Individuals and entities such as foreign corporations are still subject to US tax at a flat rate of 30% on income received from US sources, even if they are not US citizens or residents. A taxpayer may have the opportunity to reduce this fixed tax rate by filing Form W8BEN if his/her country of residence has an existing Income Tax Treaty negotiated with the United States.
Form W8BEN, US tax return and Foreign Nationals
This type of non-resident tax is withheld by the source of the income, or payor. The payor, also referred to as the withholding agent, has the responsibility of deducting and withholding that tax from your income and paying it to the Internal Revenue Service (IRS). If the withholding agent fails to meet this requirement, they may be held personally liable to pay the tax owed by you. This is the reason that these agents take every precaution to ensure that their obligation is met. One step in this process is to obtain a certification from the payee as to whether or not they are a US resident or citizen or a foreign individual subject to this special tax rate.
Permanent residents and citizens are not subject to the 30% (or lower treaty rate) withholding tax that foreign individuals are required to pay. Instead, foreign individuals must complete a form in the Form W-8BEN series, such as Form W-8BEN. US taxpayers use Form W-9 to file theirs. Form W-8BEN is also considered if Form 8833 must be filed.
The payor of the earned income is informed of the filing status of the individual when they have a W-8BEN on file. This fact will alert them to take out the appropriate withholding tax from the payee’s salary. When the payee is a US taxpayer, they will complete a W-9 and the payor will know that the 30% withholding tax rate does not apply.
What Income is Subject to 30% Withholding
A foreign individual will be subject to the 30% tax rate on any income they receive from the following US sources:
- Interest – this includes certain original issue discount (OID);
- Rental income;
- Compensation for, or in expectation of, services performed;
- Substitute payments in a securities lending transaction and
- Other fixed or determinable annual or periodical gains – or FDAP income- profits, or income.
This mandatory withholding tax is applied to the gross earnings of the foreign individual or entity.
There are some types of income earned in the US that will not be subject to this 30% withholding tax. Some of examples of these include:
- Broker proceeds such as the sale of US stocks or securities;
- Short term OID of 183 days or less;
- Bank deposit interest;
- Interest, dividends, rents or royalties sourced from a foreign payor and;
- Proceeds from a wager placed by a non-resident alien individual in the games of blackjack, baccarat, craps, roulette, or big-6 wheel. You can find more information on US tax assessed on gambling winnings of a foreign individual in another blog post.
You still may need to submit Form W-8BEN to claim an exception from any US information reporting and the back-up withholding for these types of US source income.
US Withholding Agents
The payors of the income to foreign individuals or entities, or the US withholding agents, are required to withhold the tax from all income paid to them. This tax must be withheld at the source of income before any payment can be made to the foreign person.
It is the withholding agent who is held responsible to ensure that the proper withholding tax is upheld, resulting in most of these payors being extremely diligent in making sure that it takes place. Otherwise, the alternative could be being held responsible for paying any taxes which were not withheld. This makes it highly unlikely that a foreign individual could avoid having to pay the stipulated withholding tax.
Reduced Tax Withholding With the Form W8BEN
A foreign person earning income in the US can have the 30% withholding rate reduced based on any applicable tax treaty for the foreign payee – the foreign individual who is receiving the income.
In order for the payee to claim a deduction under the rules of a relevant tax treaty, the withholding agent must first receive a Form W-8BEN from the foreign individual. It is only then that they can grant the payee the withholding reduction on the earned income outlined in the tax treaty.
Form W-8BEN must be signed and dated by the individual earning the income in question, or by an authorized agent as evidenced by a completed power of attorney form. IRS Form 2848, Power of Attorney, is sufficient to fulfill this purpose.
Related Forms to the Form W-8BEN Series
Foreign individuals who are earning a US income will generally be required to complete Form W-8BEN but there are other forms in the series, W-8BEN-E, W-8ECI, W-8-EXP and W-8IMY. These forms may be necessary based on the circumstance of the payee, such as if they are an individual or an entity.
A US taxpayer is not required to complete any of the forms found in the W8 series. They instead must complete Form W-9 in order to avoid having to pay any type of mandatory withholding tax.
Claiming Tax Treaty Benefits with the Form W8BEN
In the event that there is a tax treaty between the United States and your country of residence that provides an exemption from, or reduction of, withholding for certain items of income it is your responsibility to report this to the source of your income. All foreign individuals for whom a treaty applies should notify the payor of their foreign status in order to claim the benefits that they are entitled to. In most cases you will do this by filing Form W-8BEN, Certificate of Foreign Status of Beneficial Owner for United States Withholding and Reporting (Individuals) with the withholding agent.
W8-BEN Exemption from Withholding
A reduced rate of withholding tax will apply to a foreign individual that provides the payor with a Form W-8BEN claiming a reduced rate of withholding tax under an income tax treaty. The payee will be required to provide a US Taxpayer Identification Number (TIN) except where the income received is derived from certain marketable securities. They must also certify that:
- They are a resident of a treaty country;
- They are the beneficial owner of the income;
- If it is an entity, that it derives its income within the meaning of Section 894 of the Internal Revenue Code which states that it is not fiscally transparent; and
- That it meets any limitation on benefits provisions contained in the treaty if applicable.
Limitation on Benefits Provisions
Limitations on benefits provisions will generally prohibit residents from third countries from obtaining treaty benefits. In other words, a foreign corporation should not be entitled to a reduced rate of withholding tax on its earnings unless a minimum percentage of its owners are citizens or residents of the treaty country or United States.
Where to Send the Form W8-BEN
The Form W8BEN must be presented to the withholding agent or payor in order to claim a reduced rate of withholding tax. It should not be sent directly to the IRS.
How long is the Form W-8BEN Valid?
It is important that the Form W-8BENBEN be kept up to date in order to avoid having tax wrongfully withheld from your income. Recovering wrongfully withheld taxes from the IRS is a time consuming and costly process.
A Form W8BEN that is provided without a valid US TIN will remain in effect from the date that the form was signed until the last day of the third succeeding year unless a change in your circumstances makes any information on the form incorrect. Monitoring the expiration date of your forms is important to ensure that you are not wrongfully taxed on your earnings. If so, your only recourse will be to file a tax return and wait to receive a refund from the IRS.
A Form W8BEN that is filed with a US TIN will remain active until a change in your circumstances makes any of the information on the form incorrect. This is provided that the withholding agent reports on Form 1042-S for at least one payment made annually to the beneficial owner.
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