trust (meaning governed outside the U.S. or with foreign control/beneficiaries), it is treated similar to an individual for FIRPTA. If the foreign trust sells U.S. real property, it’s taxed on the gain, and the buyer withholds 15%. The trust would file a 1040-NR (for the trust) to report it. If a domestic trust (U.S.-established trust) sells U.S. property, the trust pays the tax (if it retains the income) or it passes the taxable income to its beneficiaries. If those beneficiaries are foreign, when the trust distributes the income to the foreign beneficiary, that distribution could be subject to 30% withholding if it’s not ECI. But here it is ECI (since it came from sale of U.S. property via Section 897), so actually the trust should treat it as ECI distribution. The trust or estate may need to withhold at graduated rates on that distribution, or at least report it to the IRS; the foreign beneficiary would then be responsible for U.S. tax on it (or the trust pays on their behalf). In sum, foreign beneficiaries of domestic estates/trusts don’t escape taxation on U.S. real estate gains either.

• Foreign Estate: If a nonresident passes away owning U.S. realty and the estate sells the property, that sale by the estate (a foreign estate) is subject to FIRPTA tax as well. The estate would face the same withholding and filing requirements as the decedent would have. The estate’s beneficiaries ultimately receive the after-tax proceeds.

• REITs in Trusts: If, say, a foreign person holds REIT stock in a foreign grantor trust (i.e., the trust is basically them), it’s treated as if they held it individually – FIRPTA applies normally. If it’s a non-grantor trust, it gets more complex, but bottom line, someone will pay the tax (either the trust and then potentially withholding when distributing to beneficiaries, or the beneficiaries themselves if income is passed out in the same year).

In summary, Section 897’s reach is broad: individuals, corporations, partnerships, trusts – all are within scope if they are foreign and deriving U.S. real property gains. The specific forms and rates vary, but none can avoid the fundamental rule that Section 897 dividends (or gains) are taxable to foreign persons.

Below is a quick-reference table highlighting who is subject to Section 897 taxation and how:

Recent Developments, Rulings, and Tax Policy Context

Tax laws evolve, and even a stable regime like FIRPTA sees updates and debates. To truly grasp the current state of Section 897 dividends and their taxability, one should know the key recent developments:

• PATH Act of 2015 – Easing Rules for Investors: The Protecting Americans from Tax Hikes Act made notable changes to FIRPTA. It increased the small investor exemption in publicly traded REITs from 5% to 10%, meaning foreigners can now own up to 10% of a REIT without having FIRPTA on stock sales or capital gain dividends. The PATH Act also created a major new exemption: qualified foreign pension funds are now entirely exempt from FIRPTA tax (Section 897(l)). This policy change aimed to encourage foreign pension investment in U.S. real estate – lawmakers viewed pension funds as stable, long-term investors. So, if a qualified foreign pension plan or fund receives a Section 897 dividend or sells a USRPI, it does not have to pay U.S. tax under Section 897. These changes slightly opened the door to more foreign investment by providing targeted relief.

To recap, here are some special situations where FIRPTA (Section 897) does not apply:

• Grecian Magnesite Case (2017) – Partnership Loophole Closed: In a surprising Tax Court case, Grecian Magnesite, a foreign company sold its interest in a U.S. partnership (which had some real estate and other business assets). The Tax Court ruled the foreign company didn’t owe U.S. tax on the gain (except the portion attributable to U.S. real property, which the company conceded). This went against the IRS’s position that the entire gain from selling a U.S. partnership interest should be ECI if the partnership was engaged in a U.S. business. In response, Congress swiftly passed Section 864(c)(8) in late 2017 as part of tax reform, which, along with FIRPTA for the realty portion, now ensures that essentially the whole gain is taxable if the partnership had U.S. assets. The IRS also issued rules requiring 10% withholding on the gross amount when a foreign person sells a partnership interest (Section 1446(f)) to enforce this. The lesson: any perceived gaps in FIRPTA were plugged to maintain the integrity of taxing foreign investors on U.S. business gains (real estate included). Today, foreign investors know that partnership interests won’t provide a backdoor to escape tax on U.S. real estate gains.

• Notice 2007-55 – Controversy on REIT Liquidations: One IRS interpretation that stirred controversy is Notice 2007-55. The IRS announced that if a REIT liquidates (sells all properties and distributes the proceeds in a complete liquidation to shareholders), those liquidating distributions to foreign shareholders will be treated as Section 897 taxable gains. Why is this controversial? Because some argued that if a REIT is domestically controlled, a foreign shareholder selling their shares (or even receiving liquidation proceeds) should not be taxed – essentially viewing liquidation like a sale of stock which would be exempt. Notice 2007-55 took a hard line that FIRPTA still applies, preventing foreign investors from avoiding tax by waiting for liquidation. Real estate industry groups (and some members of Congress) have pushed back on this position, arguing it goes beyond the intent of the law and discourages foreign capital. As of now, the Notice stands (no formal withdrawal), so foreign investors need to beware that even exit strategies like REIT liquidations can trigger FIRPTA taxes on the way out.

• IRS Regulations on Domestically Controlled REITs (2022–2024): The IRS and Treasury issued proposed (2022) and final (2024) regulations clarifying how to determine if a REIT is domestically controlled. They introduced a look-through rule for domestic C-corporation shareholders of REITs: if a U.S. corporation that owns REIT stock is more than 50% foreign-owned, then its stake in the REIT is considered foreign-owned for the domestically-controlled test. (The final regs set that threshold at 50%, up from 25% in the proposal, as a concession.) This change means some REITs previously thought to be domestically controlled might lose that status if they had foreign investors hiding behind U.S. corporate blockers. For foreign investors, it’s a cautionary tale: strategies to avoid FIRPTA by inserting a U.S. shell company may not work as intended. This doesn’t directly change how Section 897 dividends are taxed, but it affects whether selling the REIT stock itself is safe from FIRPTA.

• Increased Withholding Rates: In 2017, the FIRPTA withholding on direct sales by foreign persons was increased from 10% to 15% of the gross sales price. This was to better cover the typical tax liability (since property values and tax rates had changed over time). While not directly about dividends, it reflects a trend of ensuring sufficient tax is collected upfront. Meanwhile, the withholding rate on REIT distributions was adjusted to align with the corporate tax rate (which moved from 35% to 21% after 2017), hence the current 21% figure. These adjustments keep the enforcement mechanism in line with underlying tax rates.

• Tax Policy Debate: There is an ongoing debate in tax policy circles about FIRPTA’s impact. Real estate advocates often argue FIRPTA is counterproductive – by taxing foreign investment heavily, it arguably deters some foreign capital from entering U.S. real estate markets. They note that foreign investors can put money into U.S. stocks or bonds with lighter tax consequences, so heavy tax on real estate may shift investment elsewhere. In fact, industry groups have lobbied to relax or repeal FIRPTA to spur more investment (some calling it an “economic stimulus” to remove these barriers). On the other hand, defenders of FIRPTA say it’s about fundamental fairness and revenue – why should foreign investors get a free ride on gains from U.S. land when U.S. taxpayers pay capital gains on those same lands? And there’s a national sentiment angle too: FIRPTA was originally passed out of concern that foreign nations (at the time, OPEC countries were mentioned) were buying up U.S. farmland and skyscrapers; taxing the gains ensures the U.S. public benefits when those investors cash out. The 2015 changes show Congress can tweak rules to encourage certain investors (pensions, small stakes), but a full repeal of FIRPTA hasn’t gained serious traction yet.

Staying on top of these developments is key for practitioners. The law itself (Section 897) is dense, but the IRS’s guidance and courts’ cases shape how it’s applied. The trend is clear, though: the U.S. intends to keep taxing these real estate gains, and the rules are refined to close loopholes and modernize the system. Always consult current advice or IRS publications if you’re dealing with a major transaction – a seemingly small detail (like owning 11% instead of 10% of a REIT) can change the tax outcome dramatically.

Common Mistakes and Pitfalls in Section 897 Transactions

Handling Section 897 dividends and FIRPTA-related transactions is complex. Even seasoned professionals can slip up. Here are some common mistakes to avoid:

• Assuming “It’s just a dividend, so 30% withholding covers it.” Some foreign investors or even brokers think that a REIT dividend is like any other dividend – withhold 30% (or a treaty-reduced rate) and move on. In reality, if it’s a Section 897 capital gain dividend, the correct withholding is 21%, not 30%, and it must be treated as ECI, not passive FDAP. Withholding the wrong amount can lead to penalties for the payer and headaches for the payee. Always check if a dividend has a Section 897 component – it should be clearly indicated by the payer for withholding agents.

• Not filing a U.S. tax return after FIRPTA withholding. Many foreigners have the mindset “tax was already withheld, I’m done.” This can lead to overpaying taxes or, worse, issues if the withheld amount wasn’t sufficient. Filing a return is important to finalize the tax. It’s also legally required if you have effectively connected income. Failing to file could complicate matters if the IRS ever audits or if the individual later seeks a U.S. visa or green card (tax compliance can be considered). Plus, why leave money on the table if you over-withheld? Always file to close the loop – you might get a refund or at least sleep better.

• Ignoring state and local requirements. Perhaps you handled the federal side perfectly, but forgot the state’s withholding or tax return. States can impose their own penalties and interest for non-compliance. For example, not submitting a required withholding form for a California property sale can result in hefty fines. Likewise, if a foreign corporation had a gain in a state with corporate income tax, it should file a state return even if a federal 1120-F is filed. Don’t let the focus on the IRS completely overshadow state obligations.

• Mishandling the 10% Publicly Traded REIT exception. This is a nuanced area. If a foreign investor’s holdings creep above 10% (say they started at 8% but then the REIT bought back stock, increasing their percentage, or the investor bought more shares), they could inadvertently lose the exception and become subject to FIRPTA on all subsequent capital gain dividends. Similarly, some brokers might not properly track if an investor is under or over 10%. It’s vital to monitor ownership percentage. Also, note that the 10% test generally applies at the time of the dividend and possibly looks at average ownership around that period – the technical rules can be complex if holdings fluctuate. The key is: keep foreign holdings in publicly traded REITs at or below 10% if you want to avoid FIRPTA on those dividends and eventual sales.

• Believing a domestically controlled REIT exempts you from all FIRPTA taxes. As discussed, being domestically controlled only helps when you sell the stock, not when you receive property gain dividends. A foreign investor might be lulled into a false sense of security, thinking “This REIT is domestically controlled, so I’m good.” You’re good for the stock sale, but if that REIT sells a building and gives you a dividend of the gain, you still face FIRPTA tax on that dividend. Misunderstanding this could lead to an unpleasant surprise at dividend time.

• Forgetting the foreign pension or other exemptions. On the flip side, sometimes people pay tax when they didn’t have to. If you represent a foreign pension fund, remember it can be entirely exempt from FIRPTA – but you might need to submit documentation (a certification of that status) to avoid withholding. Some tax treaties (very few) might offer partial relief in narrow cases; if a treaty country investor is involved, double-check the treaty language on real property gains. Generally, though, treaties don’t shield you, which is why the law had to explicitly exempt pensions via 897(l).

• Not seeking a withholding certificate when the tax will clearly be lower than 15%. If a foreign person is selling property at a gain but expects their actual tax to be less than 15% of the sales price (for example, selling at a small gain or even a loss), they can apply for a withholding certificate from the IRS to reduce or eliminate the 15% withholding. This must be done before or at the time of sale. Many skip this due to time constraints or lack of knowledge, ending up with too much cash withheld. While they can get it back via a return, that ties up funds for potentially a long time. A little planning can avoid that cash flow hit by securing a reduced withholding rate upfront.

• Navigating partnerships and trust rules without expert help. These are specialized areas. A common mistake is treating a foreign partner like a domestic one in distributions (failing to withhold quarterly on ECI), or distributing trust assets to a foreign beneficiary without realizing you need to withhold taxes or report to the IRS. Always segregate foreign vs. U.S. owners in your bookkeeping and ensure the additional steps for foreign owners are being followed.

Avoiding these pitfalls largely comes down to knowledge and careful planning. When in doubt, consult the regulations or a qualified tax advisor, because FIRPTA rules have many little twists and turns. A small oversight can lead to big complications, but they are preventable with diligence.

Real-World Examples of Section 897 Taxation in Practice

To see how all these rules play out, let’s walk through a couple of concrete scenarios. These examples illustrate different angles of Section 897 in action:

Example 1: Direct Sale by a Foreign Individual

Imagine Maria, a citizen and resident of Spain (with no U.S. residency), purchased a rental condo in Miami for $500,000 in 2015. In 2025, she sells the condo for $800,000. Over the years she claimed $100,000 of depreciation, so her adjusted basis is $400,000, and her total gain is $400,000 (of which $100,000 is unrecaptured depreciation taxed at 25% and $300,000 is regular capital gain). How is this taxed under Section 897?

• At closing, the buyer is required to withhold 15% of $800,000 = $120,000, and send it to the IRS (since Maria is foreign). Maria could have applied for a withholding certificate to reduce withholding to 15% of the expected gain, but let’s say she didn’t.

• Maria must file a U.S. tax return for 2025 reporting the sale. On that return, she’ll report the $400,000 gain. She can use the preferential rates: $100k of it is subject to 25% (depreciation recapture), $300k at 15%. So the tax comes to $25k + $45k = $70,000. She will get credit for the $120k withheld. That means she should receive a $50,000 refund after filing, since $120k was more than her actual liability.

• What about state tax? Because this property is in Florida (which has no state income tax), there’s no state income tax to worry about. If it were in a state like California, there would have been state withholding (e.g. 3.3% of sale price) and state tax of roughly 13.3% on the gain. Maria would then also have to file a CA state return to claim any refund or pay any difference.

• In the end, Maria paid $70k to the U.S. on her $400k gain – about a 17.5% effective tax rate, which is roughly what a U.S. person in a similar bracket might pay. FIRPTA ensured the IRS got its cut at closing and via her return. Without FIRPTA (pre-1980 law), Maria would have paid $0 to the U.S. on that gain (only Spain might tax her). This example shows FIRPTA’s core function: taxing foreign sellers of U.S. real estate comparably to U.S. sellers.

Example 2: REIT Capital Gain Dividend to a Foreign Investor

Now consider John, a nonresident alien investor from South Africa. He owns 2% of a publicly traded U.S. REIT called “USA Towers Corp.” USA Towers sells an office building and realizes a large long-term capital gain, of which John’s share (via a special dividend) is $50,000. What happens?

• Because John owns only 2% (≤10%), he qualifies for the small shareholder exception. Result: The $50,000 capital gain dividend is not treated as FIRPTA/ECI for John. Instead, USA Towers will treat it like an ordinary dividend to John for withholding purposes. It will withhold 30% of $50k = $15,000 (assuming no tax treaty to reduce the rate). John gets $35,000 net. John does not have to file a U.S. tax return because of this dividend; that 30% was final tax. (If South Africa taxes his worldwide income, he might report it there with credit for the 30% U.S. tax, but that’s outside U.S. scope.)

• Compare this to if John owned 15% of USA Towers (above the threshold). Then the full $50,000 would be taxed under Section 897: USA Towers would withhold 21% = $10,500. John would have to file a 1040-NR. If it was a long-term gain, John would owe 15% of $50k = $7,500 in U.S. tax (assuming he’s eligible for long-term rate); because $10,500 was withheld, he’d get a $3,000 refund after filing. But he had to go through the motions of filing to claim it. If it was short-term, he’d owe up to 37% = $18,500 on $50k, so the $10,500 withheld would not be enough and he’d have to pay an additional $8,000 when filing. In either case, owning above 10% triggers the FIRPTA rules for him.

• If USA Towers were a private REIT (not publicly traded), the 10% exception doesn’t apply at all, so any foreign owner’s share of gain gets FIRPTA treatment regardless of ownership percentage.

• Also note: If part of USA Towers’ distribution was ordinary income (say from rental operations), John would pay 30% on that portion regardless, as ordinary REIT dividends to foreigners are FDAP income. Most tax treaties don’t reduce the rate on REIT dividends significantly (some have special provisions), so in many cases it stays 30%. This means even with the FIRPTA exception, John pays 30% on what U.S. investors might get at 0%/15% (qualified dividends) or 20% (capital gains) – an example of how foreign investors often face higher withholding on U.S. income. But at least with the small shareholder exception, John avoids having to file returns for the capital gain piece.

Example 3: Foreign Corporation via a U.S. Blocker

A foreign investment group from Country X sets up Foreign Corp A in the Cayman Islands, which in turn owns 100% of U.S. Corp B (a Delaware corporation). U.S. Corp B buys a portfolio of U.S. rental properties. After several years, U.S. Corp B sells all the properties and has a large gain of $10 million. It then liquidates and distributes the cash to its parent, Foreign Corp A.

• On the sale of properties, U.S. Corp B will pay federal corporate income tax at 21% on the $10 million gain = $2.1 million to the IRS (plus any state corporate taxes, depending on where the properties were). FIRPTA withholding wasn’t needed at sale because the seller (U.S. Corp B) is a domestic corporation, not a foreign person.

• When U.S. Corp B liquidates, that liquidation distribution to Foreign Corp A is treated as if Foreign Corp A sold the stock of U.S. Corp B. Stock of U.S. Corp B is a USRPI (because U.S. Corp B’s assets were mostly US real property). So under Section 897, Foreign Corp A’s gain from disposing of U.S. Corp B is taxable. Essentially, the $10M gain that was inside U.S. Corp B now also gets taxed as a disposition of the stock. The withholding agent (U.S. Corp B or Foreign Corp A) might need to withhold 15% of the gross distribution ($10M) = $1.5M and send to IRS. Foreign Corp A would file a 1120-F (it can elect under 897(i) to do so or just be forced via 897) reporting the gain. However, since U.S. Corp B already paid $2.1M in corporate tax on the same economic gain, one might say this is double tax – and indeed it is. (This scenario is what Notice 2007-55 addresses: the IRS doesn’t want foreign owners escaping tax at the shareholder level just because a REIT or corp paid one level of tax. The Notice treats liquidations similarly to distributions of gain subject to FIRPTA.)

• If instead of liquidating, U.S. Corp B had just paid a regular dividend of the after-tax profits to Foreign Corp A, that dividend would be subject to 30% withholding (or treaty rate if applicable). Suppose no treaty; U.S. Corp B pays out $7.9M (after $2.1M tax) and withholds 30% = $2.37M. Total tax in that path: $2.1M + $2.37M = $4.47M on a $10M gain (~44.7%). If Country X had a tax treaty cutting the dividend withholding to 15%, then total tax would be $2.1M + $1.185M = $3.285M (~32.85%).

• If, on the other hand, the foreign investors had used a REIT instead of a regular corporation for this portfolio, the REIT could have avoided the initial corporate tax ($2.1M). The foreign investors would then pay FIRPTA tax on the distribution of the $10M gain. For individuals that might be at 20% = $2M, for corporations at 21% = $2.1M (plus maybe branch profits if not structured well). That likely would have been more tax-efficient than the blocker corporation route in this case. So choosing investment via REIT vs C-corp is a crucial decision for foreign investors in U.S. real estate. This example shows how using a domestic C-corp can lead to two layers of U.S. tax (corporate and shareholder level), whereas a REIT (pass-through) only imposes one layer (shareholder level, via FIRPTA).

These examples show the variety of outcomes. The taxes can be significant, but careful structuring and knowledge of exceptions (like the small shareholder exception or the pension exemption) can alter the picture. Still, any path chosen will involve U.S. tax if there’s a U.S. real estate gain – Section 897 ensures that. The planning is often about minimizing the layers of tax, not outright avoiding it.

Pros and Cons of Section 897 (FIRPTA) Taxation

Like any tax policy, FIRPTA’s Section 897 regime has advantages and disadvantages depending on your perspective. Here’s a quick look at the pros and cons:

Whether one views FIRPTA as fundamentally good or bad often depends on their role: U.S. policymakers and domestic investors may appreciate the fairness and revenue, while foreign investors and cross-border deal-makers often lament the added tax friction.

FAQs: Your Section 897 Dividend Questions Answered

Finally, let’s address some frequently asked questions about Section 897 dividends and FIRPTA that often arise in online forums and tax discussions:

Q: What exactly is a “Section 897 dividend” in simple terms?
A: It’s the portion of a dividend from a U.S. real estate investment (like a REIT or real-estate mutual fund) that comes from selling U.S. real property. In other words, if a REIT sells a property and gives you a dividend of the gain, that dividend is a Section 897 dividend. For foreign investors, that portion is taxed by the U.S. (as a real estate capital gain) under FIRPTA.

Q: I’m a foreign investor in a U.S. REIT. Are all my REIT dividends taxed?
A: Yes. Ordinary income dividends from the REIT (rental income, interest, etc.) are taxed at 30% withholding (or lower by treaty) because they’re FDAP income. Any capital gain dividends are taxed under Section 897 (treated as if you personally sold U.S. property) unless you own a small stake in a public REIT (then those dividends are exempt from FIRPTA and just treated as ordinary dividends with 30% withholding). Either way, the U.S. will tax REIT distributions to foreign investors, just via different mechanisms.

Q: If I’m a U.S. citizen investing in a REIT, do Section 897 dividends affect me?
A: Not in terms of paying extra tax. As a U.S. investor, you pay normal taxes (ordinary income rates on ordinary dividends, capital gains rates on capital gain distributions) on REIT distributions. The “Section 897” label is only significant for foreign shareholders and the REIT’s withholding obligations. You might see it noted on a 1099-DIV form, but it doesn’t change your tax treatment at all as a U.S. person.

Q: Can a tax treaty protect me from FIRPTA on real estate gains?
A: Generally, no. Almost all U.S. tax treaties allow the U.S. to tax gains from U.S. real property, so treaties typically don’t shield you from FIRPTA. One narrow exception: some treaties may exempt gains from sale of shares if the property assets are below a threshold of the company’s total assets (or if the company isn’t principally a real estate holding company). But if you’re investing directly in real estate or REITs, assume FIRPTA applies. Always check your country’s treaty, but don’t count on a treaty to override FIRPTA for real property gains – the source country (U.S.) usually retains the right to tax those.

Q: What is the 15% vs 21% withholding I hear about?
A: These are two different withholding mechanisms under FIRPTA: 15% applies to the gross proceeds when a foreign person sells U.S. real property (the buyer withholds 15% of the sale price). 21% applies to distributions of real estate gains (Section 897 dividends) by entities like REITs/RICs – it’s 21% of the gain portion of the dividend. The 15% is to cover the capital gains tax on a sale; the 21% is to approximate the tax on the gain being distributed (21% is the corporate tax rate, and also close to the max capital gain rate individuals might pay on such gains).

Q: Are there ways to legally avoid Section 897 taxation?
A: You can’t avoid it entirely if you’re a foreigner investing in U.S. real property, but you can structure investments to minimize it. For example: keep your ownership in any publicly traded REIT at 10% or below to use the small shareholder exception; use a qualified foreign pension fund if applicable (since those are exempt); or invest through a domestically controlled REIT (so that when you sell the REIT stock you avoid tax, though you’ll still pay on dividends). Some foreign investors choose debt investments (like mortgages) instead of equity – interest income is still taxed (30% withholding) but not as capital gains and can sometimes be reduced by treaty or portfolio interest exemption. In short, planning can reduce the instances and layers of FIRPTA tax, but if the investment is structured as owning U.S. real estate directly or indirectly, the U.S. will assert taxing rights on those gains.

Q: Do I really need a U.S. tax advisor if I’m dealing with FIRPTA?
A: It’s highly recommended. FIRPTA transactions have a lot of moving parts – withholding forms, tax return filings, possible requests for reduced withholding, etc. If you’re selling property, an advisor can help ensure you file everything correctly and on time (or get a withholding certificate to avoid tying up funds). If you’re a passive investor receiving FIRPTA dividends, an advisor can help you file your return to claim refunds or ensure you’re compliant. Mistakes can be costly or delay your funds. Unless the amounts are very small, getting expert advice usually pays off in this complex area.

Q: What happens if I ignore FIRPTA and just don’t pay?
A: In most cases, you won’t get the chance to ignore it – the mechanism forces the tax to be withheld by someone else (buyer, REIT, broker). If tax somehow wasn’t withheld when it should have been (say a buyer failed to withhold), the IRS can go after the buyer or withholder. If you received money and no tax was withheld, you’re still legally obliged to file a return and pay the tax. Ignoring that can lead to the IRS assessing tax, interest, and penalties later. It could also affect immigration or future investments if you have unresolved tax bills. In short, it’s not wise to try to bypass FIRPTA; the system is designed to catch non-compliance through withholding.

Q: Does FIRPTA apply to other types of assets, like stocks or bonds?
A: No – FIRPTA is specifically about U.S. real property interests. If a foreign person buys stock in Apple or Tesla and sells it for a gain, the U.S. doesn’t tax that gain (because it’s not real property and not ECI). Same with U.S. Treasury bonds – no capital gains tax for foreign investors. That’s exactly why FIRPTA was enacted: to carve out an exception for real estate, which is immovable and seen as part of the U.S. source-based taxation rights.

Q: How are Section 897 dividends reported on tax forms?
A: For foreign investors, the payer will report any Section 897 amounts on Form 1042-S (the annual tax form for U.S. income of foreign persons). If you’re a foreign individual, you use that 1042-S to file your 1040-NR. Additionally, Form 1099-DIV now has Box 2e and 2f to show Section 897 ordinary dividends and capital gain dividends, respectively – though those 1099 boxes are mainly informative (and typically provided when the recipient is a U.S. person or an intermediary). The key is when you file your tax return, you’ll report the income as a capital gain (with a note that it’s U.S. real property gain subject to FIRPTA). It’s not reported as “dividend” income on the return for tax calculation; it gets the treatment of a sale of property or capital gain.