Non-U.S. persons must pay U.S. tax on certain kinds of income they receive from U.S. sources. Typically, the income is taxed at a flat rate of 30%. The only way for this tax to be alleviated is if an income tax treaty exists between the U.S. and another country and that treaty authorizes a lower rate of tax.
You might be wondering how the United States collects this tax. For example, the non-U.S. person might decide not to pay it, thus thumbing his nose at the government. In that case, does the U.S. government dispatch secret service agents to all four corners of the globe to track down the tax evader, who may owe only a small amount of tax? Of course not. The U.S. knows all too well that it would be a waste of time and resources to take on the role of a bounty hunter.
Will the foreign country in which the non-U.S. person resides assist the United States in enforcing its demand? Unless the U.S. has a treaty that explicitly provides for such assistance, that outcome is highly unlikely. For these reasons, the IRS knows that it has as good a chance of collecting tax directly from a non-U.S. person as it does of getting blood out of a stone, and will not even attempt the futile act of doing so.
So how is the tax collected? It is withheld at the source from payments to foreign persons. In that way, the balance of power between the foreign person and the U.S. government is reversed. Very simply, the foreign person can no longer avoid the tax.
Who is a withholding agent?
A withholding agent is any person, U.S. or foreign, who has responsibility for withholding the required tax and paying it over to the IRS. Contrary to popular belief, a withholding agent is not just limited to a two-legged human being. Withholding agents may also be corporations, partnerships, trusts, associations, or any other entity, including foreign intermediaries, foreign partnerships, or U.S. branches of certain foreign banks and insurance companies.
The withholding agent will rue the day that he fails to collect and pay over the tax. Why? Because the agent is personally liable for the tax. This explains why some withholding agents border on being obsessive compulsive when it comes to ensuring that they have performed all of their duties relating to withholding.
Of the many responsibilities associated with being a withholding agent, none is more important than obtaining a certification from the payee. The purpose of a certification is to validate a payee’s claim of foreign status. In other words, it is a document in which the foreign person certifies – under penalty of perjury – that he is not a U.S. person.
By now you might be wondering if there is a form that embodies this certification. As with everything with the IRS, there is most definitely a form for certification. Foreign persons complete one of the forms in the Form W-8 series (e.g., W-8BEN, W-8BEN-E, W-8ECI, W-8EXP, and W-8IMY). U.S. persons have no responsibility to complete any such form. Instead, they must complete Form W-9.
The accuracy of the payee’s certification cannot be overemphasized. It determines what, if any, responsibilities that the withholding agent has. For example, certification by a payee that he is a non-U.S. person triggers an obligation on the part of the withholding agent to withhold taxes. But if the payee is a U.S. person, then the payor has no responsibility to withhold any tax.
Due Diligence Requirements
Does the withholding agent have any other responsibilities that go beyond obtaining the certification and withholding the tax? Yes. The withholding agent is responsible for ensuring that all information relating to the type of income for which Form W-8 is submitted is complete and accurate. Can a withholding agent rely on the information and certifications provided on the form, including the status of the beneficial owner as an individual or entity? Yes, unless the withholding agent has actual knowledge or reason to know that the information is unreliable or incorrect.
Reason to know that the information is unreliable or incorrect exists in the following circumstances:
• The withholding agent has knowledge of relevant facts or statements contained in the withholding certificate that would cause a reasonably prudent person to question the claims made; or
• The withholding agent has knowledge of documentation that would cause a reasonably prudent person to question the claims made.
Reason to know
Reason to know that a Form W-8 is unreliable or incorrect exists in the following circumstances:
• The Form W-8 is incomplete with respect to any item that is relevant to the claims made;
• The form contains any information that is inconsistent with the claims made;
• The form lacks information necessary to establish that the beneficial owner is entitled to a reduced rate of withholding; or
• The withholding agent has other account information that is inconsistent with the claims made.
What type of income is subject to withholding?
Below is a list:
• Certain kinds of interest;
• Compensation for, or in expectation of, services performed;
• Substitute payments in a securities lending transaction; or
• Other fixed or determinable annual or periodical gains, profits, or income.
Are there any types of U.S.-source income that are not subject to foreign-person withholding?
Examples include the following:
• Broker proceeds (e.gl, sales of U.S. stock and securities);
• Short-term CD (183 days or less);
• Bank deposit interest;
• Foreign source interest, dividends, rents, or royalties;
• Proceeds from a wager placed by a nonresident alien in the games of blackjack, baccarat, craps, roulette, or big-6 wheel.
However, you may still be required to submit Form W-8BEN to claim an exception from U.S.-information reporting and so-called “backup withholding” for these types of U.S.-source income.
Instructions for Payees
If a non-U.S. person (whether an individual or a foreign entity) will receive any of these types of income, he must provide the Form W-8BEN directly to the payor of the income to establish that he is not a U.S. person and to claim that he is the beneficial owner of the income. The form need not be submitted to the IRS.
Form W-8BEN must be signed and dated by the beneficial owner of the income, or, by an authorized representative as evidenced by a complete power of attorney. IRS Form 2848, Power of Attorney, may be used for this purpose.
How Long is the Form W-8BEN Valid?
Generally, a Form W-BEN is valid from the date signed until the last day of the third succeeding calendar year. For example, a Form W-8BEN signed on September 30, 2012, remains valid through December 31, 2015. A Form W-8BEN with a U.S. TIN remains in effect until a change of circumstances makes any information on the form incorrect, provided that the withholding agent reports on Form 1042-S at least one annual payment to the beneficial owner.
It is critical that Form W-8BEN be kept up-to-date. If not, the foreign person may find that the payor has wrongfully withheld tax on the income. If you thought getting a refund would be easy, you’d be sadly mistaken. Indeed, trying to disgorge wrongfully withheld amounts from the IRS is like trying to get past the Swiss Guard at the Vatican – it is virtually impossible. Those that have succeeded have only done so after enduring a time-consuming, costly, and cumbersome process.
Original Post By: Michael DeBlis