The IRS has just issued a Revenue Ruling cutting some slack for US citizens who own vacation property in Mexico. Under Mexican law, non-Mexican persons are prohibited from owning residential real estate in certain areas of the country (usually vacation destination areas within a certain distance of the Mexican coast). Since US citizens couldn’t own those properties directly, they had to create a fideicomiso, or Mexican Land Trust, with a Mexican bank. Under the Mexican Land Trust, the Mexican bank would hold legal title to the property, but the US citizen is still able to direct the use, enjoyment, maintenance, sale, or rental of the property.
This Mexican Land Trust created several income tax issues for US citizens. In general, a US citizen that is a beneficiary of a “foreign trust” must report any benefits received from the foreign trust to the IRS and is responsible for paying the income taxes on the benefits received. The IRS takes the position that the right to live in a property owned by a foreign trust is a taxable benefit that must be reported to the IRS.
Under the IRS’ former position, a US citizen that spent a couple of weeks in their Mexico vacation property would have to report the rental value of the time spent in the vacation property as income to the IRS. For example, if someone would normally pay $2,500 per week to stay in the same property, the US citizen would have to report that much income for each week that they stayed in their own vacation property! Additionally, many US citizens didn’t even know that using their own vacation property would create taxable income to them or a reporting requirement to the IRS. The failure to report the use of the vacation property, if discovered by the IRS, results in a minimum penalty of $10,000. Ay, caramba!
With the new Revenue Ruling, though, the IRS has come to their senses and changed their position. They acknowledge that the requirement to use a Mexican Land Trust is nothing like what we normally call a “trust,” meaning that US citizens no longer have to report the use of their Mexican vacation property as a benefit from a “foreign trust.” This news should make vacationers in Mexico breathe a great sigh of relief.
If you have previously reported the use of a Mexican vacation property as a benefit from a foreign trust and paid taxes on that benefit, there may be an opportunity to amend prior tax returns and obtain a refund based on the IRS’ new ruling. Give us a call at the Dana Law Firm, and we’ll meet with you to discuss your situation. We can advise you with regards to these tax issues or other issues related to owning Mexican property in your estate plan.
written by Attorney Trevor Whiting