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IRS Pub. 515: Withholding of Tax on Nonresident Aliens and Foreign Corporations

IRS Pub. 515

This page contains an excerpt of the text of IRS Publication 515Withholding of Tax on Nonresident Aliens and Foreign Corporations(November 1995 Revision), pages 12-19. This document has been prepared as a public service, and may be missing sections from the original. It is not intended to act as a substitute for the official version available from the IRS, but rather to provide a convenient online reference. The information on this page is not guaranteed to be correct. It has not been reviewed or approved by the IRS, so we strongly suggest that you refer to the original publication for official information. To order IRS publications and forms, call 1-800-TAX-FORM (1-800-829-3676) or visit the IRS web site.

Scholarships and Fellowship Grants

A scholarship or fellowship grant (Income Code 15) paid to a nonresident alien who is temporarily present in the USA may or may not be subject to withholding. First, determine the source of the grant. If the grant is from foreign sources, no withholding is required.

Source of income.

Scholarships, fellowship grants, grants, prizes and awards made by domestic sources are generally treated as income from sources within the USA. However, see Nonresident alien recipient, later. Those made by foreign sources are treated as income from foreign sources.

Nonresident alien recipient.

Scholarships, fellowship grants, grants, targeted grants, and achievement awards received by nonresident aliens for activities conducted outside the USA are treated as foreign source income.

Fellowship Grants From USA Sources

Whether a fellowship grant from USA sources is subject to withholding depends on the nature of the payments and whether the recipient is a candidate for a degree.

Candidate for a degree.

Do not withhold on a qualified scholarship from USA sources granted and paid to a candidate for a degree. A qualified scholarship means any amount paid to an individual as a scholarship or fellowship grant to the extent that, in accordance with the conditions of the grant, the amount is to be used for the following expenses:

  1. Tuition and fees required for enrollment or attendance at an educational organization, and
  2. Fees, books, supplies, and equipment required for courses of instruction at the educational organization.

You must withhold tax at the rate of 14% on amounts received from USA sources by an alien present in the USA on an F, J, M, or Q visa that are related to the scholarship but are not for tuition and related expenses. You must withhold at the 14% rate on additional amounts such as room, board, or incidental expenses received under the scholarship.

Nondegree candidate.

If the person receiving the scholarship or fellowship grant is not a candidate for a degree, and is present in the USA on an F, J, M, or Q visa, you must withhold tax at the rate of 14% on the total amount of the grant that is from USA sources if the following requirements are met:

  1. The grant must be for study, training, or research at an educational organization in the USA, and
  2. The grant must be made by:
    1. A tax-exempt organization operated for charitable, religious, educational, etc. purposes,
    2. A foreign government,
    3. A federal, state, or local government agency, or
    4. An international organization, or a binational or multinational educational or cultural organization created or continued by the Mutual Educational and Cultural Exchange Act of 1961 (known as the Fulbright-Hays Act).

If the grant does not meet both (1) and (2) above, you must withhold at a 30% rate on the amount of the grant that is from USA sources.

Reduced withholding.

Nonresident alien students or grantees who receive USA source grants or scholarships may be entitled to reduced withholding on the taxable part of the grant or scholarship. The students or grantees must have an F, J, M, or Q visa.

Before applying the 14% withholding rate to the amount of the grant that is subject to withholding, you should allow the student or grantee the benefit of a deduction for one personal exemption, prorated on a daily basis of $6.97 during the period in 1996 he or she expects to be in the USA. If the student or grantee is a resident of Canada, Mexico, Japan, or South Korea, or a USA national (defined later), the individual is generally entitled to the same additional personal exemptions as a USA citizen. The exemptions are prorated on a basis of $6.97 per day for each allowable exemption in 1996. The additional exemptions for residents of Japan and South Korea must be prorated based on their gross income effectively connected with a USA trade or business. The rules for this proration are discussed in detail in Publication 519.

Also, if you wish, you may further reduce the taxable part of the grant or scholarship. To do this, you can use the information provided by the student or grantee on Form W-4, Employee’s Withholding Allowance Certificate. The student or grantee must complete Form W-4 annually following the instructions given here and forward it to you, the payer of the scholarship, or your designated withholding agent. You may rely on the information on Form W-4 unless you know or have reason to know it is incorrect. The withholding agent will be liable for the tax to be withheld, and must file Form 1042 and a Form 1042-S (discussed later) for each student or grantee who files a Form W-4 with the agent.

Each individual student or grantee who files a Form W-4 must file an annual USA income tax return to be allowed the exemptions and deductions claimed on that form. If the individual is in the USA during more than one tax year, he or she must attach a statement to the annual Form W-4 indicating that the individual has filed a USA income tax return for the previous year. If he or she has not been in the USA long enough to have to file a return, the individual must attach a statement to the W-4 saying that a timely USA tax return will be filed.

A prorated portion of allowable personal exemptions based on the projected number of days he or she will be in this country is allowed. This is figured by multiplying the daily exemption amount ($6.97 for 1996) by the number of days the student or grantee expects to be in the USA during the year. The prorated exemption amount should be shown on line A of the Personal Allowances Worksheet that comes with Form W-4. (Line references are to the 1995 form.)

On Line B, a student or grantee who qualifies under Article 21(2) of the USA-India Income Tax Treaty can enter the standard deduction if he or she does not claim away-from-home expenses or other itemized deductions (discussed later). The standard deduction is $4,000 for single persons and $3,350 for married persons. All other nonresident aliens must enter 0.

Generally, a zero (-0-) should be shown on lines C and D of the worksheet. But, an additional daily exemption amount may be allowed for the spouse and each dependent if the student or grantee is –

  1. A resident of Canada, Mexico, Japan, or South Korea,
  2. A USA national, or
  3. Eligible for the benefits of Article 21(2) of the USA-India Income Tax Treaty.

These additional amounts should be entered on lines C and D, as appropriate.A USA national is an individual who is either a citizen of American Samoa, or a Northern Mariana Islander who chose to become a USA national.

As lines E and F of the worksheet do not apply to nonresident aliens subject to this procedure, there should be no entries on those lines.

The nonresident alien student or grantee may deduct away-from-home expenses (meals, lodging, and transportation) on Form W-4 if he or she expects to be away from his or her tax home for 1 year or less. The amount of the claimed expenses should be the anticipated actual amount, if known. If the amount of the expenses is not known at the time the W-4 is filed with you, the current per diem allowance in effect for participants in the Career Education Program under the Federal Travel Regulations may be claimed on Form W-4. The allowable amount is $18.00 per day.

The actual expenses or the per diem allowance should be shown on line A of the worksheet in addition to the personal exemption amount.

The student or grantee can claim other expenses that will be deductible on Form 1040NR. These include certain state and local income taxes, charitable contributions, casualty losses, and moving expenses. He or she should include these anticipated amounts on line A of the worksheet.

The student or grantee can also enter on line A of the worksheet, the part of the grant or scholarship that is tax exempt under the statute or a tax treaty.

Lines A through D of the Personal Allowances Worksheet are added and the total should be shown on line G.

The payer of the grant or scholarship must review the Form W-4 to make sure all the necessary and required information is provided. If the withholding agent knows or has reason to know that the amounts shown on the Form W-4 may be false, the withholding agent must reject the W-4 and withhold at the appropriate rate. However, if the only incorrect information is that the student or grantee’s stay in the USA has extended beyond 12 months, the withholding agent may withhold under these rules, but without a deduction for away-from-home expenses.

After receipt and acceptance of the Form W-4, the payer must withhold as if the grant or scholarship income were wages. The gross amount of the income is reduced by the total amount of exemptions and deductions on the Form W-4 and the withholding tax is figured on the remainder.

When completing Form 1042-S for the student or grantee, enter the gross scholarship or fellowship grant in column (b), enter the withholding allowance amount from line G of the Personal Allowances Worksheet of Form W-4 in column (c), and show the net of these two amounts in column (d).

Compensation for services rendered

as an employee by an alien who also is the recipient of a scholarship or fellowship grant usually is subject to graduated withholding according to the rules discussed later in Compensation Subject to Graduated Withholding.This includes taxable amounts an individual who is a candidate for a degree receives for teaching, doing research, and carrying out other part-time employment required as a condition for receiving the scholarship or fellowship grant. An exception to this requirement for alien students, teachers, and researchers can be found under Treaty Benefits, discussed earlier.

Amounts of per diem for subsistence

paid by the USA Government (directly or by contract) to a nonresident alien engaged in a training program in the USA under the Mutual Security Act of 1954 are not subject to 14% or 30% withholding. This is true even though the alien may be subject to income tax on those amounts.

Other Grants, Prizes and Awards

Other grants, prizes, and awards made by domestic sources are treated as income from sources within the USA (however, see Nonresident alien recipient, earlier). Those made by foreign sources are treated as income from foreign sources. These provisions do not apply to salaries or other compensation for services.

Grant defined.

The purpose of a grant must be to achieve a specific objective, produce a report or other similar product, or improve or enhance a literary, artistic, musical, scientific, teaching, or other similar capacity, skill, or talent of the grantee. A grant must also be an amount which does not qualify as a scholarship, fellowship grant or prize or award.

Prizes and awards defined.

Prizes and awards are amounts received as prizes primarily in recognition of religious, charitable, scientific, educational, artistic, literary, or civic achievement. An amount is a prize or award only if:

  1. The recipient was selected without any action on his or her part to enter the contest or proceeding,
  2. The recipient is not required to render substantial future services as a condition to receive the prize or award, and
  3. The prize or award is transferred by the payer to a governmental unit or tax-exempt charitable organization as designated by the recipient.

Targeted grants and achievement awards.

Targeted grants, and achievement awards received by nonresident aliens for activities conducted outside the USA are treated as income from foreign sources. Targeted grants and achievement awards are issued by exempt organizations or by the USA (or one of its instruments or agencies), a State (or a political subdivision of a State), or the District of Columbia for an activity (or past activity in the case of an achievement award) undertaken in the public interest.

Compensation for Personal Services Performed

This section explains the rules for withholding tax from compensation for personal services. Compensation for personal services is subject to withholding at either the 30% rate or graduated rates.

Compensation Subject to 30% Withholding

You generally must withhold tax at the 30% rate on compensation you pay to a nonresident alien individual for labor or personal services performed in the USA, unless that compensation is specifically exempted from withholding or subject to graduated withholding. This rule applies regardless of your place of residence, the place where the contract for service was made, or the place of payment.

Compensation for independent personal services

(Income Code 16). Independent personal services (a term commonly used in tax treaties) are personal services performed by an independent nonresident alien contractor as contrasted with those performed by an employee. This category of compensation includes payments for professional services, such as fees of an attorney, physician, or accountant made directly to the person performing the services.

Compensation for independent personal services is subject to withholding and reporting as follows.

Statutory.

You must withhold at the statutory rate of 30% on all payments unless the alien enters into a withholding agreement or receives a final payment exemption (discussed later).

The amount of compensation subject to 30% withholding may be reduced by the personal exemption amount ($2,550 for 1996) if the alien gives you a properly completed Form 8233. A nonresident alien is allowed only one personal exemption. However, individuals who are residents of Canada, Mexico, Japan, or South Korea, or are USA nationals (defined below) are generally entitled to the same exemptions as USA citizens.

Students and business apprentices covered by Article 21(2) of the USA-India Income Tax Treaty may claim an additional exemption for their spouse if a joint return is not filed, and if the spouse has no gross income for 1996 and is not the dependent of another taxpayer. They may also claim additional exemptions for children who reside with them in the USA at any time during 1996, but only if the dependents are USA citizens or nationals or residents of the USA, Canada, or Mexico. They may not claim exemptions for dependents who are admitted to the USA on F-2, J-2, or M-2 visas.

Each allowable exemption must be prorated according to the number of days during the tax year during which the alien performs services in the USA. Multiply the number of these days by $6.97 (the daily exemption amount for 1996) to figure the prorated amount. Residents of Japan and South Korea must make a further proration of their additional exemptions based on their gross income effectively connected with a USA trade or business. The rules for this proration are discussed in detail in Publication 519, USA Tax Guide for Aliens.

A USA national is an individual who is either a citizen of American Samoa, or a Northern Mariana Islander who chose to become a USA national.

Example 1.

Hans Schmidt, who is a resident of Germany, worked (not as an employee) for a USA company in the USA for 100 days during 1996 before returning to his country. He earned $6,000 for the services performed (not considered wages) in the USA. Hans is married and has three dependent children. His wife did not work and had no income subject to USA tax. Hans is allowed $697 as a deduction against the payments for his personal services performed in the USA (100 days x $6.97). Tax is withheld at 30% on the rest of his earnings, $5,303 ($6,000 – $697). A tax of $1,590.90 was withheld from Hans’ earnings (30% of $5,303).

Example 2.

If, in Example 1, Hans were a resident of Canada or Mexico or a national of the USA, working under contract with a domestic corporation, $3,485 (100 days x $6.97 per day for each of five exemptions) would be allowed against the payments for personal services performed in the USA. Tax would be withheld at 30% on $2,515 ($6,000 – $3,485), the rest of his earnings. A tax of $754.50 would have been withheld from Hans’ earnings (30% of $2,515).

Withholding agreements.

Compensation for personal services of a nonresident alien who is engaged during the tax year in the conduct of a USA trade or business may be wholly or partially exempted from withholding at the statutory rate if an agreement has been reached between the Assistant Commissioner (International) and the alien individual as to the amount of withholding required. This agreement will be effective for payments covered by the agreement that are made after the agreement is executed by all parties. The alien individual must agree to timely file an income tax return for the current tax year.

Final payment exemption.

The final payment of compensation for independent personal services may be wholly or partially exempt from withholding at the statutory rate. The nonresident alien must have been engaged during the tax year in the conduct of a USA trade or business. This exemption is available only once during an alien individual’s tax year. It applies to the last payment of compensation, other than wages, for personal services rendered in the USA that the individual expects to receive from any withholding agent during the tax year.

To obtain the final payment exemption, the nonresident alien, or the alien’s agent, must file the forms and provide the information required by the Assistant Commissioner (International). This information includes, but is not limited to, the following items:

  1. A statement by each withholding agent from whom amounts of gross income effectively connected with the conduct of a USA trade or business have been received by the alien individual during the tax year. It must show the amount of income paid and the amount of tax withheld. The withholding agent must sign each statement and include a declaration that it is made under penalties of perjury.
  2. A statement by the withholding agent from whom the final payment of compensation for personal services will be received showing the amount of final payment and the amount that would be withheld if a final payment exemption is not granted. The withholding agent must sign the statement and include a declaration that it is made under penalties of perjury.
  3. A statement by the individual that he or she does not intend to receive any other amounts of gross income effectively connected with the conduct of a USA trade or business during the current tax year.
  4. The amount of tax that has been withheld (or paid) under any other provision of the Code or regulations for any income effectively connected with the conduct of a USA trade or business during the current tax year.
  5. The amount of any outstanding tax liabilities, including any interest and penalties, from the current tax year or prior tax periods.
  6. The provision of any income tax treaty under which a partial or complete exemption from withholding may be claimed, the country of the individual’s residence, and a statement of sufficient facts to justify an exemption under such treaty.

The alien individual must submit a statement, signed and verified by a declaration that it is made under the penalties of perjury, that all the information provided is true, and that to his or her knowledge no relevant information has been omitted.If satisfied with the information provided, the Assistant Commissioner (International) will determine the amount of the alien individual’s tentative income tax for the tax year on gross income effectively connected with the conduct of a USA trade or business. Ordinary and necessary business expenses may be taken into account if proved to the satisfaction of the Assistant Commissioner (International).

The Assistant Commissioner (International) will provide the individual with a letter to you, the withholding agent, stating the amount of the final payment of compensation for personal services that is exempt from withholding, and the amount that would otherwise be withheld that may be paid to the individual due to the exemption. The amount of compensation exempt from withholding cannot be more than $5,000. The alien individual must give two copies of the letter to you and must also attach a copy of the letter to his or her income tax return for the tax year for which the exemption is effective.

Tax treaties.

Under most tax treaties, compensation for independent personal services performed in the USA is exempt from USA income tax only if the independent nonresident alien contractor performs the services during a period of temporary presence in the USA (usually not more than 183 days) and is a resident of the treaty country. Thus, the compensation is not exempt from USA tax if the contractor is a USA resident.

Independent nonresident alien contractors use Form 8233 to claim an exemption from withholding under a tax treaty. For more information, see Treaty Benefits, earlier, under Withholding Exemptions and Reductions.

Often, you must withhold under the statutory rules on payments made to a treaty country resident contractor for services performed in the USA. This is because the factors on which the treaty exemption is based may not be determinable until after the close of the tax year. The treaty country resident contractor must then file a USA income tax return to recover any overwithheld tax and to provide the IRS with proof that he or she is entitled to a treaty exemption.

Compensation Subject to Graduated Withholding

Salaries, wages, or any other compensation for personal services (referred to collectively as wages) paid to nonresident alien employees are subject to graduated withholding in the same way as for USA citizens and residents if the wages are effectively connected with the conduct of a USA trade or business. Any wages paid to a nonresident alien individual for personal services performed as an employee for an employer are generally exempt from the 30% withholding.

Also exempt from the 30% withholding is compensation for personal services performed as an employee for an employer if it is effectively connected with the conduct of a USA trade or business and would be treated as wages subject to graduated withholding except that it is specifically excepted from wages. See Compensation that is not wages, later for examples of employment for which compensation is not wages.

Employer-employee relationship.

For compensation for personal services to qualify as wages, there must be an employer-employee relationship.

Under the common law rules, every individual who performs services subject to the will and control of an employer, both as to what shall be done and how it shall be done, is an employee. It does not matter that the employer allows the employee considerable discretion and freedom of action, as long as the employer has the legal right to control both the method and the result of the services.

If an employer-employee relationship exists, it does not matter what the parties call the relationship. It does not matter if the employee is called a partner, coadventurer, agent, or independent contractor. It does not matter how the pay is measured, how the individual is paid, or what the payments are called. Nor does it matter whether the individual works full- or part-time.

The existence of the employer-employee relationship under the usual common law rules will be determined, in doubtful cases, by an examination of the facts of each case.

An employee

generally includes any individual who performs services if the relationship between the individual and the person for whom the services are performed is the legal relationship of employer and employee. This includes an individual who receives a supplemental unemployment compensation benefit that is treated as wages.

No distinction is made between classes of employees.

Superintendents, managers, and other supervisory personnel are employees. Generally, an officer of a corporation is an employee, but a director acting in this capacity is not. An officer who does not perform any services, or only minor services, and neither receives nor is entitled to receive any compensation is not considered an employee.

An employer

is any person or organization for whom an individual performs or has performed any service, of whatever nature, as an employee.

The term employer includes not only individuals and organizations in a trade or business, but organizations exempt from income tax, such as religious and charitable organizations, educational institutions, clubs, social organizations, and societies. It also includes the governments of the USA, the states, Puerto Rico, and the District of Columbia, as well as their agencies, instrumentalities, and political subdivisions.

Two special definitions of employer that may have considerable application to nonresident aliens are:

  1. An employer includes any person paying wages for a nonresident alien individual, foreign partnership, or foreign corporation not engaged in trade or business in the USA (including Puerto Rico as if a part of the USA), and
  2. An employer includes any person who has control of the payment of wages for services that are performed for another person who does not have that control.

For example, if a trust pays wages, such as certain types of pensions, supplemental unemployment compensation, or retired pay, and the person for whom the services were performed has no legal control over the payment of the wages, the trust is the employer.

These special definitions have no effect at all upon the relationship between an alien employee and the actual employer when determining whether the compensation received is considered to be wages.

If an employer-employee relationship exists,

the employer ordinarily must withhold the income tax from wage payments by using the percentage method or wage-bracket tables as shown in Publication 15, Circular E, Employer’s Tax Guide.

Compensation that is not wages.

Employment for which the compensation is not considered wages (for graduated income tax withholding), includes, but is not limited to, the following:

  1. Agricultural labor if the total cash wages paid to an individual worker during the year is less than $150 and the total paid to all workers during the year is less than $2,500. But even if the total amount paid to all workers is $2,500 or more, wages of less than $150 per year paid to a worker are not subject to income tax withholding if certain conditions are met. For these conditions, see Publication 51, Circular A, Agricultural Employer’s Tax Guide.
  2. Services of a household nature performed in or about the private home of an employer, or in or about the clubrooms or house of a local college club, fraternity, or sorority. A local college club, fraternity, or sorority does not include an alumni club or chapter and may not be operated primarily as a business enterprise. Examples of these services include those performed as a cook, janitor, housekeeper, governess, gardener, or houseparent.
  3. Certain services performed outside the course of the employer’s trade or business for which cash payment is less than $50 for the calendar quarter.
  4. Services performed as an employee of a foreign government, without regard to citizenship, residence, or where services are performed. These include services performed by ambassadors, other diplomatic and consular officers and employees, and nondiplomatic representatives. They do not include services for a USA or Puerto Rican corporation owned by a foreign government.
  5. Services performed within or outside the USA by an employee or officer (regardless of citizenship or residence) of an international organization designated under the International Organizations Immunities Act.
  6. Services performed by a duly ordained, commissioned, or licensed minister of a church, but only if performed in the exercise of the ministry and not as an employee of the USA, a USA possession, or a foreign government, or any of their political subdivisions. These also include services performed by a member of a religious order in carrying out duties required by that order.
  7. Tips paid to an employee if they are paid in any medium other than cash or, if in cash, they amount to less than $20 in any calendar month in the course of employment.

Services performed outside the USA.

Compensation paid to a nonresident alien (other than a resident of Puerto Rico, discussed later) for services performed outside the USA is not considered wages and is not subject to graduated withholding or 30% withholding.

Withholding exemptions.

The amount of wages subject to graduated withholding may be reduced by the personal exemption amount ($2,550 for 1996). The personal exemptions allowed in figuring wages subject to graduated withholding are the same as those discussed earlier under Compensation for independent personal services (Income Code 16), except that an employee must claim them on Form W-4, Employee’s Withholding Allowance Certificate.

Special instructions for Form W-4.

A nonresident alien subject to wage withholding must give the employer a completed Form W-4 to enable the employer to figure how much income tax to withhold. In completing the form, nonresident aliens should use the following instructions instead of the instructions on Form W-4. (Line references are to the 1995 form.)

  1. Check only Single marital status on line 3 (regardless of actual marital status).
  2. Claim only one withholding allowance on line 5, unless a resident of Canada, Mexico, Japan, or South Korea, or a USA national.
  3. Request that additional tax of $4.00 per week be withheld on line 6. If the pay period is two weeks, request that $8.00 be withheld instead.
  4. Do not claim Exempt withholding status on line 7.

These instructions restrict a nonresident alien’s filing status, generally limit the number of allowable exemptions, and require additional tax to be withheld because a nonresident alien cannot claim the standard deduction.Students and business apprentices from India.

Students and business apprentices who are eligible for the benefits of Article 21(2) of the USA-India Income Tax Treaty can claim additional withholding allowances on line 5 for the standard deduction and their spouses. They can claim an additional withholding allowance for each dependent not admitted to the USA on F-2, J-2, or M-2 visas. Also, they do not have to request additional withholding on line 6.

Reporting requirements for wages and withheld taxes.

The employer must report the amount of wages and deposits of withheld income and social security and Medicare taxes by filing Form 941, Employer’s Quarterly Federal Tax Return. Household employers should see Publication 926, Household Employer’s Tax Guide for information on reporting and paying employment taxes on wages paid to household employee.

Form W-2.

The employer must also report on Form W-2, Wage and Tax Statement, the wages subject to withholding and withheld taxes and give copies of this form to the employee. For more information, see the instructions for these forms and Circular E.

Trust fund recovery penalty.

If you are a person responsible for withholding, accounting for, or depositing or paying employment taxes, and willfully fail to do so, you can be held liable for a penalty equal to the full amount of the unpaid trust fund tax, plus interest. A responsible person for this purpose can be an officer of a corporation, a partner, a sole proprietor, or an employee of any form of business. A trustee or agent with authority over the funds of the business can also be held responsible for the penalty.

Willfully in this case means voluntarily, consciously, and intentionally. You are acting willfully if you pay other expenses of the business instead of the withholding taxes.

Federal unemployment (FUTA) tax.

The employer must pay federal unemployment tax and file Form 940 or 940-EZ, Employer’s Annual Federal Unemployment (FUTA) Tax Return.Only the employer pays this tax; it is not deducted from the employee’s wages. In certain cases, wages paid to students and railroad and agricultural workers are exempt from FUTA tax. For more information, see the instructions for these forms and Circular E.

Compensation for dependent personal services

(Income Code 17). Dependent personal services are personal services performed in the USA by a nonresident alien individual as an employee rather than as an independent contractor.

Compensation for dependent personal services is subject to withholding and reporting as follows.

Statutory.

Ordinarily, you must withhold on compensation (wages) for dependent personal services using graduated rates. The nonresident alien must complete Form W-4 as discussed earlier, under Special instructions for Form W-4, and you must report wages and income tax withheld on Form W-2. However, the nonresident alien may be exempt from tax or withholding of tax if any of the following four exceptions applies.

Exception 1.

Compensation paid for labor or personal services performed in the USA is deemed not to be income from sources within the USA and is exempt from USA income tax if:

  1. The labor or services are performed by a nonresident alien temporarily present in the USA for a period or periods not exceeding a total of 90 days during the tax year,
  2. The total compensation does not exceed $3,000, and
  3. The compensation is for labor or services performed as an employee of, or under a contract with –
    1. A nonresident alien individual, foreign partnership, or foreign corporation that is not engaged in a trade or business in the USA, or
    2. A USA citizen or resident individual, a domestic partnership, or a domestic corporation, if the labor or services are performed for an office or place of business maintained in a foreign country or in a possession of the USA by this individual, partnership, or corporation.

If the total compensation is more than $3,000, the entire amount is income from sources in the USA and is subject to USA tax.

Exception 2.

Compensation paid by a foreign employer to a nonresident alien for the period the alien is temporarily present in the USA on an F, J, M, or Q visa is exempt from USA income tax. For this purpose, a foreign employer means:

  1. A nonresident alien individual, foreign partnership, or foreign corporation, or
  2. An office or place of business maintained in a foreign country or in a USA possession by a domestic corporation, a domestic partnership, or an individual USA citizen or resident.

Example.A French citizen who works for the Paris branch of a banking company incorporated in New York was admitted to the USA for a temporary period on a J visa to study monetary theory. The alien continued to receive a salary from the foreign branch while studying in the USA. The salary would not be subject to regular wage withholding if the alien filed with his or her employer a proper statement claiming the exemption.

Statement required.

The statement must be provided in duplicate, must contain the alien’s name, address, and taxpayer identification number, and it must certify that:

  1. The alien is not a citizen or resident of the USA, and
  2. The income to be paid to the alien is exempt from USA income tax, and why the income is exempt.

The statement must be dated, must identify the tax year and the income to which it applies, and must be signed by the alien including a written declaration that it is made under the penalties of perjury. Attach the duplicate copy of the statement to the Form 1042 that you file with the IRS.Exception 3.

Compensation paid to certain residents of Canada or Mexico who enter or leave the USA at frequent intervals is not subject to graduated income tax withholding or 30% withholding. These aliens must either:

  1. Perform duties in transportation services (such as a railroad, bus, truck, ferry, steamboat, aircraft, or other type) between the USA and Canada or Mexico, or
  2. Perform duties connected with an international project, relating to the construction, maintenance, or operation of a waterway, viaduct, dam, or bridge crossed by, or crossing, the boundary between the USA and Canada or the boundary between the USA and Mexico.

To qualify for the exemption from withholding during a tax year, a Canadian or Mexican resident must give the employer a statement in duplicate with name, address, and identification number, and certifying that the resident:

  1. Is not a USA citizen or resident,
  2. Is a resident of Canada or Mexico, whichever applies, and
  3. Expects to perform the described duties during the tax year in question.

The statement can be in any form, but it must be dated and signed by the employee, and must include a written declaration that it is made under penalties of perjury. Attach the duplicate copy of each statement to the Form 1042 that you file with the IRS.

Canadian and Mexican residents employed entirely within the USA.

Neither the transportation service exception nor the international projects exception applies to the compensation of a resident of Canada or Mexico who is employed entirely within the USA and who commutes from a home in Canada or Mexico to work in the USA. If an individual works at a fixed point or points in the USA (such as a factory, store, office, or designated area or areas), the wages for services performed as an employee for an employer are subject to graduated withholding.

Exception 4.

Compensation paid for services performed in Puerto Rico by a nonresident alien who is a resident of Puerto Rico for an employer (other than the USA or one of its agencies) is not subject to withholding.

Compensation paid for either of the following types of services is not subject to wage withholding if the alien does not expect to be a resident of Puerto Rico during the entire tax year.

  1. Services performed outside the USA but not in Puerto Rico by a nonresident alien who is a resident of Puerto Rico for an employer other than the USA or one of its agencies, or
  2. Services performed outside the USA by a nonresident alien who is a resident of Puerto Rico, as an employee of the USA or any of its agencies.

To qualify for the exemption from withholding for any tax year, the employee must give the employer a statement showing the employee’s name and address and certifying that the employee:

  1. Is not a citizen or resident of the USA, and
  2. Is a resident of Puerto Rico who does not expect to be a resident for that entire tax year.

The statement must be signed and dated by the employee and contain a written declaration that it is made under penalties of perjury.

Tax treaties.

Compensation for dependent personal services under some tax treaties is exempt from USA income tax only if both the employer and the employee are treaty country residents and the nonresident alien employee performs the services while temporarily living in the USA (usually for not more than 183 days). Other treaties provide for exemption from USA tax on compensation for dependent personal services if the employer is any foreign resident and the employee is a treaty country resident, and the nonresident alien employee performs the services while temporarily in the USA. See Claiming exemption from withholding, discussed earlier under Treaty Benefits.

Compensation for teaching

(Income Code 18). This category is given a separate income code number because most tax treaties provide at least partial exemption from withholding and from USA tax. Compensation for teaching means payments to a nonresident alien professor, teacher, or researcher by a USA university or other accredited educational institution for teaching or research work at the institution.

Statutory.

Graduated withholding of income tax usually applies to all wages, salaries, and other compensation for teaching and research paid by a USA educational institution during the period the nonresident alien is teaching or performing research at the institution. If a nonimmigrant alien is temporarily present in the USA on an F, J, M, or Q visa, no social security, Medicare, or FUTA (unemployment) taxes should be withheld or paid if the alien is performing services to carry out a purpose for which the alien was admitted to the USA.

Tax treaties.

Under most tax treaties, compensation for teaching is exempt from USA tax and from withholding for a specified period of time when paid to a professor, teacher, or researcher who is a resident of the treaty country and not a citizen of the USA (see Table 2). The USA educational institution paying the compensation must report the amount of compensation paid each year on Form 1042-S. See Claiming exemption from withholding, discussed earlier under Treaty Benefits.

Compensation during training

(Income Code 19). This category refers to compensation (as contrasted with remittances, allowances, or other forms of scholarships or fellowship grants – see Scholarships and Fellowship Grants, earlier) for personal services performed while a nonresident alien is temporarily in the USA as a student, trainee, or apprentice, or while acquiring technical, professional, or business experience.

Statutory.

Wages, salaries, or other compensation paid to a nonresident alien student, trainee, or apprentice for labor or personal services performed in the USA are subject to graduated withholding. If a nonimmigrant alien student or trainee is present temporarily in the USA on an F, J, M, or Q visa and is performing services to carry out a purpose for which admitted to the USA, no social security, Medicare, or FUTA tax should be paid or withheld.

Tax treaties.

Many tax treaties provide an exemption from USA tax and from graduated withholding, on compensation paid to nonresident alien students or trainees during training for a limited period, up to a maximum dollar amount per year. See Claiming exemption from withholding, discussed earlier under Treaty Benefits. In addition, some treaties provide an exemption from tax and withholding for compensation paid by the USA Government or its contractor to a nonresident alien student or trainee who is temporarily present in the USA as a participant in a program sponsored by the USA Government (see Table 2). However, a USA resident, the USA Government agency, or its contractor must report the amount of compensation on Form 1042-S.

Artists and Athletes

Because many tax treaties contain a provision for compensation to artists and athletes, a separate category – Earnings as an artist or athlete (Income Code 20) – is assigned these payments for withholding purposes. This category includes payments made for performances by public entertainers (such as theater, motion picture, radio, or television artists, or musicians) or athletes.

Statutory.

You must withhold tax at a 30% rate on payments to artists and athletes for services performed as independent contractors. See Compensation for independent personal services, earlier for more information. You must withhold tax at graduated rates on payments to artists and athletes for services performed as employees. See Compensation for dependent personal services, earlier for more information. However, in any situation where the nature of the relationship between the payor of the income and the artist or athlete is not ascertainable, you should withhold at a rate of 30%. See Special events and promotions, earlier under Treaty Benefits for more information.

Central withholding agreements.

Nonresident alien entertainers or athletes performing or participating in athletic events in the USA may be able to enter into a withholding agreement with the IRS for reduced withholding provided certain requirements are met. Under no circumstances will a withholding agreement reduce taxes withheld to less than the alien’s anticipated income tax liability.

Nonresident alien entertainers or athletes requesting a central withholding agreement must submit the following:

  1. A list of the names and addresses of the nonresident aliens to be covered by the agreement.
  2. Copies of all contracts that the aliens or their agents and representatives have entered into regarding the time period and performances or events to be covered by the agreement including, but not limited to, contracts with:
    1. employers, agents, and promoters,
    2. exhibition halls,
    3. persons providing lodging, transportation, and advertising, and
    4. accompanying personnel, such as band members or trainers.
  3. An itinerary of dates and locations of all events or performances scheduled during the period to be covered by the agreement.
  4. A proposed budget containing itemized estimates of all gross income and expenses for the period covered by the agreement, including any documents to support these estimates.
  5. The name, address, and telephone number of the person the IRS should contact if additional information or documentation is needed.
  6. The name, address, and employer identification number of the agent or agents who will be the central withholding agents for the aliens and who will enter into a contract with the IRS. A central withholding agent ordinarily receives contract payments, keeps books of account for the aliens covered by the agreement, and pays expenses (including tax liabilities) for the aliens during the period covered by the agreement.

When the IRS approves the estimated budget and the designated central withholding agents, the Associate Chief Counsel (International) will prepare a withholding agreement. The agreement must be signed by each withholding agent, each nonresident alien covered by the agreement, and the Assistant Commissioner (International).

Generally, each withholding agent must agree to withhold income tax from payments made to the nonresident alien; to pay over the withheld tax to the IRS on the dates and in the amounts specified in the agreement; and to have the IRS apply the payments of withheld tax to the withholding agent’s Form 1042 account. Each withholding agent will have to file Form 1042 and Form 1042-S for each tax year in which income is paid to a nonresident alien covered by the withholding agreement. The IRS will credit the withheld tax payments, posted to the withholding agent’s Form 1042 account, in accordance with the Form 1042-S. Each nonresident alien covered by the withholding agreement must agree to file Form 1040NR or, if he or she qualifies, Form 1040NR-EZ.

A request for a central withholding agreement should be sent to the following address at least 90 days before the agreement is to take effect:

   Internal Revenue Service Chief
   Special Procedures Section CP:IN:D:C:C:SPS Room 3311 
   950 L'Enfant Plaza South, S.W. 
   Washington, DC 20024

Tax treaties.

Under many tax treaties, compensation paid to public entertainers or athletes for services performed in the USA is exempt from USA income tax only when the services are performed during a limited period of temporary presence in the USA and the compensation is within limits provided in the tax treaty that applies.

Independent contractors may claim an exemption from withholding under a tax treaty by filing Form 8233. Employees may claim an exemption from withholding under a tax treaty by filing a statement with their employers. For more information, see Treaty Benefits, discussed earlier under Withholding Exemptions and Reductions.

Often, however, you will have to withhold at the statutory rates on the total payments to the entertainer or athlete. This is because the exemption may be based upon factors that cannot be determined until after the end of the year. See Special events and promotions, earlier, under Treaty Benefits.