Q: I am a Buyer’s Agent and my client will be closing escrow soon. According to the Escrow Officer, even though the Seller has given her the Seller’s Non-Foreign Affidavit with his taxpayer identification information, the Escrow Holder will only give us a document in which she “certifies” that she has the Seller’s documentation and she will only keep that material for three years per her company’s purge policy. She refuses to give us the type of Qualified Substitute Statement that other Escrow Officers typically provide Buyers. The Buyer has reviewed FIRPTA and she is demanding that I make the Escrow Holder comply with federal law. What should I do?
A: You, as the Buyer’s Agent, with Buyer’s written permission should immediately send the Escrow Officer an email stating that the Buyer is demanding a properly-executed Qualified Substitute Statement under penalty of perjury in compliance with the Foreign Investment in Real Property Tax Act (“FIRPTA”); state that the Escrow Officer must act as specified in the Purchase Agreement and must retain the Seller’s Affidavit for a period of five years.
Unfortunately, FIRPTA puts Buyers at risk for taxes that a Seller may owe the IRS unless the Buyer has taken reasonable steps to determine if the Seller is part of the U.S. taxpayer system. This can be handled by using the CAR Form AS that requires the Seller to disclose the taxpayer identification numbers unless the Seller qualifies for one of three FIRPTA exemptions listed on the form (which seldom apply in California).
QUALIFIED SUBSTITUTE STATEMENT (“QSS”): FIRPTA allows the Seller to give the Seller’s Affidavit of Non-Foreign Status (the “Affidavit”) to a “Qualified Substitute” (usually the Escrow Holder) so that the Seller does not have to give the Seller’s taxpayer identification information to the Buyer. Once the Qualified Substitute receives the Seller’s Affidavit, the Qualified Substitute must furnish a Qualified Substitute Statement (“QSS”) to the Buyer stating, under penalty of perjury, that the Qualified Substitute has the Affidavit in his/her possession. The Qualified Substitute must then retain the Affidavit for a period of five years. Providing a “certification” that does not affirm, under penalty of perjury, that the Qualified Substitute has the Affidavit does not comply with federal law; stating that the documentation will only be maintained for three years also fails to comply with federal law.
There is no state or federal law that requires the Escrow Holder to serve as a Qualified Substitute; however, it is such a common practice in California for the Escrow Holder to comply with the FIRPTA requirements that the standard real estate purchase agreement forms create the legal basis for demanding that the Escrow Holder serve as the Qualified Substitute.
For example, Paragraph 20B of the CAR RPA provides that the Escrow Holder will serve as the Qualified Substitute. That Paragraph further states that if the Seller provides Escrow with the Seller’s Affidavit then “Escrow Holder shall deliver to Buyer a QSS that complies with federal law.” If that does not happen, then the Buyer must instruct Escrow to withhold 15% of the Seller’s proceeds (10% if the gross sales price is $1,000,000 or less and the property is to be used as Buyer’s personal residence) and forward that amount to the IRS.
Both the PRDS Purchase Contract (see Paragraph 13) and the SFAR Purchase Agreement (see Paragraph 30) forms also require the Escrow Holder to serve as a Qualified Substitute. If the Seller provides Escrow with the Affidavit, then the Escrow Holder must give Buyer a QSS under penalty of perjury. If the Qualified Substitute cannot or will not comply, then both PRDS and SFAR forms go one step further than the CAR RPA and mandate that the appropriate amount specified above of the Seller’s proceeds must be withheld and paid to the IRS without the need for any further instructions from the Parties.
Keep in mind that all standard real estate industry purchase agreement forms constitute joint escrow instructions. If the purchase agreement is deposited into escrow, then the Escrow Holder must comply with the instructions of the Parties and must act as a Qualified Substitute in a manner consistent with federal law.
Periodically, some Escrow Holders refuse to sign the requisite Statement “under penalty of perjury.” It is unclear why escrow companies have a problem strictly complying with FIRPTA. The Escrow Holder is merely confirming that they have the Seller’s Affidavit in their possession; they are making no representations as to the veracity of the Seller’s Affidavit and they have no liability for accepting a false Seller’s Affidavit unless they have actual knowledge that it is false (which rarely, if ever, happens).
WHAT IF ESCROW HOLDER WON’T COMPLY? If, after sending the Buyer’s written demand, the Escrow Holder will still not comply with the joint escrow instructions contained in the purchase agreement form, then the next step is to notify the Seller’s Agent that the Escrow Holder is refusing to act as a Qualified Substitute and that, in the absence of proper proof that the Seller is not subject to the FIRPTA withholding requirements, the Buyer must receive each Seller’s Affidavit, including every taxpayer’s Taxpayer Identification Number (SSN for most individuals), or else either 15% or 10% of the Seller’s proceeds, as specified above, must be withheld. The threat of withholding is often enough to get the Seller more actively involved in securing the Escrow Holder’s cooperation.
PRACTICE TIPS.
- All Brokers should ask the Escrow Holders that they typically use to see a copy of the form that the Escrow Holder uses and how long the Escrow Holder will be retaining the Seller’s Affidavit. If any Escrow Holder cannot or will not comply with federal law, inform them that you may not use their services. If you have any questions whether a particular Escrow Holder’s QSS form complies with Federal law, contact your manager.
- BUYER’S AGENT: If you learn that the Escrow Holder cannot or will not comply with federal law in a pending transaction, then discuss with the Buyer:
(a) The Buyer’s risk of paying the Seller’s taxes if there is no proper Qualified Substitute or written statement from the Seller that the Seller has the requisite taxpayer identification information; and/or
(b) Recommend to Buyer that they use a different Escrow Holder.
- SELLER’S AGENT: If you learn that the Escrow Holder cannot or will not comply with federal law, discuss with the Seller the following three options:
(a) Fully complete and sign a FIRPTA form giving the Buyer the Seller’s taxpayer identification information;
(b) Allow the appropriate amount specified above to be withheld from the Seller’s proceeds and paid to the IRS; or
(c) Use an Escrow Holder that will comply with federal law.
WEEKLY PRACTICE TIP: DO NOT FORWARD TO CLIENTS. This Weekly Practice Tip is for the exclusive use of clients of Broker Risk Management and their agents. It may not be reproduced or distributed without the express written consent of Broker Risk Management. The advice and recommendations contained herein are not necessarily indicative of standards of care in the industry, but rather are intended to suggest good risk management practices.
© Copyright Broker Risk Management 2019 05/31/19