Wage Reporting and Withholding Tax for Foreign Employees

The Bureau of Labor reports close to 17% of the U.S. workforce consists of non-U.S. citizens. That said, businesses with foreign employees should understand how to correctly comply with IRS regulations concerning payments and withholding tax for foreign employees.

Two questions employers with foreign employees often have is whether there is a requirement to withhold tax and, if so, which forms should they be filling out.

Withholding Requirements for foreign employees

Is there a requirement to withhold tax? As with most tax-related questions, the answer is, it depends. To answer this question, you must first determine the status of each non-U.S. citizen working for you. They will either be considered “resident aliens” or “nonresident aliens.”

Unless they meet one of the following criteria, consider all non-U.S. citizen employees as “nonresident aliens:

• Green Card Test – Individuals will be treated as residents for tax purposes if they were a lawful permanent resident of the U.S. at any time during 2016.
• Substantial Presence Test – Individuals will be treated as residents for tax purposes if they were physically present in the U.S. at least 31 days during 2016 and 183 days during the three-year period 2014-2016, which is calculated as follows:

1. All days present in 2016
2. 1/3 of the days present in 2015
3. 1/6 of the days present in 2014

The withholding requirements for resident aliens are the same as U.S. citizens; however, nonresident aliens must follow special withholding rules. The withholding rate for nonresident aliens will be determined by Form W-4 and the graduated withholding rates published in IRS Publication 15 (Circular E). Nonresident aliens are only able to claim single filing status and no more than one personal exemption on Form W-4.

One exception to note: Certain nonresident aliens will be exempt from tax withholding because of tax treaties.

Forms Required to File

What forms do you need to report the wages and taxes withheld for foreign employees? Again, it depends. For resident aliens, report wages paid and taxes withheld on a Form W-2 following the same requirements for U.S. citizens.

For nonresident aliens, the process is slightly more involved. You should the wages that are exempt from tax under a tax treaty report on Form 1042 and Form 1042-S. Report wages that exceed the amount exempt under a tax treaty on Form W-2. For a nonresident alien to claim exemption under a tax treaty, Form 8233 must be provided to you. Beware, however, that even if all wages are exempt under a tax treaty, you may still require a Form W-2 to correctly report the state and local wages and tax withheld.

If you need more information on wage reporting and withholding for foreign employees or any other tax issue, please contact the Smith and Howard tax team at 404-874-6244 or contact us online.