Whether an exemption from withholding under either income tax rules or an applicable income tax treaty applies depends on the character of the U.S.-source income being paid (as defined by U.S. tax rules). For example, a foreign vendor with income that is effectively connected to the conduct of a U.S. trade or business (called “ECI”) is exempt from withholding (but not reporting) as long as the vendor provides the payer with a valid Form W-8ECI and describes the income on the form. To be valid, Form W-8ECI must include a U.S. taxpayer identification number – an SSN or ITIN for an individual, an EIN for an entity. A valid Form W-8ECI will be valid to avoid FATCA withholding as well (scheduled to begin July 1, 2014).
Form W-8ECI may not be used by individual recipients of compensation for services or by personal holding companies. A corporation is a personal holding company if more than 50% in value of its outstanding stock is owned directly or indirectly by five or fewer individuals (regardless of their citizenship or residency status), and at least 60% of the corporation’s income that is effectively connected to the conduct of a U.S. trade or business (called ECI) for the tax year is personal holding company income. ECI includes compensation paid to a corporation for services provided by its employees in the United States.
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.