New Federal Regulations on Real Estate Purchases Effective March 1st

Following disclosure requirements put in place by the city in May 2015, the U.S. Treasury Department has announced that they will begin tracking real estate purchases made in Manhattan through shell companies. Shell corporations, or companies with little or no nominal assets, have been used to purchase luxury real estate in New York without revealing the identity of the buyers. Since shell companies can be registered in the names of accountants, lawyers, and other related parties, purchases made by these companies are often difficult to trace to the actual beneficiary. However, beginning March 1, title insurance companies will be required to share with the federal government the identities of buyers for all purchases worth $3 million and over. This new rule, part of an effort to create transparency in New York’s luxury real estate market, will last for 180 days, or through August 27.

This new wave of regulations is inspired by a series of articles published in The New York Times last February, which outlined the ways in which limited liability companies, or LLCs, have been used to purchase high-end real estate for both legitimate and illicit purposes. As a result of those articles, the de Blasio administration enacted new disclosure requirements on real estate sales in May 2015. All shell companies buying or selling property must disclose the identity of their members to the city. Previously, only 1 member of an LLC had to be identified, but now all members (and their tax identification numbers) must be listed. The main intent of the law is to identify real estate owners who claim to be nonresidents of the city in order to avoid paying income taxes. This also makes it more difficult for criminals to hide behind shell companies while laundering money through New York real estate.

According to The New York Times, more than half of condominium sales above $5 million in 2014 were made by shell companies. While some buyers who utilize shell companies have legitimate reasons for keeping a low profile – such as celebrities, prominent CEOs, and entrepreneurs – others have used shell companies for tax evasion purposes. Some real estate brokers have even advertised LLCs as a means of avoiding residency audits, which can be time-consuming and costly. Other criminal parties have used shell companies to defraud owners of their homes in Bedford-Stuyvesant and other low-income neighborhoods.

Also concerning to local and federal governments are the international buyers under criminal investigation who have taken advantage of the anonymity that shell companies previously guaranteed. Officials from Russia, Malaysia, and China, among other countries, have made multi-million dollar purchases in New York while under investigation for fraud, connection to organized crime, and other illicit activity. As non-citizens, these foreign investors remain exempt from laws that allow investigators to seize property. Building managers, brokers, lawyers, condo boards, and many other parties involved with real estate sales have often turned a blind eye to the unknown origins of the funds for these sales because of no legal obligation to investigate them.

Now, the federal government is tackling money laundering in real estate on a national level, with a dual initiative in Manhattan and Miami, two major destinations for foreign wealth. The rules set in place for March 1 – August 27 are unprecedented in that the federal government has never required the disclosure of names behind cash transactions in real estate. A similar proposal requiring background checks for real estate sales almost made its way into the Patriot Act after September 11, but real estate professionals argued that the rule would hurt the economy by discouraging law-abiding investors who wished to retain their right to privacy.

Even now, some are arguing that law-abiding buyers should not be asked to give up privacy rights because of a few ill-intentioned individuals. In fact, once the federal regulations go into effect this March, buyers will be looking to preserve their privacy in a number of ways – above the books, of course. Tactics include using a straw buyer, purchasing commercial (rather than residential) property, or simply waiting to make a purchase until the rule expires in August. The latter is a risky move, as there is no guarantee the provision won’t be extended once the expiration date arrives.

It remains to be seen whether the new local and federal regulations will lead to a reduction of money laundering, or if they will simply scare off foreign investors regardless of intent. Either way, luxury real estate sales in New York are about to become much more transparent.

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