In order for payments to foreign vendors to be timely made and correctly withheld and reported, accounts payable (AP) personnel need to know the nature of the income before payment is made, ideally before the invoice is received. Since many payments are based on the terms of the agreement, this can best be determined at the outset of the agreement with the vendor by those involved in the procurement or contracting process. For most organizations, this is currently not a responsibility of procurement or contracting. When the nature of the income is not known at the time an invoice is presented for payment, the payment must either be (1) delayed until the nature of the income can be determined (a process that might involve legal counsel), or (2) treated as an uncategorized payment, which is fixed or determinable annual or periodic (FDAP) income subject to 30 percent withholding, reported under Income Code 50, Miscellaneous Income. (The withheld tax will be FATCA withholding beginning January 1, 2014 when those rules go into effect.)
Whether AP is able to obtain sufficient information in order to investigate the nature of the income from those involved in the procurement or contracting process (or once such information is obtained) will vary with the organization. Although the vendor might be willing to provide the relevant facts or agreement (or even legal advice as to the nature of the payment), in an audit the IRS will look to the agreement with the organization regardless of representations made by the vendor. This is because income recipients have an incentive to categorize payments in a manner which would support a claim for exemption from withholding.
Visit Paula’s blog archive page to read her posts on payments to foreign individuals and entities, as well as the other posts in this series.
Thomson Reuters ONESOURCE Nonresident Alien Taxation has a number of webcasts to help organizations understand payments to foreign students, workers, and vendors. Visit our webcast page to view a complete schedule and register for a webcast.