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Non-Resident Alien | Tax Information Reporting Skip to main content

Are license payments that are required to use software, whether a one-time payment or recurring payment, considable as US source income and 1042-S reportable?

Question

I was told by an "expert" in Chapter 3 regs, from whom I took a class a couple years ago, that when we purchase software to be used in the US from a non-US company, that the "initial/original" purchase of the software does not count as US source income and therefore that payment is not subject to NRA income tax withholding and 1042-S reporting.  However, license payments that are required to use the software, whether a one-time payment or recurring payment, do count as US source income that is subject to withholding and reporting. 

Do you concur with this distinction?

Answer

You need to be very careful here.

Technically, in a general sense, what you are asking could be construed as accurate. However...

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If we make a payment for software or a network site that will be used in the US to a Canadian company, which treaty article takes precedent?

Question

Could we get advice on the following questions regarding application of the tax treaty between the US and Canada?

The treaty says that:

  • Business profits (article 7) are not subject to US tax unless the payee has a permanent place of business in the US. 
  • Royalties (article 12) may be taxed in in both Canada and the US, but the US tax rate shall not exceed 10%.

If we make a payment for software or a network site that will be used in the US to a Canadian company, which article takes precedent?  The payee completed the W-8BEN claiming treaty benefits with the zero percent tax rate under article 7 (business profits).  Can we accept this, or do we have to withhold 10% per article 12 (royalties)?

Under the treaty, are annual recurring charges for “enterprise support & maintenance renewals” considered to be royalty payments?  Do we have to withhold 10% even though the payee claimed zero percent tax rate treaty benefits under article 7?

If the payee comes to the US to provide training, those service fees would be 1042-S reportable even though tax withholding would not apply under article 7.  However, would the reimbursement of the travel expenses to the US be reportable on 1042-S?  Does the answer to that question depend on whether or not the travel expenses were substantiated with receipts?

Answer

In reviewing incoming documentation the standard of knowledge you, as the withholding agent, need to apply is the “reason to know” standard. In essence, when you are looking at the documentation and attempting to validate it you must ask yourself would the reasonably prudent person, in acting as a withholding agent, question the claims.

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Do non US persons have any recourse to collect the moneys withheld?

Question

Do non US persons have any recourse to collect the moneys withheld?

Answer

There is a process, and it is a good idea to know what to do if for no other reason than the maintenance of your business relationship.

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We are contracting with a foreign consulting firm with U.S. offices. Which W-8 should we use? The W-8BEN or W-8ECI?

Question

We are contracting with an Italian engineering/consulting firm that, according to its website, also has 2 offices in Texas.  However, the company we are contracting with and paying is located in Italy.  Which W-8 should we ask them to complete...the BEN or the ECI?

Also, all services so far have been completed in Italy, but as we begin building a new plant in he U.S. in the coming months, it is likely the vendor will send employees to the U.S. for meetings with our management team, as well as to view the construction site.  I realize that if any non-US citizen employees perform services in the U.S. such as supervising the construction, the related payments would be subject to NRA income tax withholding and 1042-S reporting, and the employees would have to get permission to work in the US.  However, if they come here just for meetings with our management team and to view the construction site, do they need permission to work in the US, and would the related payments be subject to NRA tax withholding and 1042-S reporting?

Are we responsible for verifying that any non-US citizens sent here to work have the proper work authorization, or is that the responsibility of the non-US vendor?  If it is our responsibility, how do we go about the verification process?

Answer

Let's answer your questions in order.

In regards to your questions from your first paragraph the key issue is this: 

With whom do you have the contract?

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If the serrver is located outside of the US, are payments for the right to access a website or software subject to 1042-S reporting?

Question

If the server is located outside of the US, are payments for the right to access a website or software subject to Chapter 3 regs?

If we pay a subscription/access/license fee in order to access a foreign website from within the US, is the payment subject to Chapter 3 regs if the server that hosts the website is located outside the US?  Is that still considered US source income since we are accessing it from the US, or not since the server is located outside the US?  If not, what type of documentation are we required to obtain in order to prove the server is located out side of the US?

Answer

There are a number of steps you need to take. And also some issues that are to be addressed.

Here is what you should do.

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Is a Form W-8 required for payments of tangible goods?

Question

Is a W-8 required for payments of tangible goods?

Are W-8s required for payments of non-FDAP income (e.g. tangible goods) when paid to a foreign entity or individual?  I'm not certain if W-8's are required for all payments to non-US persons, or only for payments of FDAP income.

Answer

You need to be careful here.

There are exceptions to FDAP income but it is a very broad and inclusive way of categorizing payments.

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Are payments to foreign owners of ocean vessels subject to 1042-S reporting?

Question

Are payments to foreign owners of ocean vessels subject to Chapter 3 regs?

We make payments to foreign owners of ocean vessels for transporting goods.  Are these payments subject to the Chapter regs?  I've heard that foreign owners of ships and airplanes are subject to a 4% excise tax that they pay directly, and therefore are not subject to Chapter 3 regs, but I can't find that documented anywhere to verify it.

So I have several questions regarding payments to foreign owners of ships:

  1. Are these payments subject to Chapter 3 regs if they are considered US source income payments?
  2. If the payments are subject to Chapter 3 regs, but the ship never enters a US port (e.g. product is shipped between Brazil and China), I would assume the payment is not US source income.  But would we still have to get a W-8 from the owner?
  3. If the payments are subject to Chapter 3 regs, and the ship does enter a US port, is only a portion of the payment considered to be US source income?  If yes, what portion (e.g. 50% if goods are transerred between the US and another country, or 100% if the goods are transferred between 2 different US ports)?
  4. In question 3, let's assume the payer is a US company.  But what if the payer is a non-US subsidiary of US company (e.g. sub is organized under Swiss law), and the payments are issued by staff in the US parent company out of a US bank account in the name of the Swiss company?  In this case, would the payment be subject to Chapter 3 regs simply because of the US bank account from which the payment is issued?  If the payment was issued from a Swiss bank account instead, would it not be subject to Chapter 3 regs, and therefore by-pass the W-8 requirement too?
Answer

Your questions will be answered using the numbered format provided. However, note that there are a few key distinctions you need to grasp and which will flow throughout these answers.

1.) In short, yes - with the sourcing being key.

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Is a Form W-8 required for reimbursement of recall-related expenses?

Question

Is a Form W-8 required for reimbursement of recall-related expenses?

We have a situation where we need to reimburse a foreign customer for some recalled product they purchased from us, as well as for other expenses they incurred in relation to the recall.  The customer refuses to complete the W-8BEN for us and stated they only give such information to official tax authorities. 

It seems to me that this payment would not be considered US source income since we are simply reimbursing them for expenses incurred and product that could be used.   Therefore, are we required to get a W-8 for this type of payment?  If yes, and the customer refuses to provide it, do we have any other options?  Are we at risk if we issue the payment without the W-8?

Answer

You mention "other expenses they incurred in relation to the recall" - without further clarification/documentation to explain the IRS would assume that these payments in reimbursement are going to be subject to some sort of reporting. We will address this ambiguity as we move forward with the answer, but that information will need to be uncovered.

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Speaker from Sweden - Do they complete a Form W-9 or W-8?

Question

We paid an individual to speak at a trade show this year that is from Sweden. They completed a w-8 form. Was that the correct form to have them fill out?

Answer

It's good that you referenced the nationality of the individual. That's because of the fact that even when you are making payments to payees abroad you cannot rule out U.S. status until absolutely certain. Documentation is what provides that certainty. Make sure you perform your due diligence accordingly. To that end, let's get to your question.

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What tax documents are required when hiring a consultant to do work in the UK?

Question

Would you happen to know what tax documents are required in the UK when hiring a consultant (to do work in the UK)? 

Answer

Making payments to Non-Resident Alien individuals and determining how to document and validate such payees is an ever tougher task. Couple that with increased IRS attention to such matters and you need to be more careful than ever.

Here is exactly how you should proceed in such situations.

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