Special payroll rules apply to nonresident employees, some increasing withholding and others providing for exemptions from tax.
The federal wage withholding rules for nonresident employees mirror the tax return limitations for these taxpayers:
- They may claim only one personal exemption with a few exceptions
- They must file using single or married-filing-separately rates (the highest rates)
- They may not claim the standard deduction (except for students and business apprentices from India)
- They are not eligible for most tax credits
Special exemptions from Social Security and Medicare and federal unemployment taxes are also available to eligible employees.
State tax withholding rules are the same for foreign national employees as they are for U.S. citizens, although a state’s residency rules might include reference to an employee’s nonimmigrant status or federal tax residency status. Also, several states do not honor income tax treaties, in some cases necessitating state withholding on federally exempt income.
Special Form W-4 Rules
When completing Form W-4, nonresident employees must:
- Not claim “exempt”
- Use single status even if married
- Claim only one allowance (with a few exceptions)
- Write “nonresident alien” or “NRA” on line 6
Additional personal allowances may be claimed only by:
- Residents of Canada or Mexico
- Residents of South Korea
- U.S. nationals from the Northern Mariana Islands and American Samoa
- Residents of India who entered as students or business apprentices
Other nonresident employees may not claim additional personal exemptions, even if their dependents are U.S.citizens. A nonresident employee married to a U.S. citizen or resident alien may, however, make an election with their spouse to be treated as a resident alien for wage withholding purposes.
To comply with these rules, self-service payroll processes must prevent nonresident employees from using the W-4 rules for U.S. citizens and residents.
Under the payroll rules for nonresident employees, employers are required to calculate federal income tax withholding on wages under a special procedure. Before applying the wage withholding tables, they must add to the wages of nonresident employees an amount that varies by pay period to offset the assumed standard deduction that is incorporated into the wage tables.
The additional amount, which varies by payroll period and is updated annually, is determined from “Tables for Withholding Adjustment for Nonresident Aliens” available in IRS Publication 15, Circular E, Employer’s Tax Guide.
These amounts do not affect income for Form W-2 purposes, Social Security or Medicare (FICA) wages or taxes, or wages for federal unemployment tax (FUTA) liabilities.
Students and business apprentices from India are not covered by the gross-up procedure for the standard deduction because they may use the standard deduction because of a special tax-treaty provision in the treaty with India.
U.S. Social Security and Medicare taxes apply to compensation for services performed in the U.S. unless an exception applies. There are a number of FICA exceptions that might apply to foreign employees, such as:
- The NRA FICA Exception
- The Student FICA Exception
- Exception under a Totalization Agreement
1. The NRA FICA Exception
IRC §3121(b)(19) provides an exception from FICA for compensation services performed in the U.S.:
- By a nonresident alien
- Temporarily in the U.S. in F, J, M or Q status
- For authorized employment
- For work consistent with the purpose of the employee’s immigration status
This exception is not available for dependents whose purpose is to accompany the primary visa holder to the U.S.
This exception is also not available for resident aliens. (An employee who makes a resident election for wage-withholding purposes remains a nonresident alien for FICA purposes, however.) Therefore, employers must project the residency status of foreign national employees based on the end date of their immigration status to avoid exempting ineligible employees. FICA refunds may be claimed if an employee who has paid FICA leaves the U.S. before becoming a resident alien.
IRC §3306(b)(19) provides a FUTA exception for these FICA-exempt employees.
2. The Student FICA Exception
IRC §3121(b)(10) provides an exception from FICA tax for students who are employed by a school, college or university, or an IRC §509(a) affiliate and who meet enrollment requirements. The exceptions apply to foreign national students under the same rules that apply to U.S. citizens. IRC §3306(b)(10) provides a FUTA exemption for these FICA-exempt employees.
3. Exception under a Social Security Agreement
The U.S. has Social Security agreements (commonly called totalization agreements) with more than 20 countries. These agreements eliminate dual coverage and dual contributions (taxes) for the same compensation. There are two situations in which an employee may be covered under another country’s social security system:
- The employee is sent to work in the U.S. temporarily by an affiliated foreign employer and is covered under the detached worker rule of an applicable totalization agreement.
- The employee is making voluntary social security payments on the U.S. wages into the home country’s social security system.
Generally, a detached worker is an employee who comes to the U.S. to work temporarily for the same employer for a period not expected to exceed five years.
In both situations, coverage by another country under a Totalization Agreement must be supported by a Certificate of Coverage issued by the social security agency of the other country as evidence that the employee is covered by and paying taxes on the U.S. wages into that country’s social security system. The agreements are available at www.ssa.gov/international.
Totalization agreements do not apply to FUTA.