Gains
You generally do not need to withhold on gains from the sale of real or personal
property because it is not FDAP income. However, see U.S. Real Property Interest, later.
Capital gains (Income Code 9). You
must withhold at 30%, or if applicable, a reduced treaty rate, on the gross amount of the
following items:
- Gains on disposal of timber, coal, or domestic iron ore with a retained economic
interest, unless an election is made to treat those gains as income effectively connected
with a U.S. trade or business,
- Gains on contingent payments received from the sale or exchange after October 4, 1966,
of patents, copyrights, secret processes and formulas, goodwill, trademarks, trade brands,
franchises, and other like property,
- Gains on certain transfers of all substantial rights to, or an undivided interest in,
patents if the transfers were made before October 5, 1966, and
- Certain gains from the sale or exchange of original issue discount obligations issued
after March 31, 1972. For more on withholding on original issue discount obligations, see Interest,
earlier.
If you do not know the amount of the gain, you must withhold an amount necessary to
assure that the tax withheld will not be less than 30% of the recognized gain. The amount
to be withheld, however, must not be more than 30% of the amount payable because of the
transaction.
Unless you have reason to believe otherwise, you may rely upon the written statement of
the person entitled to the income as to the amount of gain. The Form W-8 or documentary
evidence must show the beneficial owner's basis in the property giving rise to the gain.
Tax treaties. Many tax
treaties exempt certain types of gains from U.S. income tax. The conditions for
allowing the exemptions vary under each treaty. For example, under some treaties, a
nonresident alien individual may not be present in the United States for more than a
specified period for the exemption to apply. Be sure to carefully check the provision of
the treaty that applies before allowing an exemption from withholding.
Royalties
In general, you must withhold tax on the payment of royalties from
sources in the United States. However, certain types of royalties are given reduced
rates or exemptions under some tax treaties. Accordingly, these different types of
royalties are treated as separate categories for withholding purposes.
Industrial royalties (Income Code 10). This category of income includes royalties for the use of, or the right to
use, patents, trademarks, secret processes and formulas, goodwill, franchises, know-how,
and similar rights. It also may include rents for the use or lease of personal property.
Under certain tax treaties, different rates may apply to royalties for information
concerning industrial, commercial, and scientific know-how.
Motion picture or television copyright royalties (Income Code 11). This category refers to royalties paid for the use of
motion picture and television copyrights.
Other royalties (e.g., copyright, recording, publishing) (Income Code 12).
This category refers to the royalties paid for the
use of copyrights on books, periodicals, articles, etc., except motion picture and
television copyrights.
Real Property Income and
Natural Resources Royalties
(Income Code 13)
You must withhold tax on income (such as rents and royalties) from
real property located in the United States and held for the production of income,
unless the foreign payee elects to treat this income as effectively connected with a U.S.
trade or business. If the foreign payee chooses to treat this income as effectively
connected, the payee must give you Form W-8ECI (discussed earlier). This real property
income includes royalties from mines, wells, or other natural deposits, as well as
ordinary rents for the use of real property. For withholding that applies to the
disposition of U.S. real property interests, see U.S. Real Property Interest, later.
Pensions, Annuities, and Alimony (Income Code 14)
The following rules apply to withholding on pensions, annuities, and
alimony of foreign payees.
Pensions and annuities. Generally,
you must withhold tax on the gross amount of pensions and annuities that you pay that are
from sources within the United States. However, most tax treaties provide that
private pensions and annuities are exempt from withholding.
In the absence of a treaty exemption, you must withhold at the statutory rate of 30% on
the entire distribution that is from sources within the United States. You may, however,
apply withholding at graduated rates to the portion of a distribution that arises from the
performance of services in the United States after December 31, 1986, provided you receive
Form W-8ECI and can determine the portion of the distribution that constitutes income
effectively connected with the conduct of a trade or business in the United States. The
withholding rules that apply to payments to foreign persons generally take precedence over
any other withholding rules that would apply to distributions from qualified plans and
other qualified retirement arrangements.
No withholding. Do not withhold tax on an annuity payment to a
nonresident alien if at the time of the first payment from the plan, 90% or more of the
employees eligible for benefits under the plan are citizens or residents of the United
States and the payment is:
- For the nonresident's personal services performed outside the United States, or
- For personal services by a nonresident individual present in the United States for 90
days or less during each tax year, whose pay for those services does not exceed $3,000,
and the personal services are performed for:
- A nonresident alien individual, foreign partnership, or foreign corporation not engaged
in a trade or business in the United States, or
- An office or place of business of a U.S. resident or citizen which is maintained outside
the United States.
If the payment otherwise qualifies under these rules, but less than 90% of the
employees eligible for benefits are citizens or residents of the United States, you still
need not withhold tax on the payment if:
- The recipient is a resident of a country that gives a substantially equal exclusion to
U.S. citizens and residents, or
- The recipient is a resident of a beneficiary developing country under the Trade Act of
1974.
The foreign person entitled to the payments must provide you with a Form W-8BEN that
contains the TIN of the foreign person.
Alimony payments. Generally,
alimony payments made by U.S. residents to nonresident aliens are taxable and
subject to NRA withholding whether the recipients are residing abroad or are temporarily
present in the United States.
Many tax treaties, however, provide for an exemption from withholding for alimony
payments. These treaties are shown in Table 1, by a footnote reference under Income
code number 14.
Alimony payments made to a nonresident alien by a U.S. ancillary administrator of a
nonresident alien estate are from foreign sources and are not subject to withholding.
Scholarships and Fellowship
Grants (Income Code 15)
A scholarship or fellowship grant is an amount given to an individual
for study, training, or research, and which does not constitute compensation for
personal services. Whether a fellowship grant from U.S. sources is subject to NRA
withholding depends on the nature of the payments and whether the recipient is a candidate
for a degree.
Candidate for a degree. Do not withhold on a qualified scholarship
from U.S. sources granted and paid to a candidate for a degree. A qualified
scholarship means any amount paid to an individual as a scholarship or fellowship
grant to the extent that, in accordance with the conditions of the grant, the amount is to
be used for the following expenses:
- Tuition and fees required for enrollment or attendance at an educational organization,
and
- Fees, books, supplies, and equipment required for courses of instruction at the
educational organization.
The payment of a qualified scholarship to a nonresident alien is not reportable and is
not subject to NRA withholding. However, the portion of a scholarship or fellowship paid
to a nonresident alien which does not constitute a qualified scholarship is reportable on
Form 1042-S and is subject to NRA withholding. For example, those portions of a
scholarship devoted to travel, room, and board are subject to NRA withholding and are
reported on Form 1042-S. The withholding rate is 14% on taxable scholarship and fellowship
grants paid to nonresident aliens temporarily present in the United States in F, J,
M, or Q nonimmigrant status. Payments made to nonresident alien
individuals in any other immigration status are subject to 30% withholding.
Nondegree candidate. If the person receiving the scholarship or
fellowship grant is not a candidate for a degree, and is present in the United States in F,
J, M, or Q nonimmigrant status, you must withhold tax at 14% on
the total amount of the grant that is from U.S. sources if the following requirements are
met.
- The grant must be for study, training, or research at an educational organization in the
United States.
- The grant must be made by:
- A tax-exempt organization operated for charitable, religious, educational, etc.
purposes,
- A foreign government,
- A federal, state, or local government agency, or
- An international organization, or a binational or multinational educational or cultural
organization created or continued by the Mutual Educational and Cultural Exchange Act of
1961 (known as the Fulbright-Hays Act).
If the grant does not meet both (1) and (2) above, you must withhold at 30% on the
amount of the grant that is from U.S. sources.
Alternate withholding procedure. You may choose to treat the taxable part of a U.S. source grant or
scholarship as wages. The student or grantee must have been admitted into the United
States on an F, J, M, or Q visa. The student or
grantee will know that you are using this alternate withholding procedure when you ask for
a Form W-4.
The student or grantee must complete Form W-4 annually following the instructions given
here and forward it to you, the payer of the scholarship, or your designated withholding
agent. You may rely on the information on Form W-4 unless you know or have reason to know
it is incorrect. You must file a Form 1042-S (discussed later) for each student or grantee
who gives you, or your withholding agent, a Form W-4.
Each student or grantee who files a Form W-4 must file an annual U.S. income tax return
to be allowed the exemptions and deductions claimed on that form. If the individual is in
the United States during more than one tax year, he or she must attach a statement to the
annual Form W-4 indicating that the individual has filed a U.S. income tax return for the
previous year. If he or she has not been in the United States long enough to have to file
a return, the individual must attach a statement to the Form W-4 saying that a timely U.S.
income tax return will be filed.
A prorated portion of allowable personal exemptions based on the projected number of
days he or she will be in this country is allowed. This is figured by multiplying the
daily exemption amount ($8.36 for 2003) by the number of days the student or grantee
expects to be in the United States during the year. The prorated exemption amount should
be shown on line A of the Personal Allowances Worksheet that comes with Form W-4.
Generally, zero (-0-) should be shown on line B of the worksheet. But, a student or
grantee who qualifies under Article 21(2) of the United States - India Income Tax Treaty
can enter the standard deduction if he or she does not claim away-from-home expenses or
other itemized deductions (discussed later).
Generally, zero (-0-) should be shown on lines C and D of the worksheet. But, an
additional daily exemption amount may be allowed for the spouse and each dependent if the
student or grantee is:
- A resident of Canada, Mexico, Japan, or South Korea,
- A U.S. national (a citizen of American Samoa, or a Northern Mariana Islander who chose
to become a U.S. national), or
- Eligible for the benefits of Article 21(2) of the United States - India Income Tax
Treaty.
These additional amounts should be entered on lines C and D, as appropriate.
As lines E, F, and G of the worksheet do not apply to nonresident aliens subject to
this procedure, there should be no entries on those lines.
The nonresident alien student or grantee may deduct away-from-home expenses (meals,
lodging, and transportation) on Form W-4 if he or she expects to be away from his or her
tax home for 1 year or less. The amount of the claimed expenses should be the anticipated
actual amount, if known. If the amount of the expenses is not known at the time the Form
W-4 is filed with you, the current per diem allowance in effect for participants in the
Career Education Program under the Federal Travel Regulations may be claimed on Form W-4.
The allowable amount is $18.00 per day.
The actual expenses or the per diem allowance should be shown on line A of the
worksheet in addition to the personal exemption amount.
The student or grantee can claim other expenses that will be deductible on Form 1040NR.
These include educator expenses, student loan interest, certain state and local income
taxes, charitable contributions, casualty losses, and moving expenses. He or she should
include these anticipated amounts on line A of the worksheet.
The student or grantee can also enter on line A of the worksheet, the part of the grant
or scholarship that is tax exempt under the statute or a tax treaty.
Lines A through D of the Personal Allowances Worksheet are added and the total
should be shown on line H.
The payer of the grant or scholarship must review the Form W-4 to make sure all the
necessary and required information is provided. If the withholding agent knows or has
reason to know that the amounts shown on the Form W-4 may be false, the withholding agent
must reject the Form W-4 and withhold at the appropriate statutory rate (14% or 30%).
However, if the only incorrect information is that the student or grantee's stay in the
United States has extended beyond 12 months, the withholding agent may withhold under
these rules, but without a deduction for away-from-home expenses.
After receipt and acceptance of the Form W-4, the payer must withhold at the graduated
rates in Publication 15 (Circular E) as if the grant or scholarship income were wages. The
gross amount of the income is reduced by the total amount of exemptions and deductions on
the Form W-4 and the withholding tax is figured on the rest.
When completing Form 1042-S for the student or grantee, enter the taxable part (gross
amount less qualified scholarship) of the scholarship or fellowship grant in box 2, enter
the withholding allowance amount from line H of the Personal Allowances Worksheet of
Form W-4 in box 3, and show the net of these two amounts in box 4.
Pay for services rendered. Pay
for services rendered as an employee by an alien who also is the recipient of a
scholarship or fellowship grant usually is subject to graduated withholding
according to the rules discussed later in Wages Paid to Employees - Graduated
Withholding. This includes taxable amounts an individual who is a candidate for a
degree receives for teaching, doing research, and carrying out other part-time employment
required as a condition for receiving the scholarship or fellowship grant.
Grants given to students, trainees, or researchers which require the performance of
personal services as a necessary condition for disbursing the grant do not qualify as
scholarship or fellowship grants. Instead, they are compensation for personal services
considered to be wages. It does not matter what term is used to describe the grant (for
example, stipend, scholarship, fellowship, etc.).
 Withholding
agents who pay grants that are in fact wages must report such grants on Forms 941 and W-2
and withhold income tax on them at the graduated rates. Withholding agents may not allow
tax treaty exemptions that apply to scholarships and fellowships to be applied to grants
which are really wages. It is the responsibility of the withholding agent to determine
whether a grant is wages or a scholarship or fellowship, and to report
and withhold on the grant accordingly. An alien student, trainee, or researcher may not
claim a scholarship or fellowship treaty exemption against income which has been reported
to him on Form W-2 as wages.
Per diem paid by the U.S. Government. Per diem for subsistence paid by the U.S. Government (directly or by
contract) to a nonresident alien engaged in a training program in the United States under
the Mutual Security Act of 1954 (grants funded by the U.S. Agency for International
Development) are not subject to 14% or 30% withholding. This is true even if the alien is
subject to income tax on those amounts.
Tax treaties. Many treaties
contain exemptions from U.S. taxation for scholarships and fellowships. Although
usually found in the student articles of the tax treaties, many of these exemptions also
apply to research grants received by researchers who are not students. Table 2 of
this publication shows a line entry entitled Scholarship or fellowship grant for
those treaties which have such an exemption. The treaty provision usually exempts the
entire scholarship or fellowship amount, regardless of whether the grant is a qualified
scholarship under U.S. law.
An alien student, trainee, or researcher may claim a treaty exemption for a scholarship
or fellowship by submitting Form W-8BEN to the payer of the grant. However, a scholarship
or fellowship recipient who receives both wages and a scholarship or fellowship from the
same institution can claim treaty exemptions on both kinds of income on Form 8233.
The scholarship or fellowship recipient who is claiming a treaty exemption must provide
you with his or her TIN on Form W-8BEN or on Form 8233 or you cannot allow the treaty
exemption. A Form W-7, showing that a TIN has been applied for, can be filed with a Form
8233.
Nonresident alien who becomes a resident alien. Generally, only a nonresident alien individual may use
the terms of a tax treaty to reduce or eliminate U.S. tax on income from a
scholarship or fellowship grant. A student (including a trainee or business apprentice) or
researcher who has become a resident alien for U.S. tax purposes may be able to claim
benefits under a tax treaty that apply to reduce or eliminate U.S. tax on scholarship or
fellowship grant income. Most treaties contain a provision known as a saving clause.
An exception to the saving clause may permit an exemption from tax to
continue for scholarship or fellowship grant income even after the recipient has otherwise
become a U.S. resident alien for tax purposes. In this situation, the individual must give
you a Form W-9 and an attachment that includes all the following information.
- The treaty country.
- The treaty article addressing the income.
- The article number (or location) in the tax treaty that contains the saving clause and
its exceptions.
- The type and amount of income that qualifies for the exemption from tax.
- Sufficient facts to justify the exemption from tax under the terms of the treaty
article.
Example. Article 20 of the U.S. - China income tax treaty allows
an exemption from tax for scholarship income received by a Chinese student temporarily
present in the United States. Under the Internal Revenue Code, a student may become a
resident alien for tax purposes if his or her stay in the United States exceeds 5 calendar
years. However, the treaty allows the provisions of Article 20 to continue to apply even
after the Chinese student becomes a resident alien of the United States.
Other Grants, Prizes, and Awards
Other grants, prizes, and awards made by grantors which reside in the
United States are treated as income from sources within the United States. Those
made for activities conducted outside the United States or by grantors which reside
outside the United States are treated as income from foreign sources. These provisions do
not apply to salaries or other pay for services.
Grant. The purpose of a grant must be to achieve a specific
objective, produce a report or other similar product, or improve or enhance a literary,
artistic, musical, scientific, teaching, or other similar capacity, skill, or talent of
the grantee. A grant must also be an amount which does not qualify as a scholarship or
fellowship. The grantor must not intend the amount to be given to the grantee for the
purpose of aiding the grantee to perform study, training, or research.
Prizes and awards. Prizes and awards are amounts received primarily
in recognition of religious, charitable, scientific, educational, artistic, literary, or
civic achievement, or are received as the result of entering a contest. A prize or award
is taxable to the recipient unless all of the following conditions are met:
- The recipient was selected without any action on his or her part to enter the contest or
proceeding,
- The recipient is not required to render substantial future services as a condition to
receive the prize or award, and
- The prize or award is transferred by the payer to a governmental unit or tax-exempt
charitable organization as designated by the recipient.
Targeted grants and achievement awards. Targeted grants and
achievement awards received by nonresident aliens for activities conducted outside the
United States are treated as income from foreign sources. Targeted grants and achievement
awards are issued by exempt organizations or by the United States (or one of its
instruments or agencies), a state (or a political subdivision of a state), or the District
of Columbia for an activity (or past activity in the case of an achievement award)
undertaken in the public interest.
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