International Tax Blog

Payments to Foreign Contractor Entities: Form W-8BEN-E

    See Below For How to Fill Out BEN-E for Foreign-Performed Services

When requesting a Form W-8BEN-E from a foreign entity, most of the form does not need to be completed when the payments are for services performed outside the U.S.

U.S. businesses that make payments to foreign contractors for services may be familiar with Form W-8BEN (Rev. February 2006) (the “Old” W-8BEN).  In general, the Old W-8BEN allows a foreign individual or entity to certify its foreign status.  A U.S. payor with a valid W-8BEN in hand generally does not need to withhold or report such payments on a Form 1099 if the payments are for services performed outside the U.S.  See our prior blog post (Form 1099 for Payments to Foreign Contractors for Services).

This year the IRS released an updated version of Form W-8BEN (Rev. February 2014) (the “New” W-8BEN), and also released a new form, Form W-8BEN-E (the “BEN-E”).  The forms were updated in order to address the requirements of the Foreign Account Tax Compliance Act (“FATCA”).

In the past, the Old W-8BEN could be used by foreign individuals or foreign entities receiving payments from U.S. persons.  Now, foreign individuals use the New W-8BEN (still one page long and relatively simple) and foreign entities must use the BEN-E.

Form BEN-E

The BEN-E form is 8 pages long and contains 30 parts.  Line 5 of the BEN-E contains 31 different “FATCA Statuses” (also known as “Chapter 4 Statuses”).

Characterizing an entity’s FATCA Status can be challenging.  Fortunately, not all foreign entities need to complete Line 5 of the BEN-E.  The instructions to Line 5 of the form provide in part:

[Y]ou are only required to provide a chapter 4 status if you are the payee of a withholdable payment or are documenting the status of an account you hold with an FFI requesting this form.

Thus, if there is no withholdable payment and you are not documenting the status of an account you hold with a foreign financial institution (“FFI”), you do not need to complete Line 5.  This blog post focuses on withholdable payments and does not address accounts held with FFIs.

Withholdable Payments

Code §1473(1)(A) provides that the term “withholdable payment” means:

(i) any payment of interest (including any original issue discount), dividends, rents, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, and other fixed or determinable annual or periodical gains, profits, and income, if such payment is from sources within the United States, and

(ii) any gross proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United States.

See also Treas. Reg. §1.1473-1(a)(1).

Under both the statute and the regulations, in order for a payment to be a withholdable payment, it must be “from sources within the United States” or gross proceeds from the sales of certain assets.  Payments for services are not considered gross proceeds from the sales of assets.

As described in our earlier post, services performed outside the U.S. are not considered U.S. source income.  Code §861(a)(3) and Treas. Reg. §1.861-4.  See also Treas. Reg. §1.1473-1(a)(2)(i)(B).  Consequently, payments for services performed outside the United States should not be “withholdable payments.”

The FATCA regulations further provide that services payments, other than certain financial services payments, are not “withholdable payments.”  Treas. Reg. §1.1473-1(a)(4)(iii).  However, it is important to note that U.S. source payments for services (financial or nonfinancial) may be subject to withholding under Chapters 3 or 61 of the Internal Revenue Code.

How to Fill Out BEN-E for Foreign-Performed Services

When payments are being made for foreign-performed services, the payments are not “withholdable payments” and the foreign entity does not need to complete Line 5 of the BEN-E.  Further, the foreign entity does not need to complete Parts 2 through 28 or Part 30 of the form.  Instead, in this circumstance the foreign entity must only complete the following:

1. Part I, Lines 1-4, 6 & 7 (perhaps also Line 9b), and
2. Part XXIX (an authorized individual signs and dates, and checks the certification box).

By signing the BEN-E, the authorized individual of the entity is certifying that (i) the entity is the beneficial owner of the income (ii) the entity is not a U.S. person, and (iii) the income is not effectively connected income (“ECI”).

International PLRs of Note for the 34th week of 2014

Today the IRS published the following Chief Counsel Advice relating to international taxation.

CCA 201434021 - A withholding agent made interest payments to two nonresident aliens, A and B, without withholding 30% as required by Code §1441.  The withholding agent treated the payments as portfolio interest not subject to withholding, but did not have the required documentation from the payees to support a claim for the portfolio interest.  The withholding agent would be liable for the tax if it was required to withhold but did not.  Code §1461.

The CCA provided that a reduced rate of withholding on portfolio interest can be established after payments are made if a withholding certificate or documentary evidence is provided before the expiration of the period of limitation for claiming a refund of tax with respect to such interest.  Treas. Reg. §1.871-14(c)(3)(i). 

Because A did not file a U.S. tax return, A's period of limitation could not have started, so the documentation can be obtained at any time.  However, because B did file a U.S. tax return, the withholding agent generally has three years from the date the return was filed to obtain documentation supporting the portfolio interest. 

FATCA, NFFEs, and Draft W-8BEN-E - Unnecessary Complexity

UPDATE (9/22/14): For foreign performed services, see:

Payments to Foreign Contractor Entities: Form W-8BEN-E.

The U.S. Treasury Department recently finalized the FATCA regulations.(FN 1)

The bulk of the regulations deal with certain U.S. source payments to foreign financial institutions (“FFIs”).

However, the regulations also require a withholding agent to generally withhold 30% of certain U.S. source payments (made after December 31, 2013) to a payee that is a non-financial foreign entity (“NFFE”) unless three requirements are met. The three requirements are:

1. The beneficial owner of the payment is the NFFE or another NFFE;
2. The withholding agent can treat the beneficial owner of the payment as an NFFE that does not have any substantial U.S. owners, or as an NFFE that has identified its substantial U.S. owners; and
3. The withholding agent reports certain information relating to substantial U.S. owners of the NFFE.(FN 2) 

Simple Reporting in Many Circumstances

In many circumstances it will be quite easy to confirm that the NFFE has no substantial U.S. owners or to identify who the substantial U.S. owners are. For example, a Canadian non-financial company that is wholly owned by a Canadian citizen who lives in Canada should be able to easily certify that it is the beneficial owner of a payment and that it has no substantial U.S. owners.

Similarly, if that same Canadian company were 50% owned by the Canadian citizen and 50% owned by a U.S. citizen, the company should be able to easily certify that it is the beneficial owner of a payment and that it has a 50% substantial U.S. owner. The reporting of the substantial U.S. owner will be done on I.R.S. Form 8966 (or such other form as the I.R.S. may prescribe).(FN 3)

Excepted NFFEs

No withholding is required under the FATCA rules if the payment is beneficially owned by an “excepted NFFE.”(FN 4) Excepted NFFEs include:

1. Publicly traded companies;
2. Affiliates of publicly traded companies;
3. Certain entities organized in U.S. territories;
4. Active NFFEs;
5. Certain non-financial entities (such as holding companies, treasury centers, captive financial companies of a non-financial group, start-up companies, liquidating or bankrupt companies, and not-for-profit organizations).

An “active NFFE” is an entity that meets an income test and an asset test.(FN 5) Under the income test, the entity must have less than 50% of its gross income for the preceding calendar year as passive income. Under the asset test, the entity must have less than 50% of its assets for the preceding calendar year as passive assets (i.e., assets that produce or are held for the production of passive income).

Very generally, “passive income” can be thought of as investment income, such as dividends, interest, rents and royalties (other than certain active rents and royalties), annuities, the excess of gains over losses from the sale or exchange of the foregoing types of property, etc.(FN 6)

A “passive NFFE” is an NFFE other than an excepted NFFE.(FN 7)

Draft Form W-8BEN-E

The current draft version of the Form W-8BEN-E (found here) is eight pages long and has 25 parts.

Parts 1, 2, 3, and 24 represent the four parts included in the existing W-8BEN. Parts 4 through 22 include various categories, including multiple types of FFIs and excepted NFFEs.

Part 23 addresses passive NFFEs and requires that the foreign entity certify that (i) it is not a financial institution, (ii) it is not an excepted NFFE, and (iii) either (a) it has no substantial U.S. owners, or (b) it has provided certain information about each of its substantial U.S. owners in Part 25 of the form.

Unnecessary Complexity

Unfortunately, the way that the W-8BEN-E is currently drafted, a foreign non-financial entity must certify that it is either an active NFFE (in Part 22) or a passive NFFE (in Part 23). If it is an active NFFE, then there is no need to provide information about the substantial U.S. owners. If it is a passive NFFE, then it must provide information about the substantial U.S. owners in Part 25 of the form.

As currently drafted, there is no option to avoid the legwork required to determine whether the NFFE is active or passive, and to simply volunteer the information about the substantial U.S. owners (or lack thereof).

To determine whether a foreign entity is an active or passive NFFE, both its income statement and its balance sheet must be reviewed for the prior calendar year. What if the NFFE has a fiscal year rather than a calendar year? Must calendar year financial statements be created and reviewed? What if there are substantial book-tax differences? Are assets valued on a fair market value basis or using U.S. tax basis? If using fair market value, must a valuation be performed? If using U.S. tax basis, has the foreign entity been tracking the U.S. tax bases of its assets (even though it may be 100% foreign owned)?

Foreign non-financial entities should be able to avoid making the determination as to whether they are active or passive NFFEs.  The NFFE would voluntarily provide the information about the substantial U.S. owners (or lack thereof). The I.R.S. would get the information that it seeks without requiring an extensive analysis to be performed with respect to the foreign entity’s financial statements.

The Form W-8BEN-E should be modified to allow a NFFE to volunteer the substantial U.S. owner information in Part 25 and not have to certify that it is or is not an active NFFE (or any other type of excepted NFFE). One can only hope that the Treasury Department will add this simplification to the final Form W-8BEN-E.

________________________________________________

Footnotes:

1    Treasury Decision 9610.

2    Treas. Reg. §1.1472-1(b)(1).

3    Treas. Reg. §1.1474-1(i)(2).

4    Treas. Reg. §1.1472-1(c).

5    Treas. Reg. §1.1472-1(c)(1)(iv).

6    Id.

7    Treas. Reg. §1.1471-1(b)(88).

Form 1099 for Payments to Foreign Contractors for Services?

UPDATE - 9/23/14:  For payments to foreign entities, see our blog post (Payments to Foreign Contractor Entities: Form W-8BEN-E).

One question that often comes up is how a domestic U.S. business should treat payments to a foreign contractor for services performed outside the U.S.  Is a Form 1099 required?  Is withholding required?

As long as the foreign contractor is not a U.S. person and the services are wholly performed outside the U.S., then no Form 1099 is required and no withholding is required.

Not a U.S. Person

So, how do you “know” that the foreign contractor is not a U.S. person?  If the contractor is an individual, perhaps he or she is a U.S. citizen living outside the U.S.?  While you may be able to rely on certain presumptions regarding the foreign contractor’s status (Treas. Reg. §1.1441-1(b)(3)), it is generally easier to simply ask him or her to complete a Form W-8BEN.  By signing Form W-8BEN, the foreign contractor is certifying that he or she is not a U.S. person.

In this circumstance there is no need for the foreign contractor to get a U.S. taxpayer identification number or to complete Parts II or III of Form W-8BEN.  All that the foreign contractor needs to do is to complete the basic information in Part I and sign in Part IV, attesting that the information is true, correct, and complete.  No Form 1099 then needs to be filed for payments to foreign persons.  Treas. Reg. §1.6041-4(a).

The Form W-8BEN is not filed with the I.R.S.  It is kept on file with the U.S. payor in case the U.S. payor is audited.  If audited, the Form W-8BEN supports why no Form 1099 was issued and why no tax was withheld.

Where Were the Services Performed?

Now that you know that the foreign contractor is not a U.S. person, how do you know that he or she is not performing some or all of the services in the U.S.?  Perhaps he or she spends two or three months a year at his or her second home in the U.S. and he or she works on your project while in the U.S.?

You won’t know if the services are performed in the U.S., unless you ask.  There is no special form for this.  The easiest way is to get a signed statement from the foreign contractor that he or she will not perform any of the services in the U.S.  It is typically best to attach this statement to the W-8BEN.

Form 1042 must be filed with respect to certain payments to foreign persons.  Code §1461 and Treas. Reg. §1.1461-1.  However, Form 1042 is required only for payments of “U.S. source income.”  If the payments are for services and the services are performed outside the U.S., then the payments will be foreign source income (Code §861(a)(3) and Treas. Reg. §1.861-4), and no Form 1042 will be required.

When in Doubt, Withhold

Say that you have some reason to doubt the veracity of the foreign contractor’s statements.  Perhaps you know that he or she was born in the U.S. (which would make him or her a U.S. citizen, unless he or she renounced his/her U.S. citizenship)?  Perhaps you know that the foreign contractor spends a good amount of time in the U.S. and you believe some of the services may be performed in the U.S.?

If you do not withhold tax on the payments to the foreign contractor but you are required to withhold, then you, as the payor (i.e., the “withholding agent”), can be held liable for the tax that you did not withhold.  Treas. Reg. §1.1441-1(b)(7).  Thus, if you are uncertain as to whether you need to withhold, it is generally better to withhold.  If the foreign contractor does not owe U.S. tax, then he or she can file a U.S. tax return and claim a refund for the tax that was withheld.