Nonresident Alien Reporting
Update policies and procedures to comply with this new rule.
The U.S. has had a longstanding policy of not taxing deposit interest of nonresident aliens to encourage foreign investment in U.S. financial institutions.
And except for nonresident aliens from Canada, you weren’t required to report this deposit interest to the IRS. The Foreign Account Tax Compliance Act (FATCA) of 2010 changed all that.
The U.S. government wants to identify potential U.S. taxpayers who evade tax by hiding income and assets offshore. FATCA requires overseas financial institutions to identify U.S. accounts and report them the IRS.
To expect such cooperation from foreign governments, the IRS and the Treasury believe they’ll need to have similar information available to trade with those foreign governments that also are interested in detecting offshore tax evasion by their residents.
So the IRS issued a regulation last spring requiring financial institutions to report interest payments made to nonresident aliens.
This rule goes into effect Jan. 1, 2013 (with reporting to the IRS by March 15, 2014).
Under the rule, deposit interest still won’t be taxed, but credit unions must report any interest aggregating $10 or more paid to certain nonresident aliens on IRS Form 1042-S (Foreign Person’s U.S. Source Income Subject to Withholding).
Previously, credit unions were only required to file Form 1042-S for Canadian residents. The new rule extends this requirement to all nonresident aliens from countries that have an exchange agreement with the U.S. Currently 78 jurisdictions have this type of information exchange agreement. (The list of these jurisdictions is available in the IRS Revenue Procedure 2012-24.)
Credit unions also must provide a copy of the completed form to the nonresident alien member and must inform the member that the credit union has filed the form with the IRS.
NEXT: Opposition to the rule
Opposition to the rule
Opponents to the rule have several concerns, including:
► Confidentiality issues. The efforts behind FATCA and its implementing regulations have been debated in Washington D.C. for the past decade. (The IRS initially proposed this regulation at the end of the Clinton administration in 2001, and then again in 2002 under the Bush administration.)
Opponents are concerned financial institutions could exchange the information with countries without confidentiality laws or countries that would use the information for purposes other than to enforce tax laws. Opponents argue these concerns will lead to withdrawal of deposits from U.S. depository institutions, particularly from those that serve a high number of foreign investors.
In the rule, the IRS notes several safeguards it has taken to ensure any information shared with foreign governments won’t be used improperly.
For example, the U.S. government says it won’t enter into any exchange agreement unless the Treasury and IRS are satisfied the foreign government has strict confidentiality protections. And even when an agreement exists, the IRS won’t be required to share information if there are concerns regarding the use of the information or if any other factors make the exchange inappropriate.
► Regulatory burden. Opponents also are concerned the rule will impose new administrative burdens on U.S. financial institutions, particularly those in states with a larger percentage of nonresident aliens.
The Treasury Department and the IRS disagree, saying the impact will be insignificant. They argue that under existing laws all U.S. financial institutions already have the responsibility to report on depositors who are U.S. citizens, U.S. resident aliens, and Canadian nonresident aliens, so the reporting systems and procedures are in place.
And all nonresident alien accountholders already must complete a Form W-8BEN (Certificate of Foreign Status of Beneficial Owner for U.S. Tax Withholding), declaring their non-U.S. status and their foreign country of residence.
Because financial institutions can use their existing W-8BEN information to fill out Form 1042-S, the IRS argues the information collection requirements in the rule build on existing collection systems financial institutions use, so the time spent complying with the requirement is minimal.
The IRS also notes financial institutions can choose to report interest payments on all of the nonresident alien depositors, so they don’t have to determine whether a depositor is from one of the countries listed in the IRS Revenue Procedure.
This means even residents from nonsharing countries can become subject to the new reporting requirements.
NEXT: Form 1042-S
As withholding agents, credit unions are required to withhold a percentage of the amount paid to members unless they can “reliably associate” the interest payment with either:
► Form W-9 for a U.S. citizen or resident alien; or
► Form W-8BEN for members whose permanent residence is outside of the U.S. and who aren’t U.S. citizens (nonresident aliens).
The form might be considered unreliable if, for example, it’s missing relevant information, the information is inconsistent with what your member has told you, or a reasonably prudent person would question it.
If you can’t reliably associate the interest payment with one of these IRS forms, then you should presume the interest payment is made to a U.S. citizen and backup withhold.
If you receive a Form W-8BEN from your member, and you have no reason to believe any of the information on the form is unreliable or incorrect, you’re exempt from reporting on Form 1099-INT. But after Jan. 1, 2013, you must file Form 1042-S if the nonresident alien member is from a country that has an information exchange agreement with the U.S.
You don’t send Forms W-8BEN to the IRS, but you must keep these forms in the credit union’s records for as long as they’re relevant to your tax-reporting responsibilities.
Generally, a Form W-8BEN provided without a U.S. taxpayer identification number (TIN) will remain in effect from the date the form is signed until the last day of the third succeeding calendar year, unless a change in circumstances makes anything on the form incorrect.
According to the form’s instructions, Form W-8BEN with a U.S. TIN “will remain in effect until a change of circumstances makes any of the information on the form incorrect, provided the withholding agent reports on Form 1042-S at least one payment annually to the beneficial owner.”
Currently, you’re allowed to rely on a W-8BEN that contains a P.O. box as a permanent residence provided you don’t know, or have reason to know, the person providing the form is a U.S. citizen and a street address is available. The IRS doesn’t like this allowance, so keep an eye out for changes.
When obtaining identifying information from your nonresident alien members, remember the Customer Identification Program (CIP) under the Bank Secrecy Act requires you obtain one of the following for non-U.S. citizens: an individual TIN; a passport number and the country of issuance; an alien identification card number; or a number and country of issuance on any other foreign government-issued document that shows nationality or residence with a photograph or similar safeguard.
Although you won’t actually be filing these new 1042-S forms until 2014, now’s the time to put policies and procedures in place so you can collect the nonresident alien interest payment information in January.
COLLEEN KELLY is CUNA’s federal compliance counsel.