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Definition of a Withholding Agent Under Chapter 4 FATCA Reporting Requirements

October 1st, 2014 No comments

The expansion of the use of Form 1042-S has created a very broad definition of those who may be required to file the form.  This stems from the inclusion of Chapter 4 payments on the form as required under the Foreign Account Tax Compliance Act (FATCA).  As discussed, the purpose of FATCA is to locate and track foreign accounts held by US residents and taxpayers, to ensure that they are not evading taxes by holding assets offshore.

The Form 1042-S instructions provided by the IRS offer some guidance on how a withholding agent will be defined for Chapter 4 purposes, since that is the party that must file the form and make the withholding.  The definition is worth examining since it is so broad, many payers may unknowingly fall under the new classification.  The only clear exclusion to the 1042-S requirements are payments strictly confined to US borders or territories, in which case Form 1099 would be used.

Definition of Withholding Agent For Chapter 4

The definition begins with:  “…any person, US or foreign…who can disburse or make payments of an amount subject to withholding…under Chapter 4.”

The next part states:  “The withholding agent may be an individual, corporation, partnership, trust, association, or any other entity.”

This definition includes virtually anyone who can make a payment to a foreign account, even if no payment has yet been made.  This clearly includes typical financial institutions but also could be an individual or business making foreign payments.

Further, the definition continues to broaden:   “A person may be a withholding agent even if there is no requirement to withhold from a payment or if another person has already withheld the required amount from a payment.”  (emphasis added)

Under this definition, Form 1042-S has to be filed even if another agent withheld already, or if no withholding is required.  This is designed to capture payments made through intermediaries en route to the recipient, or if the payment falls under some exception to the withholding requirement.

Required Information and Data for All Agents and Intermediaries

Obviously, the definition is geared to tracking payments rather than simply reporting withholding amounts, and a review of the form shows that the changes for 2014 reflect this intention.  Box 8 requires reporting of total tax withheld by other agents, which seems nearly impossible to obtain unless all agents and payers are in close communication and sharing all withholding data with one another.

The form also requires all the identification numbers and location information for the primary withholding agent, as well as intermediary or flow through entities that may have been involved in payment or withholding (Boxes 12a to 13f and 14 through 16f).

Given the range of information required to complete the form accurately, anyone who has made any kind of payment from a US source to a foreign account should keep detailed records of payments, intermediaries and amounts withheld.  Due to the fact these are new requirements, the IRS will be lenient through 2016 with reporting as long as ‘good faith efforts’ are being made to comply.

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What’s new with IRS Form 1042-S for tax year 2014?

August 28th, 2014 33 comments

A lot is new!

IRS Form 1042-S has always been a difficult form that very few people understand.  We work with book publishers, model agencies, casinos and many other companies year after year and very few understood Form 1042-S and the data required.  Each year, we email back and forth requesting more data so that the form can be filled out correctly and e-filed correctly with the IRS.

Here comes tax year 2014.  Form 1042-S is completely redesigned and split as:

Chapter 3 — WITHHOLDING OF TAX ON NONRESIDENT ALIENS AND FOREIGN CORPORATIONS

Chapter 4 — TAXES TO ENFORCE REPORTING ON CERTAIN FOREIGN ACCOUNTS

If you prepared Form 1042-S in tax year 2013 or for any prior year, then you have been reporting information under Chapter 3 (you just didn’t know it was Chapter 3).  Chapter 3 is the reporting of withholding for a non-US resident by a US company.  Book publishers are a classic example.  A United States publishing company will print books by writers from around the world.  Non-US writers are subject to withholding which means the publishing company (the withholding agent) has to withhold part of their pay and send that money to the IRS.  The writer (or recipient) might have an opportunity to get that withheld money from the IRS depending on which country they are from and whether that foreign country has a tax treaty set up with the United States.  The list of countries that do have a tax treaty with the IRS are in this article.  Most recipients who receive a Copy B by mail or email just give up and let the IRS keep the money.  If a publishing company withheld $40 or $100 from your pay and sent that to the IRS, are you going to chase that cash?  Probably not and the IRS knows this and they are gaining revenue.

All of the data you used to paper or electronically file for Chapter 3 in prior years is used again for tax year 2014. Tax year 2014 additionally requires

  1. Recipient’s account number.  Last year this was optional.  The account number is a unique set of letters, numbers, hyphens and blanks up to 20 characters in length.
  2. Recipient’s date of birth.
  3. Foreign taxpayer identification number, if any.

The recipient’s date of birth will probably stump most withholding agents. These are non-US residents; most of the withholding agents don’t retain a foreign TIN or have an account number for a client.  Having a birth date is really pushing it.  The good news is that the 1042-S instructions states

Use box 20 to enter the recipient’s date of birth if it is available in the withholding agent’s electronically searchable information.

That means the withholding agent dodged a bullet for TY2014 and can just enter blanks.  Just below that paragraph, the 1042-S instructions states:

 Starting in calendar year 2017, the withholding agent will be required to report either the recipient’s foreign tax identification number or the recipient’s date of birth.

That means that for everyone who filed 1042-S forms in prior years, the data you collected is fine and can be used for now.  But you have to start collecting the recipient foreign TIN or date of birth.  Its going to be required and you can’t paper or electronically file Form 1042-S without this information.  This is all good news for all of our clients because I doubt anyone collected this information. But a warning that more data must be retained by the withholding agent.

The big change to Form 1042-S is the inclusion of Chapter 4 reporting.  Lots and lots of edit fields related to Chapter 4 which is also commonly known as FATCA.  FATCA is the Foreign Account Tax Compliance Act (FATCA). It is a new law in the United States that requires US people, including individuals who live outside the United States, to report their financial accounts held outside of the United States.  These are financial accounts held in banks in Europe, Canada and anywhere else outside of the US.  The United States IRS wants to know that these accounts exist and who owns them.  Specifically, the IRS wants:

  1.  The withholding agent, in this case, the non-US bank or foreign financial institution (FFI) to report to the IRS about their US clients.  Whoa!!  Step back and read that again.  FATCA requires that these foreign financial institutions voluntarily fill out Form 1042-S and mail or email Copy B to the US entity reporting that they have a non-US financial account.  That FFI also has to send Copy A of Form 1042-S to the IRS.
  2.  US residents who own these foreign accounts or assets must report them on the new IRS Form 8938, Statement of Specified Foreign Financial Assets.

The IRS gets the information they want from someone and whoever doesn’t report may be penalized.  How does the IRS plan on penalizing a bank that is located in Switzerland or anywhere outside of the United States that doesn’t report this information?  I don’t know.  The US must have a strong tax treaty with this foreign countries to motivate their financial institutions to report this information to the IRS.  The change in Form 1042-S and new Form 8938 make it more difficult for a US citizen, living in or outside of the United States, to conceal assets held in offshore accounts.  Once the IRS knows where new money is held, new federal tax revenues follow.

 

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Withholding Income of Foreigners

July 3rd, 2014 No comments

Congress is serious about collecting information about, and taxes from, non-U.S. persons who earn U.S. income. The applicable law is the Foreign Account Tax Compliance Act, or FATCA, which has new provisions as of 2014. The purpose of FATCA is to ensure that withholding agents –foreign financial institutions and non-financial foreign entities — collect and report identifying information on withholdable payments to foreigners– nonresident aliens, foreign entities, foreign estates, publicly traded partnerships with foreign partners, and any other non-U.S. person or their agents. The IRS collects the information on Form 1042-S and imposes penalties for non-compliance.

FATCA Casts a Wide Net

FATCA affects just about every non-U.S. entity receiving most types of U.S. source income, including:

  • Dividends
  • Interest
  • Rents
  • Annuities
  • Wages, salaries and other compensations
  • Remunerations
  • Gambling winnings
  • Cancellation of indebtedness
  • Emoluments
  • Premiums
  • Capital gains

Foreign students attending classes in the U.S. do not have to report scholarship funds.

The Act requires agents to withhold a 30 percent tax on the U.S.-source income of foreigners unless the agent and/or payee provide the required information, including a Taxpayer Identification Number, or TIN. To escape the 30 percent withholding requirement, a foreign financial institution (FFI) can enter into an agreement with the U.S. Treasury that requires the FFI to specify:

  • Account numbers
  • Account-holder information
  • Account balance or value at year-end
  • Income paid or credited to the account

Account holders typically report identifying information using Form 8233 or Form W-8 BEN. Withholding agents provide this information using Form 1042-S, Foreign Person’s U.S. Source Income Subject to Withholding. Alternatively, agents can go all-in and fill out a Form 1099 for each account holder.

A New Chapter

The original provisions of FACTA, known as Chapter 3, went into effect in 2010. Chapter 4 is new for 2014 and is primarily aimed at individuals with offshore accounts. It extends the requirements of FFIs and certain non-financial foreign entities (NFFEs) to provide account-holder information to withholding agents. The kicker in Chapter 4 is that an FFI that fails to report withholding information won’t receive any credit or refund on the withholding it collects.

Form 1042-S

The IRS changed Form 1042-S in 2014 to accommodate Chapter 4 withholding. The form itself gathers copious information about:

  • Identity of the foreign person
  • Identity of the withholding agent
  • Exemption codes and tax rates
  • Net income
  • Amount withheld and repaid
  • The identity of any intermediate entities

The form references several types of identification codes, including taxpayer, employer, global intermediary and foreign tax. The form requires much fact-finding and reporting, and the IRS has issued alerts about significant error rates because of incorrect or missing information.

Form 1042-S must be filed with IRS by March 15. A copy of the form must be sent to the foreign person by that same date. The filer must also fill out Form 1042-T, Annual Summary and Transmittal of Forms 1042-S

Support

Withholding agents and others who must file Form1042-S can simplify the job by outsourcing the work to a service bureau or by buying software the uses data files (in Excel or CSV formats) to populate the forms and then file them electronically. Agents must file the form even if it doesn’t withhold tax because of the nature of the income or because of a tax treaty. By the way, legitimate residents of U.S. territories and possessions do not require Form 1042-S reporting if they are a U.S. citizen, resident alien or national. If you must fill out Form 1042-S, you must also file Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons.

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For IRS Form 1042-S, do I report each payment separately or the total amount paid for a tax year?

April 23rd, 2013 No comments

I receive this question often.  For the 1099 forms, if you have multiple transactions or payments to a recipient during a year, you don’t send them multiple 1099 forms.  Instead, send them one 1099 form with the totals for that tax year.

IRS Form 1042-S is the same as the 1099- forms in this regard.  If you paid someone multiple times, put together one 1042-S form at the end of the year to show the total amount paid and withheld and so forth.

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More Info about Form 1042-S

November 30th, 2010 2 comments

Internal Revenue Service Form 1042-S, titled “Foreign Person’s U.S. Source Income Subject to Withholding,” must be filed for non-residents and foreign entities that have derived income or gains from investments in the US in the past year. These gains can include ordinary income dividends, long-term capital gains, or return of capital distributions. Gains from interests in US real estate also require reporting. Foreign corporations, foreign partnerships, foreign estates and foreign governments and foreign individuals should all list gains from US-based investments on the 1042-S form.

Other types of income that should be reported on Form 1042-S are: wages of employees who have claimed tax treaty benefits, fellowship/scholarship income, payments made to foreign independent contractors, royalty payments, and prizes or awards.

Form 1042-S includes a space to report withholding on investment distribution. Short-term capital gain and qualified interest income can be exempt from withholding (this exemption requires verification of the investor’s foreign status), as are long-term capital gains. Foreign persons or entities are not required to file a return if the withholding amount is equivalent to their tax obligation, or if they have not participated in income-generating trade or business inside the United States in the past year.

A 1042-S form should be filed by every withholding agent. This means an individual, a corporation, partnership or trust responsible for payment towards the foreign person’s income or investment gains. The withholding agent is defined this way regardless of whether actual withholding is required. Records of the form should be kept for three years after the original reporting date.

Every entity that engages in business with a foreign person, corporation or partnership is required to file a return for the income or capital gains they pay out. The benefit of this is that it allows non-resident alien individuals and foreign businesses to easily keep track of their investments, trading interests, and income sources within the United States.

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