In some cases, you may have to withhold taxes for Nonresident Alien Independent Contractors (foreign nationals).
When working with non-US independent contractors and freelancers, you must collect IRS Form W-8. The information submitted in the W-8 will help you determine whether you must withhold taxes for the payment made to those foreign national independent contractors and freelancers.
When a non-United States person (Nonresident alien independent contractors) provides services while in the United States, the amount of the compensation payment allocated to the days spent in the United States will be US-source income. Nonresident alien independent contractors are treated very differently from independent contractors who are US Citizens or resident aliens.
The general rule is that you must withhold 30% of each payment you make to nonresident alien independent contractors unless they:
Show proof they have entered into a withholding agreement with the IRS, and provide you with two copies of a letter from the IRS that state the amount of the final payment (up to $5000) is exempt from withholding; or,
Give you an IRS Form 8233 to claim a tax treaty exemption from all or part of the required withholding.
Compensation paid for services performed by nonresident aliens outside the United States is not subject to 30% withholding.
Form 8233 for withholding exemptions
Those subject to the 30% rate also use Form 8233 to claim their withholding exemptions. The amount of pay subject to 30% withholding may be reduced by the personal exemption amount for the year. Residents of Mexico, Canada, South Korea, or US nationals from American Samoa or the Northern Mariana Islands follow the same withholding allowance rules as US Citizens or resident aliens. All other nonresident alien independent contractors may only claim one personal exemption allowance.
You must pro-rate each allowable exemption according to the number of days during the tax year. On their Form 8233, the nonresident alien enters the number of personal exemptions claimed and the number of days they will perform services in the US during this tax year. Your next step is to divide the personal exemption amount for the year by 365 (366 if it’s a leap year) and multiply that by the number of personal exemptions claimed.
IRS tax return filing requirements
For your Form 8233 filers, you will have new employment tax return filing requirements with the IRS. They are:
Form 1042, Annual Withholding Tax Return for US Source Income of Foreign Persons;
Form 1042-S, Foreign Person’s US Source Income Subject to Withholding;
And Form 1042-T, Annual Summary and Transmittal of Forms 1042-S.
All US source payments, except those exempt from tax under the Internal Revenue Code (i.e., substantiated business expenses) made to, or on behalf of, nonresident alien contractors inside the United States MUST be reported on IRS Form 1042-S.
Withhold taxes unless exceptions met
To summarize, unless an exception applies, a United States business hiring a non-U.S. individual as a service provider must withhold 30% on compensation payments made for services performed in the United States and report it to the IRS. Compensation paid for services performed by nonresident aliens outside the United States is not reported to the IRS and is not subject to 30% withholding.
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