Posted by Joseph DeMartinis
When it comes to getting their piece of the pie, the U.S. Government has done everything within its power to make the world so small that there’s nowhere for a non-compliant taxpayer to hide. Because U.S. taxation is based on worldwide income, all amounts earned globally are subject to U.S. tax and reporting. Even if you’re not a U.S. citizen or a resident, you’re still subject to U.S. tax on any amount earned from U.S. sources. However, the U.S. identified two major issues within its worldwide system:
- Foreigners weren’t reporting and paying taxes on U.S. source income
- U.S. taxpayers weren’t reporting their worldwide income and income-producing assets
The IRS responded by adding two new chapters to the Internal Revenue Code for new special reporting related to foreign assets and income.
CHAPTER 3: WITHHOLDING OF TAX ON NON-RESIDENT ALIENS AND FOREIGN CORPORATIONS
Let’s put that title into layman’s terms: a U.S. person (“person” in the tax code sense) must withhold tax on income earned by foreigners. The types of income covered by Chapter 3 are commonly referred to as “FDAP” income (fixed, determinable, annual, and periodical). “FDAP” income usually consists of dividends, interest, rents, royalties, etc. Any U.S. person who’s paying out FDAP income to a non-U.S. person generally has the responsibility to withhold 30% of the income and remit it to the government.
This chapter was created to compel non-U.S. taxpayers to report income earned from U.S. sources. The tax due is withheld by an agent (the payer) and remitted to the government in lieu of the foreign person filing a tax return (sometimes). The withholding agent uses Forms 1042 and 1042-S to report the withholding.
CHAPTER 4: TAXES TO ENFORCE REPORTING ON CERTAIN FOREIGN ACCOUNTS
To folks “in the know", parts of this chapter are referred to as “FATCA” reporting (Foreign Account Tax Compliance Act) or sometimes erroneously as “FACTA”. This chapter is directly responsible for both the foreign financial asset reporting on Form 8938 and all of the associated headaches. However, there’s another key component to the chapter: the manner in which foreign institutions exchange information with the U.S. government about U.S. persons. More often institutions are entering agreements with the U.S. to disclose information about the financial holdings of their customers… bad news for the willfully non-compliant.
This chapter is designed to compel U.S. taxpayers to report their worldwide income through a system of compliance for non-U.S. institutions holding U.S. taxpayer assets. The chapter separates non-U.S. institutions into two distinct classes: “Foreign Financial Institutions (FFI)” and “Nonfinancial Foreign Entities (NFFE).” Each includes different types of subclasses, but the general idea is that the withholding responsibilities are determined on whether the institution is a bank or something else.
So what? What about my piece of the pie?
The new reporting requirements mandate that participating withholding agents do the following:
- Disclose pertinent information to the IRS about assets held within their institutions
- Withhold money and remit it to the U.S., if applicable
As a result, more taxpayers are entering into offshore voluntary disclosure programs, and the IRS is collecting more U.S. tax. Which brings us to the BEN forms.
What are BEN/BEN-E forms? Do they involve pie?
No. The pie was a metaphor. Sorry to get your hopes up.
The W-8BEN series (Certificate of Foreign Status of Beneficial Owner for United States Withholding and Reporting) is a group of forms created to document the status of a person that would potentially be subject to U.S. withholding tax by a withholding agent and remember: 30% by default. When a foreign person is the ultimate beneficiary of U.S.-source income, they are generally subject to withholding. The BEN series is a way of tracking that withholding requirement for withholding agents. W-8BEN forms are filed for individuals, and W-8BEN-E forms are filed for entities. There are a number of other forms in the series, but we’ll focus on these two. Although complex, the BEN forms serve three distinct functions:
- Establish that you are not a U.S. person (for Chapter 4 purposes)
- Claim that you are the beneficial owner of the income subject to the withholding
- Claim a reduced rate of withholding or exemption from withholding based on treaty benefits
The third function is key, because it can allow a non-U.S. person to reduce or even eliminate the amount of withholding required by the withholding agent. This keeps your client’s money in their pockets and out of the hands of the government; more pie on their plate.
I just received one of these forms. Now what do I do?
The forms (especially the W-8BEN-E) can be daunting, even to an experienced professional. But they’re worth the time and effort it takes to fill them out accurately. They’re a valuable means to reduce potential withholding on income. Ignoring these forms can cause the institution to withhold at the max 30% rate. Not good. When faced with one of these forms, take a deep breath and contact your trusted accounting professional for help. You’ll be glad you did.