Claiming United States Tax Treaty Benefits
21 October, 2014
The United States has income tax treaties with 68 foreign countries, under which residents (not necessarily citizens) of foreign countries are taxed at a reduced rate, or are exempt from US income taxes on certain items of income they receive from sources within the United States. These reduced rates and exemptions vary among countries and specific items of income. With certain exceptions, they do not reduce the US taxes of US citizens or residents; US citizens and residents are subject to US income tax on their worldwide income.
Treaty provisions generally are reciprocal (they apply to both treaty countries). Therefore, a US citizen or resident who receives income from a treaty country and who is subject to taxes imposed by foreign countries may be entitled to certain credits, deductions, exemptions, and reductions in the rate of taxes of those foreign countries.
Treaty benefits generally are available to residents of the United States, but they are usually not available to US citizens who do not reside in the United States. However, certain treaty benefits and safeguards, such as the non-discrimination provisions, are available to US citizens residing in the treaty countries. US citizens residing in a foreign country may also be entitled to benefits under that country's tax treaties with third countries.
Many of the individual states of the United States (all but seven) tax the income of their residents. Most states honour the provisions of US tax treaties but some states do not. Claimants of tax treaty benefits should therefore consult the tax authorities of the state of residence to find out if that state taxes the income of individuals and, if so, whether the tax applies to any of your income, or whether the relevant income tax treaty applies in the state in which you live.
At the time of writing, the following states do not honour federal tax treaties: Alabama, Arkansas, California, Connecticut, Hawaii, Kansas, Kentucky, Maryland, Mississippi, Montana, New Jersey, North Dakota and Pennsylvania.
Claiming Tax Treaty Benefits
If a tax treaty between the United States and your country of residence provides an exemption from, or a reduced rate of, withholding for certain items of income, you should notify the payor of the income (the withholding agent) of your foreign status to claim the benefits of the treaty.
A reduced rate of withholding applies to a foreign person that provides a Form W-8BEN claiming a reduced rate of withholding under an income tax treaty only if the foreign person provides a US Taxpayer Identification Number (TIN) (except for certain marketable securities) and certifies that:
Limitations on benefits provisions generally prohibit third country residents from obtaining treaty benefits. For example, a foreign corporation may not be entitled to a reduced rate of withholding unless a minimum percentage of its owners are citizens or residents of the United States (or the treaty country).
If a non-resident alien individual has made an election with his or her US citizen or resident spouse to be treated as a US resident for income tax purposes, they may not claim to be a foreign resident to obtain the benefits of a reduced rate of, or exemption from, US income tax under an income tax treaty. However, the exceptions to the saving clause in some treaties allow a resident of the United States to claim a tax treaty exemption on US source income.
If the payor knows, or has reason to know, that an owner of income is not eligible for treaty benefits claimed, he must not apply the treaty rate. He is not, however, responsible for misstatements on a Form W-8, documentary evidence, or statements accompanying documentary evidence for which he did not have actual knowledge, or reason to know that the statements were incorrect.
Additionally, US citizens and US residents sometimes need certification of US residency to claim a tax treaty benefit or a reduction of VAT tax with a foreign country. Such persons should file Form 8802 with the IRS to obtain such certification of residency.
The IRS provides this residency certification on Form 6166, a letter of US residency certification. Form 6166 is a computer-generated letter printed on stationery bearing the US Department of Treasury letterhead.
Special rules apply in most US tax treaties with regards to compensation for personal services, as follows:
If you perform personal services as an independent contractor (rather than an employee) and you can claim an exemption from withholding on that personal service income because of a tax treaty, submit Form 8233, Exemption From Withholding on Compensation for Independent (and Certain Dependent) Personal Services of a Non-resident Alien Individual, to each withholding agent from whom amounts will be received.
Students, trainees, teachers, and researchers
Alien students, trainees, teachers, and researchers who perform dependent personal services (as employees) can also use Form 8233 to claim exemption from withholding of tax on compensation for services that is exempt from US tax under a US tax treaty.
Students, trainees, teachers, and researchers must attach the appropriate statement shown in Appendix A (for students) or Appendix B (for teachers and researchers) at the end of Publication 519, US Tax Guide for Aliens, to the Form 8233 and give it to the withholding agent. For treaties not listed in the appendices, attach a statement in a format similar to those for other treaties.
Generally, you must be a non-resident alien student, apprentice, or trainee in order to claim a tax treaty exemption for remittances from abroad (including scholarship and fellowship grants) for study and maintenance in the United States. However, if you entered the United States as a non-resident alien, but you are now a resident alien for US tax purposes, the treaty exemption will continue to apply if the tax treaty has an exception to the treaty's saving clause. If you qualify under an exception to the treaty's saving clause and the payor intends to withhold US income tax on the scholarship, fellowship, or other remittance, you can avoid income tax withholding by giving the payor a Form W-9, Request for Taxpayer Identification Number and Certification, with an attachment that includes the following information:
If you are not a student, trainee, teacher, or researcher, but you perform services as an employee and your pay is exempt from US income tax under a tax treaty, you may be able to eliminate or reduce the amount of tax withheld from your wages. Provide your employer with a properly completed Form 8233 for the tax year. The Form 8233 must report your TIN, generally your US Social Security Number or your Individual Taxpayer Identification Number (ITIN).
Exemption on Your Tax Return
If you claim treaty benefits that override or modify any provision of the Internal Revenue Code, and by claiming these benefits your tax is, or might be, reduced, you must attach a fully completed Form 8833, Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b), to your tax return. See Exceptions, below, for the situations where you are not required to file Form 8833.
You must file a US tax return and Form 8833 if you claim the following treaty benefits:
You must also file Form 8833 if you receive payments or income items totalling more than USD100,000 and you determine your country of residence under a treaty and not under the rules for determining alien tax status.
You do not have to file Form 8833 for any of the following situations:
Penalty For Failure To Report Treaty Benefits
If you are required to report the treaty benefits but do not, you are subject to a penalty of USD1,000 for each failure.
The Effect of Tax Treaties
The rules given to determine if you are a US resident do not override tax treaty definitions of residency.
If your residency is determined under a treaty, you must file a fully completed Form 8833, Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b) if the payments or income items reportable because of that determination are more than USD100,000.
If you are a dual resident taxpayer, you can still claim the benefits under an income tax treaty. A dual resident taxpayer is one who is a resident of both the United States and another country under each country's tax laws. The income tax treaty between the two countries must contain a provision that provides for resolution of conflicting claims of residence.
If you are treated as a resident of a foreign country under a tax treaty, you are treated as a non-resident alien in figuring your US income tax. For purposes other than figuring your tax, you will be treated as a US resident.
If you are a dual resident taxpayer and you claim treaty benefits, you must timely file a return.
Competent Authority Assistance
If you are a US citizen or resident, you can request assistance from the US competent authority if you think that the actions of the United States, a treaty country, or both, cause or will cause a tax situation not intended by the treaty between the two countries.
The US competent authority cannot consider requests involving countries with which the United States does not have an applicable tax treaty. However, there exist some competent authority agreements between the United States and other countries that involve issues other than those normally found in income tax treaties.
Taxpayers are urged to make a request for competent authority consideration as soon as they have been denied treaty benefits or the actions of both the United States and the foreign country have resulted in double taxation or will result in taxation not intended by the treaty.
In addition to a timely request for assistance, taxpayers should take the following measures to protect their right to the review of your case by the competent authorities.
Tax Treaty Arbitration
The United States has entered into new treaties and protocols with Belgium, Canada, Germany, and France to allow for a mandatory arbitration process to supplement the historic negotiation process used in the Mutual Agreement Procedure.
Additionally, the Internal Revenue Service has entered into an agreement with the International Centre for Dispute Resolution (ICDR) to provide administrative services in support of arbitration under the Mutual Agreement Procedure article of United States income tax treaties. The ICDR carries out the international operations of the American Arbitration Association, a not-for-profit public service organization. The ICDRâs headquarters are in New York City, and it is supported by a network of cooperative agreements with institutions and key alliances covering over 40 countries.
The current status of US tax treaties and treaty withholding tax rates can be viewed on the United States Treaty Table page of TreatyPro. In addition, the latest US tax treaty developments can be viewed on the United States Treaty Updates page of TreatyPro.
For general taxation developments in the United States, please see the US news page of Tax-News.com.
Important Notice: Wolters Kluwer TAA Limited has taken reasonable care in sourcing and presenting the information contained on this site, but accepts no responsibility for any financial or other loss or damage that may result from its use. In particular, users of the site are advised to take appropriate professional advice before committing themselves to involvement in offshore jurisdictions, offshore trusts or offshore investments.
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