Payments to domestic and foreign persons create a number of withholding and information reporting obligations for both the payor and the recipient of these payments under various provisions of the Internal Revenue Code (the "Code"). These procedures are important to the operation of the Internal Revenue Service's (the "IRS") automated document matching systems. These systems allow the IRS to match information provided by payors with income reported on a payee's income tax return to help detect U.S. taxpayers that fail to file tax returns or underreport income. The withholding of tax at source and the reporting of payments to foreign persons insure that foreign persons comply with their U.S. tax obligations.
On October 6, 1997 the IRS issued the final 500-odd pages of new regulations under sections 1441, 1442 and 1443 of the Code, overhauling withholding and information reporting rules for payments to nonresident aliens, foreign corporations and other foreign entities and the U.S. tax liability resulting from such payments. In issuing this guidance, the IRS hopes to eliminate unnecessary burdens on withholding agents by coordinating these rules with the withholding rules and procedures for U.S. citizens and resident aliens and domestic corporations and entities. With these new rules the IRS is also streamlining the types of statements required to claim a reduced rate of withholding. These new rules will assist withholding agents in withholding the proper amount of tax at source or in determining the proper reduction of the tax under the Code or applicable income tax treaty. The rules are effective for payments made on or after January 1, 1999.
Current Withholding and Reporting Rules
Under sections 871(a) and 881(a) of the Code, nonresident alien individuals and foreign corporations are subject to a 30 percent tax on gross income they receive from sources within the United States that are not effectively connected with the conduct of a trade or business in the United States. Such income includes interest, dividends, rents, royalties, pensions, alimony and other fixed or determinable annual or periodic (FDAP) income, certain gains, and compensation for independent services performed in the United States, including directors fees. The 30 percent withholding tax is reduced to 14 percent on scholarships and fellowships received by nonresident alien individuals in the United States in F, J, M, or Q immigration status.
The tax liability imposed is generally collected by way of withholding at source under chapter 3 of the Code pursuant to section 1441(a) for payments to nonresident individuals and foreign partnerships, 1442(a) for payments to foreign corporations, and section 1443(a) for payments of certain income to foreign tax-exempt organizations. The tax liability imposed under these sections also extends to payments to foreign trusts and estates. Other special withholding sections apply to gains from the disposition of U.S. real property by foreign persons and income effectively connected to the conduct of business in the United States by a foreign partnership.
The 30 percent withholding tax may be reduced under the Code or an income tax treaty. Under current regulations, a withholding agent may generally rely on a statement furnished by or for the beneficial owner certifying eligibility for a reduced rate. The procedural requirements for claiming a reduced rate of withholding may vary depending upon the type of income, the status of the taxpayer, and whether an income tax treaty applies. For example, the portfolio interest exemptions under sections 871(h) and 881(c) are conditioned on the beneficial owner of the interest providing a statement of foreign status to the U.S. withholding agent, which can be done on Form W-8, Certificate of Foreign Status. If a reduction is claimed under an income tax treaty for income other than compensation for services, the withholding agent may generally rely on a Form 1001, Reduced Rate Withholding Certificate, provided by or for the beneficial owner claiming tax residence in the treaty country. For dividends, however, the withholding agent is allowed to rely on the address of the payee and grant a reduced rate of withholding if the recipient's address is in the treaty country. To exempt compensation for personal services from tax under an income tax treaty, the withholding agent must obtain a completed Form 8823, Withholding Certificate, and accompanying certifying statement from the individual. The withholding agent must submit this form and statement to the IRS for review and wait ten days before exempting the compensation from withholding.
A withholding agent is generally required to file an annual income tax return on Form 1042 to report payments upon which an amount was actually withheld under chapter 3 of the Code or would have been required to be withheld but for an exemption from tax under the Code or an income tax treaty. An information return on Form 1042S must be provided to the payee and attached to the Form 1042. The 1042S must report the payee's name, address, amounts paid and amounts withheld, if any. For all payments, the Form 1042S must indicate the country of tax residence of the payee. The Form 1042S information is transmitted automatically to the respective treaty partners of the United States for their tax compliance purposes. A payor who fails to withhold on and report such payments on Forms 1042 and 1042S, or who fails to obtain the forms required for exemption from withholding, can be liable for interest and penalties in addition to the amount that should have been withheld.
A payor making payments to foreign persons must also be aware of the information reporting provisions under chapter 61 of the Code and other withholding regimes, such as section 3406 for backup withholding, section 3402 for wage withholding, and section 3405 for withholding on pensions and annuities. Payors subject to these withholding and reporting rules include both U.S. and foreign payors. Under chapter 61 of the Code many types of payments such as interest, dividends, royalties, and broker proceeds must be reported on a Form 1099 if paid to certain U.S. payees. The form is filed with the IRS and a copy is furnished to the recipient of the payment. In addition, these same payees are required to furnish a taxpayer identification number (TIN) to the payor, generally on Form W-9. For reportable interest and dividends, the form must also include a certification that the payee is not subject to notified backup withholding. Failure of the payee to provide a TIN generally will require the payor to backup withhold on the payment at a rate of 31 percent. A payor who fails to obtain a TIN or other required information in the manner required, or to backup withhold when required, may be liable for interest and penalties in addition to any amount that should have been withheld.
Payments to foreign persons are exempt from Form 1099 information reporting and backup withholding. The exemption is generally conditioned upon the recipient furnishing a certificate supporting its foreign status. Generally, depending upon the type of payment involved, a payor may rely currently on a certification of foreign status made on Form W-8, Form 1001, Form 4224 or Form 8233. Therefore, even if an amount paid to a foreign individual or entity is exempt from withholding under chapter 3 of the Code, as in the case of gains on the sale of securities, a payor must nevertheless comply with the information reporting and backup withholding procedures.
New Withholding Procedures
Under the new rules, a withholding agent (whether U.S. or foreign) must first ascertain whether the payee is a U.S. or foreign person in order to determine the applicable withholding and reporting rules. The Code defines a foreign person for federal income tax purposes as a nonresident alien individual, a foreign corporation, a foreign partnership, a foreign trust, a foreign estate, or any other person that is not a U.S. person.
A nonresident alien individual is a foreign national who fails to meet the Code definition of resident alien individual for federal income tax purposes. A non-U.S. citizen who is a resident of Puerto Rico, Guam, the Commonwealth of Northern Mariana Islands, the U.S. Virgin Islands, or American Samoa is also treated as a nonresident alien for purposes of chapter 3. Therefore, in order to withhold and report correctly on payments to individuals, a payor must determine whether an individual is a U.S. citizen and, if not, whether the individual is a nonresident alien under section 7701(b) of the Code or whether the individual who is a resident under section 7701(b) is nevertheless a nonresident under an applicable tax treaty. (For an explanation of these rules, see U.S. Taxation of Foreign Students and Scholars, ILR, Vol.15, p. 89 (April 15, 1996).)
A foreign corporation is a corporation that is not a domestic corporation. A domestic corporation is a corporation organized under the laws of any of the fifty states or the District of Columbia. A corporation created or organized under the laws of a U.S. possession (i.e., Guam, the Commonwealth of the Northern Mariana Islands, the U.S. Virgin Islands, or American Samoa) is generally treated as a foreign corporation unless certain requirements are met. A payment made to a foreign government or to an international organization is treated as a payment made to a foreign corporation for purposes of chapter 3 withholding and reporting.
A foreign partnership is an unincorporated business association that is organized under the laws of a foreign country. For tax purposes, any entity that is organized for carrying on business between two or more persons that is not a corporation, a trust or an estate is taxed as a partnership regardless of the name given to the entity.
A foreign trust is any trust other than a domestic trust. A trust for tax purposes is any arrangement by which title to property is held by one person or group-the trustees-for the benefit of another person or group-the beneficiaries. A trust is a domestic trust if a court within the United States is able to exercise primary jurisdiction over the administration of the trust and one or more of the U.S. trustees have the authority to control all substantial trust decisions.
A foreign estate is an estate which generates income from sources outside the United States that are not effectively connected with a trade or business in the United States. This definition is used for U.S. income tax purposes only. (An estate is foreign for estate tax purposes only if the decedent was neither a U.S. citizen nor a foreign national domiciled in the United States.)
Reliable Association
The new regulations introduce the concept of reliable association in determining the extent to which the withholding agent can rely on a withholding certificate or other documentation to determine the extent of its withholding obligations. A withholding agent can reliably associate a payment with documentation if, for that payment, it holds valid documentation to which the payment relates, it can reliably determine how much of the payment relates to the documentation, and it has no actual knowledge or reason to know that any of the information or certifications in the documentation are incorrect. A withholding agent cannot reliably associate a payment with documentation if the documentation is missing or unreliable. These rules apply regardless of whether the documentation is otherwise required. For example, a payment of U.S. source royalties to a corporation with "Inc." in its name requires no documentation if its exempt recipient status is inferred from the "eyeball" tests under the Form 1099 reporting rules. In such a case, the payor must consider that there is a per se lack of documentation. Therefore, a payment to such an exempt recipient is presumed made to a foreign person if certain indicia of foreign status described below are met. If these indicia are present, the payor, if also a withholding agent, must withhold 30 percent from the payment under section 1441.
A withholding agent must withhold 30 percent of any payment of an amount subject to withholding made to a payee that is a foreign person, unless it can reliably associate the payment with documentation upon which it can rely that the payment, as made to a beneficial owner that is a U.S. person or as made to a beneficial owner entitled to a reduced rate of withholding. With exceptions for payments to financial institutions and certain intermediaries, a withholding agent making a payment to a U.S. person who has actual knowledge that the U.S. person receives the payment as an agent for a foreign person must treat the payment as made to a foreign person.
A withholding agent may treat a payment as a payment to a U.S. person if the U.S. person is a financial institution and the withholding agent has no reason to believe that the institution will not comply with its obligation to withhold. A withholding agent making payment to a foreign person need not withhold when the foreign person is a qualified intermediary, a U.S. branch of a foreign person, a withholding foreign partnership or an authorized foreign agent.
The new rules coordinate the withholding and reporting rules for payments to U.S. persons and for payments to foreign persons. If a payee is a U.S. person, the withholding provisions under chapter 3 of the Code do not apply. Information reporting under chapter 61 of the Code may apply, however, and if a TIN is not furnished in the manner required, backup withholding may also apply. If a payee is a foreign person, the withholding provisions under chapter 3 of the Code apply instead. To the extent that withholding is required under chapter 3 of the Code, or is excused based on documentation that must be provided, none of the information reporting provisions under chapter 61 apply, nor does backup withholding. If, however, withholding under chapter 3 of the Code does not apply, as in the case of foreign source income paid by a U.S. payor, documentation must nevertheless have to be furnished to the withholding agent under chapter 61 of the Code in order to be excused from Form 1099 information reporting, and possibly from backup withholding. Determinations of payee status are generally made at each level of the chain of payment, until, ultimately, the payment is made to the beneficial owner. The beneficial owner is the person who is the owner of the income for tax purposes and who beneficially owns the income under U.S. tax principles, including substance-over-form principles.
Revised Forms and Standards
The forms currently in use apply different standards of proof and are not uniform in the manner in which the information is furnished to withholding agents. The new regulations unify the documentation requirements and clarify uncertainties that may exist under current rules, such as the scope of due diligence standards imposed on withholding agents. Generally under the new rules, the determination by a withholding agent of the U.S. or foreign status of a payee and of its other relevant characteristics, such as beneficial owner or intermediary, or as an individual, corporation, or flow-through-entity, is made on the basis of a withholding certificate indicating the foreign or U.S. status of the payee or beneficial owner. The rules also include new forms and certifications for payments to certain intermediaries and flow-through-entities that can be treated as U.S. persons for purposes of withholding and reporting. The rules related to these entities are beyond the scope of this article.
A withholding agent is not required to withhold under chapter 3 of the Code on payments to a U.S. payee or beneficial owner. A withholding agent may treat as a U.S. person a payee who has furnished a Form W-9, Certificate of U.S. Status, that is signed under the penalties of perjury and contains the name, permanent address, and TIN of the payee. In order for a payment to be treated as a payment to a foreign beneficial owner, the withholding agent must hold a Form W-8, Certificate of Foreign Status, or Form 8233, Exemption from Withholding on Compensation, in the case of personal services income and certain scholarship grants. If a beneficial owner receives more than one type of income from the same withholding agent, the beneficial owner may have to submit more than one withholding certificate for the different types of payments. A Form W-8 is valid only if its validity period has not expired, it is signed under the penalties of perjury by the beneficial owner, and it contains all the information required on the form. The required information includes the beneficial owner's name, permanent resident address, and the country of tax residence for an individual or, if not an individual, the country under whose laws the beneficial owner is incorporated or organized. A withholding agent must retain each withholding certificate and other documentation for as long as it may be relevant to the determination of the withholding agent's tax liability. The revised forms will be released for public comment before they are finalized.
As under the current rules, certain amounts paid as scholarship or fellowship for study, training, or research in the United States to a nonresident alien individual temporarily in the United States in an F, M, J, or Q immigration status are treated as income effectively connected to the conduct of a trade or business in the United States. Such grants, to the extent that they do not represent compensation for services, are subject to withholding on the taxable portion at 14 percent. The new rules allow a withholding agent to elect to apply wage withholding to such grants.
As under the current rules, a withholding agent is required to file an annual income tax return on Form 1042 and an information return on Form 1042S for each payee by March 15 of the calendar year following the payment.
Presumptions
The new rules include presumptions regarding the characteristics of a payee so that a payor or withholding agent may determine whether to treat the payee as an owner of a account or as an intermediary, and as an individual, a trust, an estate, a corporation or a partnership. A withholding agent that cannot reliably associate a payment with documentation must presume that the payee is an individual, a trust, or an estate, if the payee appears to be such person based on the payee's name or other indications. In the absence of such reliable indications, the withholding agent must presume that the payee is a corporation if it can be so treated by the "eyeball" tests under the Form 1099 reporting rules. Otherwise the payee must be presumed to be a partnership. These presumptions are designed to assure withholding in situations where there would otherwise be no withholding. They cannot be used to provide a reduced rate of withholding.
A payment that the withholding agent cannot reasonably associate with documentation is presumed to be made to a U.S. person and subject to 31 percent backup withholding and Form 1099 reporting, with certain exceptions. If the payee is an exempt recipient under the "eyeball" tests for Form 1099 reporting and, therefore, is not subject to withholding or reporting, the payee is presumed to be a foreign person rather than a U.S. person if one of the following criteria is met:
- the withholding agent has actual knowledge that the payee's employer identification number begins with the two digits "98",
- the agent's communications to the payee are mailed to an address in a foreign country,
- the name of the entity indicates that it is a per se foreign corporation based on the regulations under section 7701(a) defining such entities, or
- the payment is made outside the United States.
If a withholding agent can reliably associate a payment with a group of beneficial owners, but lacks reliable information to determine how much of the payment is allocable to one or more of the beneficial owners, the payment is presumed to be allocable to the beneficial owner in the group with the highest withholding rate. If the rates are equal, the payment is presumed allocable to the payee in the group with the highest U.S. tax liability, to the extent that is determinable based on the withholding agent's knowledge and available information.
Special rules are provided for scholarships and pensions for which no backup withholding applies and for payments to foreign accounts.
Scholarship and Fellowship Grants. A payment representing a taxable scholarship or fellowship grant that does not represent compensation for services, and that a withholding agent cannot reliably associate with documentation, is presumed to be made to a foreign person if the withholding agent has a record that the payee has a U.S. visa that is not an immigrant visa (i.e., a "green card").
Pension Payments. A payment from a pension plan or an annuity payment that a withholding agent cannot reliably associate with documentation is presumed to be made to a U.S. person only if:
- the withholding agent has a record of a social security number for the payee and
- the agent relies on an address which is used for purposes of information reporting or otherwise communicating with the payee, that is in the United States, or in a foreign country with which the United States has an income tax treaty in effect which provides that the payee, if tax resident in that country, would be exempt from U.S. tax on such amounts.
Any such payment not presumed made to a U.S. person is presumed made to a foreign person. A withholding agent making a payment to a person presumed to be a foreign person may not reduce the 30 percent amount unless it receives a withholding certificate on Form W-8.
Payments to Foreign Accounts. A payment to a foreign account is presumed to be made to a U.S. person. Thus, the payor must file a Form 1099 for the payee, but the payment is not subject to backup withholding. In the case of a payment to a foreign account of an amount subject to chapter 3 withholding, the payment is presumed to be made to a foreign person and not to a U.S. person. Thus, the withholding agent must withhold on the payment at a 30 percent rate. In that case, the presumptions insure that a tax is paid on such amounts.
The presumptions are mandatory. A withholding agent that fails to follow these presumptions but instead relies on its own actual knowledge to withhold a lesser amount, or not to withhold or not to report, even though reporting of the payment or withholding a greater amount would be required under the presumptions, is liable for the tax, penalties and interest. If the withholding agent has actual knowledge or reason to know that the status of the beneficial owner are other than what is presumed and that a higher amount of withholding is indicated, the withholding agent may not rely on the presumptions and must withhold at the higher rate.
Timely Documentation Required
A withholding agent that cannot reliably associate a payment with documentation on the date of payment and that does not withhold under section 1441(a) as required, or withholds at a rate less than the prescribed rate, is liable for the tax required to be withheld without the benefit of a reduced rate, unless one of the following exceptions applies:
- the withholding agent has appropriately relied on applicable presumptions to treat the payment as a payment to a U.S. person or as income effectively connected with the conduct of a U.S. trade or business,
- the agent can demonstrate that the proper amount of tax was paid to the IRS, or
- no documentation is required for a reduced rate of withholding.
Proof of payment of tax may be furnished establishing the amount of tax actually paid by the beneficial owner of the income. Proof of such payment, however, does not relieve the withholding agent of liability for applicable interest and penalties. Proof that a reduced rate of withholding was appropriate may also be established after the date of payment by the withholding agent on the basis of a valid withholding certificate or other appropriate documentation furnished after that date.
Grace Period
A withholding agent awaiting documentation may, in its discretion, treat the payee as a foreign person and withhold 30 percent under chapter 3 during a ninety-day grace period. A withholding agent may also reasonably rely on a withholding certificate that is transmitted by facsimile during this grace period for purposes of withholding at a claimed reduced rate of tax. If at the end of the grace period the original documentation is not furnished in the manner required, or if the documentation furnished does not support the claimed reduced rate of withholding, the withholding agent must presume that the payee is a U.S. person, apply the 31 percent backup withholding rate and make withholding adjustments accordingly.
Validity Period
A Form W-8 withholding certificate remains valid until the earlier of the last day of the third calendar year following the year in which the certificate is signed or the documentary evidence is created or the day that a change of circumstances occurs that makes any information on the certificate or documentary evidence incorrect. For example, a Form W-8 signed on September 30, 1999 remains valid through December 31, 2002, unless circumstances change that make the information on the form no longer correct.
A Form 8233, which relates exemption from tax under a tax treaty for personal services and certain scholarship grants, remains valid through the last day of the calendar year for which it was submitted or until the day that a change of circumstances occurs that makes the information incorrect. A new Form 8233 must be submitted at the beginning of each calendar year for which such a treaty exemption is claimed.
If a change in circumstances occurs, then the person whose name is on the certificate or other documentation must inform the withholding agent within 30 days of the change and furnish a new certificate or documentation. A Form W-8 or documentation becomes invalid on the date that the withholding agent holding the certificate or documentation knows or has reason to know that circumstances affecting the correctness of the certificate or documentation have changed. A withholding agent may choose to apply the ninety-day grace period as of that date while awaiting a new certificate or documentation, or while seeking information regarding changes, or suspected changes, in the person's circumstances. A withholding agent may require a new certificate at any time prior to payment, even though the withholding agent has no actual knowledge or reason to know that any information stated on the certificate has changed.
A change of address is a change in circumstances if it affects the withholding information. For example, if a beneficial owner's Form W-8 is used to claim foreign status only, and not residence in a foreign country for purposes of claiming a tax treaty exemption, a change of address is not a change in circumstances unless the new address is in the United States. A change of address within the same country is also not a change in circumstances.
TIN Requirement
The new rules expand the situations in which a TIN is required to be stated on a beneficial owner certificate. A TIN is an IRS individual taxpayer identification number (ITIN), an employer identification number, or a social security number. Under the new rules, a TIN is not required to be furnished for dividends, interest and certain royalties on publicly traded securities or from units of beneficial interest in a publicly offered and registered unit investment trust. In addition, a TIN is not required on a Form W-8 used to claim the benefit of the portfolio interest exemption, regardless of whether the debt is publicly traded. Also, a private foundation is not required to furnish a TIN for income subject to the 4-percent tax under section 4948(a) if such income would otherwise be exempt from tax under the Code if paid to a foreign person that is not a private foundation.
A TIN is required to be stated on a beneficial owner certificate if the beneficial owner is claiming:
- the benefit of a reduced rate under an income tax treaty,
- an exemption from withholding because the income is effectively connected with the conduct of a U.S. trade or business,
- an exemption under section 871(f) for certain annuities received under qualified plans, or
- an exemption based solely on a foreign organization's claim of exempt status under section 501(c) or private foundation status.
A TIN is also required to be stated on the withholding certificate for the following flow-through entities:
- a qualified intermediary,
- a withholding foreign partnership,
- a foreign trust,
- a foreign estate, or
- certain U.S. branches receiving non-effectively connected income.
Reduced Rates of Tax
A withholding agent that has determined that a payee is a foreign person must determine whether the payee is entitled to a reduced rate of withholding under the Code or an income tax treaty.
Code exemptions include portfolio interest under section 871(h) or 881(c) that is exempt from withholding under section 1441(a). Documentation establishing foreign status on Form W-8 is required for interest on an obligation in registered form to qualify as portfolio interest. This documentation also serves as the basis for the withholding exemption and serves as the basis for establishing foreign status for purposes of exemption from Form 1099 reporting. Certain bank interest, including original issue discount, is exempt from withholding under section 1441(a). Documentation on Form W-8 is not required for purposes of the withholding exemption but may have to be provided for purposes of the Form 1099 reporting provisions and the backup withholding provisions. Certain income that is effectively connected to the conduct of a U.S. trade or business in the United States is exempt from withholding under section 1441(a). Documentation establishing foreign status and status of the income as effectively connected must be furnished. Absent actual knowledge or reason to know otherwise, a withholding agent may rely on a claim of such exemption made on a Form W-8, provided that in addition to the other requirements, it includes the TIN of the person whose name is on the form. The person signing the form must represent, under the penalty of perjury, that the income is effectively connected with the conduct of a trade or business in the United States. In this case, the entity engaged in the trade or business must make estimated tax payments on the businesses' net income.
An income tax treaty in effect between the United States and a foreign country may reduce or eliminate income tax on certain income paid to a treaty resident. Most benefits under income tax treaties are to foreign persons who reside in the treaty country. In some cases treaty benefits are available to foreign nationals who reside in the United States such as foreign national students and scholars. (For an explanation of these rules, see U.S. Taxation of Foreign Students and Scholars, ILR Vol. 15, p. 89 (April 15, 1996).) Absent actual knowledge or reason to know otherwise, a withholding agent may rely on a claim that a beneficial owner is entitled to a reduced rate of withholding under an income tax treaty if, prior to the payment, the withholding agent can reliably associate the payment with documentation upon which it can rely. A beneficial withholding certificate is valid only if it includes the beneficial owner's TIN.
The type of withholding certificate that must be furnished by a person claiming a reduced rate of withholding under a tax treaty depends upon the status of the entity under the laws of the applicable treaty jurisdiction. For example, if the person receiving the payment is a foreign entity but the person eligible for benefits under the applicable income tax treaty are the entity's interest holders in the foreign entity, then the entity is treated as a foreign partnership for purposes of determining which withholding certificate is appropriate irrespective of the fact that the entity may be treated as a corporation for U.S. tax purposes. Conversely, if the person eligible for benefits under a treaty is the entity rather than the interest holders, then the entity is treated as a corporation for treaty purposes, irrespective of the fact that the entity is treated as a partnership for U.S. tax purposes. Absent knowledge or reason to know otherwise, a withholding agent may rely on the certificate stating that the beneficial owner derives the income and is a resident of the applicable treaty country without having to inquire into the truthfulness of these representations or to research foreign law.
In certain situations, a U.S. citizen or resident may be entitled to claim reductions in U.S. tax under an applicable treaty. For example, a U.S. citizen residing in a treaty country may claim a reduced rate of tax on certain pension or annuity payments from U.S. sources. Also, a foreign student or scholar residing in the United States who is a resident alien under the section 7701(b) substantial presence test may nevertheless be entitled to claim a treaty benefit under the student/trainee article or teacher/researcher article of an applicable treaty because such benefits are preserved for such resident aliens under the treaty saving clause exceptions. Claims of treaty benefits by U.S. citizens and residents may be made by furnishing a Form W-9 or other form as the IRS may prescribe to the withholding agent.
A claim of exemption from tax on compensation for personal services is made on Form 8233. The statement claiming such an exemption must be dated and signed, under penalty of perjury, and must contain information supporting the claim, including the following:
- the individual's name, permanent address, TIN (or a copy of a completed Form W-7 or SS-5 showing that a number has been applied for), and the U.S. visa number, if any;
- the individual's current immigration status and visa type; and
- the individual's original date of entry into the United States.
The withholding agent must forward a copy of the completed Form 8233 to the Assistant Commissioner (International) within five days of its acceptance. The withholding agent may rely on the Form 8233 if the IRS has not objected to it within ten days of the date that it is forwarded to the IRS. Under the new rules, the withholding agent may exempt the payment from withholding retroactive to the first date of payment covered by the form. However, the fact that the IRS does not object to the withholding certificate within the ten-day period does not preclude the IRS from examining the withholding at a later date in light of facts that the withholding agent knew or had reason to know and did not disclose to the IRS during the ten-day period.
The rules include an alternative withholding procedure to Form W-8 for claims for reduced withholding on taxable scholarship and fellowship grants. If the payee is receiving from the same withholding agent both compensation for services and a scholarship or fellowship grant, both of which are subject to reduced withholding under a tax treaty, the claims on both types of income may be made on Form 8233.
In order to claim a treaty benefit, the new rules require that the payee furnish a withholding agent with a certified TIN. A payee certifies its TIN by providing the IRS with a certificate of residence issued by the tax authority in the treaty country if such a procedure is available. Alternatively, documentary evidence may be used to establish residence in a treaty country if a certificate of residence is not reasonably available. Documentary evidence establishes treaty country residence for an individual if:
- it includes the name, address, and photograph of the person seeking to prove residence,
- is an official document issued by an authorized government body, and
- has been issued no more than three years prior to presentation to the IRS or the withholding agent.
A document older than three years may be relied on if it is accompanied by additional evidence of the person's residence in the treaty country such as a bank statement, utility bills, or medical bills. Documentary evidence must be accompanied by an affidavit of the taxpayer, signed under the penalty of perjury, that the documentary evidence submitted is true and complete. For a person other than an individual, documentary evidence establishes the person's residence if it includes the name of the entity and the address of its principal office in the treaty country and is an official document issued by a governmental body.
Summary
The 30 percent withholding and Forms 1042 and 1042S reporting on payments to foreign persons have been required by the Code and regulations for decades. Compliance with these requirements, however, has historically been the exception rather than the rule. Responding to that lapse in compliance and to the tremendous increase in cross-border flows of income, the IRS has produced voluminous rules for withholding agents to follow when making payments to foreign persons. Withholding agents should anticipate that this rule-making effort will be followed by increased compliance enforcement by the IRS after it implements these new rules.