Michigan Tax on sale of property overseas

[abhishtu2]

In 2024, I sold a residential property in India and got substantial Long Term Capital Gain. I had not resided in that property for over five years. However, I paid tax on capital gain to the Indian authorities.

IRS permits me to set off the tax paid in India (which, incidentally, is much higher than my tax rate here in USA.

Am I eligible to claim this credit in computing Michigan State Income Tax as well?

Thanks.

[pk]

@abhishtu2 , Namaste  ji.

(a) Under the US-India Tax treaty and utilizing the double taxation clause,  US  will give  you credit for  taxes paid to India.  However, the amount allowable  in the  current tax year ( year in which the sale took place ), the best case scenario is for US tax on that same doubly taxed foreign source income is nil.  But generally it is far less than that.

(b) Most states including MI do not recognize  US-Other country tax treaties  ( some states  do  or have their own  with  a neighbor foreign country -- e.g. NY with Canada )

(c)  Also to note there is  that your gain/ loss on alienation of  foreign real-estate for US Tax purposes is based on US laws  ( no  indexing of basis as is done in India.).  And  it is the lesser  of the  two gains  ( US and India ) that is doubly taxed -- generally US gain  is higher.

Is there more I can do for you  ?

Namaste ji

pk

[abhishtu2]

Hi

Thank you for the clarification.

I am a US citizen residing in Michigan.

Actual tax I paid in India is much greater than what I believe the tax liability in USA.  While USA does not have indexation, my gain in dollar terms, as well as tax rate here, would ensure that my liability would be lower than what I have already paid in India. In effect, I believe my federal payments would be zero.

If I understand you correctly, Michigan does not recognize India-USA DTAA and hence my entire LTCG (calculated in dollar terms) on sale of the property will be taxed at the flat rate of 4.25% with no credit for taxes paid to Indian authorities. 

Thank you.

[pk]

@abhishtu2 , generally agreeing with your post.  I just want to make sure that  " in dollar terms" is not the  whole story.  Yes for US Tax purposes you use the  US dollar of the day ( i.e. published exchange rates effective  on the day) od the  transaction.  However there are also  rules for gain computation and what expenses are allowed to be included  as offset ---that is why I used the  term under US laws.  Also  the acquisition cost reckoning may be different  whether you directly bought or acquired through  gift or inheritance per the US laws.  Then of course there is the basis adjustment based on laws of each country and/or facts and circumstances ( including  how used  / depreciation allowable / step-up etc. )

Further  if the prop. was  qualified as Long-Term ( per US laws ), the tax treatment  would be capital gain tax rather than  ordinary  gain for both Federal and State taxes.

However, TurboTax would do all these  things for you -- all you have to do is answer the  questions posed.

Hope this heps.

pk

[abhishtu2]

Thank You very much.

[jagpreet71]

My parents who live in Michigan, sold their house in India, paid ~23.5% in TDS.  Michigan state has rejected our tax return and is asking us to pay taxes on the capital gain realized from the sale of house in India.  I have requested meeting with my CPA to make sure he filed all the correct IRS forms to State of Michigan when tax return was filed.  It is not looking positive.   

[pk]

@jagpreet71 , 

From your post , I get the general picture  but lack details to  comment.  Obviously if you are employing a CPA to argue for you, then you should be in good hands ( assuming that the CPA is familiar with  international taxation in general and US-India  Tax Treaty, at least for federal purposes.

I am not sure I understand your basis for disagreeing with MI.   Please could you tell more about the case -- including  the taxpayers' immigration status, was the sale completed when  they were NRA,  when was the sale  completed and when did they enter this country etc. etc.

I look forward to hearing from you .

Namaste ji

[jagpreet71]

Hello Namaste Ji, 

Sorry for leaving some important details out.  My parents are the taxpayers in this case.  They both hold the US citizenship and also have the OCI.  I have been using the same CPA for the last 10 years, but my parents went to him for the first time for the 2023 tax return, and he definitely had to do some homework as he doesn't often deal with cases involving sale of overseas properties .  CPA claimed foreign tax credit for taxes paid in India on the Federal 1040 and that we believe was done correctly.    Our CPA believes that we should not be paying MI taxes on the sale of this residential property in India. He has responded to State of Michigan on our behalf twice.  

First response stated "According to current Michigan Tax Law, the real property that was sold in 2023 and included on the adjustment form was from real estate sold in the country of India which is considered a state under Michigan tax law".  

Second response stated "The taxpayer claimed a miscellaneous subtraction for income received from India, which is considered a"State" for Michigan income tax purposes. The taxpayer si a 100% Michigan resident. Under Michigan Compiled Laws (MCL) the income tax act of 1967 allows taxpayers a miscellaneous deduction for income from another "State". Under section 206.20(2) the definition of a "State" means any state of the United States and any foreign country.  Therefore, the income from India is considered from another state under Michigan Compiled Laws (MCL) and qualifies for the subtraction. We have included a copy of section 206.20 and a statement showing the income was received from India.  Please consider the above information and reconsider the disallowance of the miscellaneous subtraction".

State of Michigan's reply - "Your unexplained subtraction on your Michigan Schedule 1 was disallowed". Last reply was the same and they also stated "We did not receive all of the information requested".  They are not specifying what information do they want to see from us.  I have sent inquiry but no response.  It went from being refund as initially calculated to owning money to them.  

My questions - 1) does Michigan have treaty with foreign countries (in this case, India) for exclusion of certain foreign earned income?  2) is this case worth fighting for?   Are there laws that simply states any / all income regardless where it was originated from MUST be taxed?  Any insight would be greatly appreciated.  

Jagpreet

[abhishtu2]

Hi

Your tax issue is similar to mine (property in India sold in 2024).

My understanding, at least so far, is that Michigan State DOES NOT take cognizance of overseas tax payments in any other country except for Canada (maybe because that country is its northern neighbor). Hence, LTCG on sale of property in India will attract the usual 4.25% tax.

If your CPA has better luck, please keep everyone informed thru this community portal.

All the best.

[pk]

@jagpreet71 , 

 As I had mentioned earlier, most US States  do NOT  recognize  US-Other Country  Tax Treaties.  Sometime they have their own agreements  with the next door country -- e.g.  Michigan with Canda, NY with  Canada etc.

In your particular case , here are two items to consider :

  (1) -----    MI-1040, Line 18: Credit for Income Tax Imposed by Government Units outside Michigan.

Line 18a: Enter the total income tax paid to other government units. If you paid tax to more than one unit, attach a schedule showing the tax paid to each government unit.

Include the amount of income tax paid to:

• A nonreciprocal state (Any state other than Illinois, Indiana, Kentucky, Minnesota, Ohio, or Wisconsin)
• A local government unit outside Michigan, including tax paid to local units within reciprocal states (e.g., City of Toledo)
• The District of Columbia
• A Canadian province.

You may not claim a credit for taxes paid on income not included in Adjusted Gross Income (AGI) or subtracted on Michigan Schedule 1 (e.g., rental or business income from another state, part-year resident wages, etc.).

If you claim credit for Canadian provincial tax, you must file a Resident Credit for Tax Imposed by a Canadian Province (Michigan Form 777). Attach copies of your Canadian Federal Individual Tax Return (Form T-1), Canadian Form T-4, Foreign Tax Credit (U.S. Form 1116), and U.S. Form 1040. Your credit is limited to the portion of your Canadian provincial tax not used as a credit on your U.S. Form 1040.

Attach a copy of the return filed with the other government unit(s) to your MI-1040.

Line 18b: Credit amount. If more than one government unit is involved, compute the credit amount for each government unit separately. Then add the individual credit amounts and enter the total on line 18b.

Compute your allowable credit as follows:

Divide your income subject to tax in both states by your income subject to Michigan tax (MI-1040, line 14); then multiply the amount of tax on MI-1040, line 17, by the result.

Your credit cannot exceed the smaller of:

1. the amount of tax imposed by another government; or
2. the amount of Michigan tax on salaries, wages, and other personal compensation earned in another state.

 (2)     MCL - Section 206.255 - Michigan Legislature

206.255 Credit for tax imposed by another state, District of Columbia, or Canadian province; allowance of Canadian provincial credit; maximum credit.

Sec. 255.

    (1) A resident individual or resident estate or trust is allowed a credit against the tax due under this part for the amount of an income tax imposed on the resident individual or resident estate or trust for the tax year by another state of the United States, a political subdivision of another state of the United States, the District of Columbia, or a Canadian province, on income derived from sources outside this state that is also subject to tax under this part or the amount determined under subsection (3), whichever is less. For purposes of the Canadian provincial credit, the credit is allowed for only that portion of the provincial tax not claimed as a credit for federal income tax purposes. It is presumed that the Canadian federal income tax is claimed first. The provincial tax claimed as a carryover deduction as provided in the internal revenue code is not allowed as a credit under this section.

    (2) The Canadian provincial credit shall be allowed for the 1978 tax year and for each tax year after 1978.

    (3) The credit under this section shall not exceed an amount determined by dividing income that is subject to taxation both in this state and in another jurisdiction by taxable income and then multiplying that result by the taxpayer's tax liability before any credits are deducted.

History: 1967, Act 281, Eff. Oct. 1, 1967 ;-- Am. 1969, Act 332, Imd. Eff. Nov. 4, 1969 ;-- Am. 1978, Act 589, Imd. Eff. Jan. 4, 1979 ;-- Am. 1979, Act 30, Imd. Eff. June 14, 1979 ;-- Am. 1982

Note both  the instructions and the  Statute section  does not allow ANY tax credit for taxes paid to a foreign taxing authority  ( except for Canadian provinces ).

Does this make sense ?   

Is there more I can do for you ?

Namaste  Jagpreet ji.

pk