Lesson 9 - Hiring people who live in the U.S. but who aren't U.S. citizens
Hi, I'm Tuyet. I own a restaurant where I serve food from all over the world. I also employ people from all over the world- chefs, assistants, wait staff, and maitre-de's. I want to make sure that I'm meeting my federal tax obligations, but there's a lot to understand about how to treat different classifications of workers for tax purposes. I could sure use some help.
Help is on the way, Tuyet. Hello everyone, and welcome to Hiring People Who Live in the U.S. but Who Aren't U.S. Citizens. It's probably not a surprise that hiring people who are legally in the U.S. but who are not U.S. citizens can require treating them differently for federal income tax purposes.
In this lesson, you'll learn how to verify an employee's identity and status with proper documentation; withhold federal taxes at the proper withholding or treaty rate; deposit or pay the tax withheld properly; and file accurately and timely- withholding tax returns.
Before we get started, though, we'd like to refer you to IRS Publication 519, U.S. Tax Guide for Aliens, as well as IRS Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities. I have both publications, and I'm ready to get started.
Determining a worker's tax status
Whenever you hire someone, the first step is to determine that worker's tax status. For this lesson, we're assuming you are hiring individuals. There are three possibilities as to their status: 1) U.S. citizen; 2) U.S. resident alien; or 3) nonresident alien.
Tax identification numbers
Now, we're going to talk about tax identification numbers.
I've heard about ITINs. What are they?
A U.S. citizen's tax identification number is that person's Social Security number, or SSN. Instead of having a Social Security number, however, a foreign individual may have an Individual Taxpayer Identification Number, or ITIN. ITINs look a lot like Social Security numbers: They are 9 digit numbers that always begin with the number 9 and have a range of 70-88, 90-92, and 94-99 in the fourth and fifth digit. The IRS issues ITINs to individuals who are required to have a U.S. taxpayer identification number but who do not have, and are not eligible to obtain, a Social Security Number from the Social Security Administration. ITINs are issued regardless of immigration status because both resident and nonresident aliens may have a U.S. filing or reporting requirement under the Internal Revenue Code.
Determining if someone is eligible to work in the U.S.
An ITIN, however, is not a work permit.
If the ITIN isn't a work permit, then how do I know if someone is eligible to work in the U.S.?
All employees must complete Form I-9, Employment Eligibility Verification. You can find out if a potential worker is eligible by using the e-Verify system on the US Citizenship and Immigration Services' Website at www.uscis.gov. E-Verify compares information from an employee's Form I-9 to data from the Social Security Administration and the U.S. Department of Homeland Security to confirm employment eligibility.
Remember, it is against federal law to knowingly employ someone who is not authorized to work in the U.S. However, if you do employ illegal aliens, payments you make to them are subject to the same rules as payments you make to aliens who are legal.
What if I decide to hire someone who is not a U.S. citizen- but who is still eligible to work in the United States?
Then, Tuyet, your first step is to find out if they're a resident or non-resident alien.
What's the difference?
A resident alien is someone who has a "green card" or who has passed the Substantial Presence Test.
I've heard about green cards, but what are they, exactly?
What is a green card?
A "green card" is USCIS Form I-551, Permanent Resident Card. It gives the holder the right to reside permanently in the U.S. and to work without restrictions. A green card holder is also known as a lawful permanent resident. Lawful permanent residents who are waiting for their actual green cards may have an I-551 stamp in their foreign passports.
That sounds easy enough to check.
What is the Substantial Presence Test?
But what is the Substantial Presence Test you mentioned earlier?
Someone without a green card can still claim resident alien status if he or she passes the Substantial Presence Test for the calendar year. To meet this test, you must be physically present in the United States on at least 31 days during the current year and 1 hundred 83 days during the 3-year period that includes the current year and the 2 years immediately before that. In other words, the person meets the 183-day test if the sum of the following is at least 183 days: 1) the number of days in the United States for the current year; 2) 1/3 the number of days in the United States for the preceding year; and 3) 1/6 the number of days in the second preceding year.
Do you have an example?
Substantial Presence Test example
Let's say you were physically present in the United States on 120 days in each of the years 2009, 2010, and 2011. To determine if you meet the substantial presence test for 2011, count the full 120 days of presence in 2011, 40 days in 2010 (1/3 of 120), and 20 days in 2009 (1/6 of 120). Since the total for the 3-year period is 180 days, you are not considered a resident under the substantial presence test for 2011.
Days that don't count
Are there days that don't count in this calculation?
There are rules about what kinds of days can and cannot count. For example, you do not count days someone is present in the United States as a "teacher" or "trainee" under a valid J or Q visa. IRS Publication 519, U.S. Tax Guide for Aliens, has a complete list of the exceptions. If you want more information, go to www.irs.gov and type "Substantial Presence Test" in the search box.
You can also call the IRS Business and Specialty Tax toll-free line at 1-800-829-4933. Make sure you have the information on the number of days the person has been in the United States in the current year, the previous year, and the year preceding that.
Resident alien - summary
In summary, then, if your potential employee has a green card, an I-551 stamp, or passes the substantial presence test, there's nothing more to do. You treat them like a U.S. citizen for tax withholding purposes as well as Social Security and Medicare taxes. You also include them when you pay your Federal Unemployment Tax Act, or FUTA, tax. To find more information about these tests, go to www.irs.gov and enter "green card test" or "substantial presence test" in the search box. You can also find more information in IRS Publication 519.
What about nonresident aliens?
A nonresident alien is someone who is not a U.S. citizen or a resident alien. Residents of the U.S. Territories- Puerto Rico, U.S. Virgin Territories, American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands- are nonresident aliens. All nonresident aliens, however, are not treated the same for tax purposes and in this lesson we'll discuss the general rules that apply to nonresident aliens and exceptions that apply to certain nonresident aliens.
What are the general rules?
When you hire a nonresident alien from any other country as an employee, they must give you a Form W 4. And, there are special rules for completing their Form W 4. These employees may not write "exempt" on their Form W 4; they must request single withholding, regardless of their actual marital status; they may generally claim only one personal withholding allowance; and they must write "Nonresident Alien" or "NRA" above the dotted line on line 6 of their Form W 4.
Are there special steps I need to take to calculate how much income tax to withhold?
When nonresident aliens file their tax returns, they may not use the standard deduction, so some adjustments are necessary before you can use the general withholding tables in IRS Publication 15, Employer's Tax Guide. There are two steps required for calculating how much income tax to withhold from the wages of nonresident alien employees.
Can you walk me through the steps?
Of course, Tuyet.
For step one, go to IRS Publication 15, section 9, Withholding from Employees' Wages. It has a table of amounts to add to your nonresident alien employee's wages depending on whether you pay them weekly or at some other frequency. The purpose of this adjustment is to take into account that they may not claim the standard deduction when they file their income tax returns; it is not an addition to wages. Do not include it on the Form W 2 at the end of the year.
And step two?
For step two, use this adjusted amount and the withholding allowances from Form W 4- usually limited to one- to calculate the income tax withholding from the tables used for all employees.
Exceptions to general rules for withholding
You mentioned exceptions to these general rules that apply to certain nonresident aliens. What are the exceptions?
Nonresident aliens from Canada, Mexico, and South Korea and nonresident alien students and business apprentices from India may claim more than one personal withholding allowance when filling out Form W-4. Specifically, nonresident aliens from Canada and Mexico may claim personal withholding allowances for their spouse and dependents who meet certain tests.
Nonresident aliens from South Korea may claim personal withholding allowances for their spouse and children if certain requirements are met. Nonresident alien students and business apprentices who are eligible for benefits under Article 21(1) of the U.S.- India Income Tax Treaty may claim personal withholding allowances for their spouse and dependents. You can find more information in IRS Publication 519.
Withholding exceptions for tax treaties
Are there any other exceptions?
Yes. A nonresident alien may be a resident of a country that has a tax treaty with the United States. That treaty may provide for lower tax rates or even exemption from withholding for these individuals working in the United States Remember, these employees are nonresidents of the United States. If a nonresident alien employee wants to claim a tax treaty exemption from withholding, instead of Form W-4, the employee must give you Form 8233, Exemption from Withholding on Compensation for Independent (and Certain Dependent) Personal Services of a Nonresident Alien Individual. Refer to IRS Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities, for more information.
Nonresident alien - summary
In summary . . . remember that nonresident alien employees who receive wages from you must follow special rules when completing Form W 4; unlike other nonresident aliens, nonresident aliens from Canada, Mexico, and South Korea and nonresident students or business apprentices from India may claim more than one personal withholding allowance on Form W 4; if a nonresident alien claims tax treaty benefits, he or she must use Form 8233 instead of Form W 4; and you must make an adjustment to your nonresident alien employees' wages before using the withholding tables in IRS Publication 15, Section 9.
Now, let's move on to Social Security, Medicare, and FUTA, taxes. Just like resident aliens, nonresident aliens are generally subject to Social Security taxes, Medicare taxes, and FUTA tax- but there are exceptions. We've already covered the filing of a Form 8233 if an employee wants to claim tax treaty benefits. Remember, though, that wages not exempt by a tax treaty are usually subject to Social Security and Medicare taxes.
There is, however, one more way for a nonresident alien employee to be exempt from Social Security and Medicare taxes. It is called a Totalization Agreement. These agreements are like tax treaties but are between the Social Security Administration and various foreign countries. They address the situation where dual Social Security taxation might occur; that is, when a nonresident employee works within the United States and must also pay these same kinds of taxes to their country of residence on the same wages. The nonresident worker who claims an exemption under a Totalization agreement needs to give you a certificate of coverage from their resident country that collects its own social security-type taxes.
You must keep a copy of the certificate for your records in case the IRS questions why you didn't withhold Social Security taxes.
Nonresident alien independent contractors
Now that we've covered employees, let's move on to Independent Personal Services.
Independent Personal Services? What does that mean?
Independent personal services
Independent personal services is a tax treaty term, and it refers to work performed by a nonresident alien independent contractor. This category of pay includes payments for professional services, such as fees of an attorney, physician, or accountant made directly to the person performing the services.
Withholding taxes on payments
The difference here is that you might have to withhold taxes on payments to them even though they are not your employees. This makes nonresident alien independent contractors very different from independent contractors who are U.S. citizens or resident aliens.
How does this work?
General rules for withholding for contractors
What are the rules? First, the general rule is that you must withhold 30 percent of each payment you make to nonresident alien independent contractors unless they show proof they have entered into a withholding agreement with the IRS; they must provide you with two copies of a letter from the IRS that states the amount of the final payment (up to 5 thousand dollars) is exempt from withholding; or they must give you a Form 8233 to claim a tax treaty exemption from all or part of the required withholding.
Personal withholding exemptions
Second, those who are subject to the 30 percent rate also use Form 8233 to claim their withholding exemptions. You may reduce the amount of pay subject to 30 percent withholding by the personal exemption amount for the year. Generally, nonresident alien independent contractors may only claim one personal exemption allowance. There are exceptions to this rule for certain nonresident aliens. Nonresident aliens from Canada, Mexico, South Korea, and nonresident alien students and business apprentices from India may claim more than one personal withholding exemption.
Third, you must pro-rate each allowable exemption according to the number of days during the tax year. On their Form 8233, the non-resident alien enters the number of personal exemptions claimed and the number of days they will perform services in the United States during that tax year. Your next step is to divide the personal exemption amount for the year by 365- 366 if it's a leap year- and multiply that by the number of personal exemptions claimed.
If you (employer) are a nonresident alien, too
What if I'm a nonresident alien, too? What do I do then?
There are special rules if you yourself are a nonresident alien. If you are a nonresident alien, please call the IRS Business and Specialty Tax Line at 1-800-829-4933 or ask your tax professional.
Nonresident alien independent contractors- review
Let's review how nonresident alien independent contractors are different from independent contractors who are U.S. citizens or residents. Generally, you must withhold 30 percent of the money you pay them for their personal services; and nonresident alien independent contractors use Form 8233- and not a Form W 4- to claim their tax treaty benefits and withholding exemptions. Once you've completed calculating withholding, then it's time to deposit or pay the tax withheld.
Wait-- one more question.
Nonresident alien - employee or independent contractor?
Do I determine if a nonresident alien is an employee or an independent contractor the same way I do a U.S. citizens who works for me?
Tuyet, you classify nonresident aliens as either an independent contractor or an employee using the same rules as you use for U.S. citizens who work for you. For more information, review the lesson What You Need to Know about Federal Taxes When Hiring Employees or Independent Contractors or IRS Publication 15, Employer's Tax Guide.
Making tax deposits - rules are the same
When it comes to making tax deposits or paying the tax withheld for nonresident aliens, the rules are the same as they are for taxes withheld for U.S. citizens or resident aliens. For more information on depositing and paying business taxes see the lesson How to Make Tax Deposits and File a Return to Report Your Payroll Taxes. You can also go to www.irs.gov/smallbiz and click on "Filing/Paying Taxes" in the left navigation bar. Remember, IRS Publication 15 can also provide you with more information.
Filing employment tax returns - some rules are different
What about filing my employment tax returns?
When it comes to filing employment tax returns... for your resident alien employees and for the nonresident alien employees who did not use Form 8233 to claim tax treaty benefits, give them a Form W 2, Wage and Tax Statement, and include them on your Form 941, Employer's Quarterly Federal Tax Return, and any other employment tax returns.
For nonresident alien employees who claimed tax treaty benefits or nonresident alien independent contractors who gave you a Form 8233 to claim a right to reduced withholding, there are some different things to do.
What to do with Form 8233
What do I need to do with Form 8233?
You'll need to review it and, if it's correct, certify in Part IV, Withholding Agent Acceptance and Certification. As you are responsible for withholding, you are considered the withholding agent. Then, mail one copy to the IRS within five days after you receive it; give one copy to the nonresident alien, and keep one copy for your records.
How do I know where to mail the form to?
See Form 8233 instructions for the mailing address. And wait at least 10 days to see if the IRS has any objections. If the IRS notifies you that it objects to the nonresident alien's claim for exemption from withholding, you must immediately begin withholding. Obtain a new Form 8233 every year, as long as you pay this person to work for you.
Additional filing requirements for Form 8233 filers
What are my other employment tax return filing requirements for Form 8233 filers?
For your Form 8233 filers, you will have new employment tax return filing requirements with the IRS. They are Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons; Form 1042-S, Foreign Person's U.S. Source Income Subject to Withholding; and Form 1042-T, Annual Summary and Transmittal of Forms 1042-S.
And remember, this is for your nonresident alien employees who claimed tax treaty benefits as well as for any nonresident alien independent contractors you paid. By March 15 of the year following the calendar year during which the nonresident alien performed the services, you must file Forms 1042 and 1042-S with the IRS.
Let's start with Form 1042-S. File a separate Form 1042-S for each person and each type of income you paid that person whether you actually withheld the money or not. If you live in a state or other locality that taxes this income and that might even require withholding, you will need to file a Form W 2 with those taxing authorities for the income and any withholding. Those taxing authorities do not take Form 1042-S. Give a copy of the Form 1042-S and any Form W 2 you filed for each nonresident alien employee who claimed tax treaty benefits and to each nonresident alien who provided independent personal services whether you withheld taxes or not. If you file your Forms 1042-S on paper, you must also include a Form 1042-T, that's the transmittal form, with the copies you send to the IRS. Finally, if you must file Form 1042-S for even one person, then you must also file an annual return on Form 1042. You do not need to give a copy of this form to the individuals who worked for you but you do need to keep a copy for your records.
This lesson has had a lot of useful information. Can I have a review?
Of course, Tuyet.
Hiring people who are not U.S. citizens usually requires some additional procedures. The penalties for not meeting your withholding requirements can be quite substantial- just as they can be for not withholding or reporting properly when you pay U.S. citizens.
Here are the important points to remember: 1) Treat employees and independent contractors who are resident aliens exactly the same way as you treat U.S. citizens.
2) For nonresident alien employees who are not claiming tax treaty benefits, use Form W 4 on which they may claim only one withholding exemption and figure their withholding using the graduated withholding rates. Recall, however, that nonresident aliens from Canada, Mexico, and South Korea and nonresident alien students and business apprentices from India may claim more than one withholding exemption. Remember, you may also need to make an adjustment to their income before going into the withholding tables- that's to account for the fact that they are not allowed to claim the standard deduction; include them on the Form 941, Employer's Quarterly Federal Tax Return, that you file with the IRS; and give the IRS and any localities taxing them a Form W 2 for the withholding and payments.
3) For nonresident alien employees who are claiming tax treaty benefits, use Form 8233 instead of Form W 4 and withhold according to the treaty; include them on the Form 1042 you file with the IRS; give them and the IRS a Form 1042-S; and give them and any localities taxing them a Form W 2.
4) For nonresident alien independent contractors who are not claiming tax treaty benefits, use Form 8233 instead of Form W 4 and withhold 30 percent; include them on the Form 1042 you file with the IRS; give them and the IRS a Form 1042-S; and give them and any localities taxing them a Form W 2.
5) For nonresident alien independent contractors who are claiming tax treaty benefits, use Form 8233 instead of Form W 4 and withhold according to the tax treaty; include them on the Form 1042 you file with the IRS; give them and the IRS a Form 1042-S; and give them and any localities taxing them a Form W 2.
And that's all the information we have for you on hiring resident and non-resident aliens as employees or independent contractors. If you would like more information, please see IRS Publications 15, 515, and 519 as well as www.irs.gov. Information is also available at the U.S. Citizenship and Immigration Services' Website at www.uscis.gov. Thank you for joining us for this lesson. Best wishes on your business.