Form
W-8BEN. That is what you give the financial institution. It is pretty
easy unless you want to reduce your U.S. income tax from the default 30%
to a lower number (like zero).
Why Withholding, Why Form W-8BEN
Once you expatriate, you are a nonresident alien from the perspective of the U.S. tax system.
As
a general principle the system wants to collect tax on money before it
flows from the United States to someone outside the United States. The
(logical) fear is that you, as a nonresident, may (heh) not choose to pay U.S. income tax if the IRS cannot reach out and touch you.
The
financial institution is in control of the money before it flows out of
the United States. The government puts the burden on the financial
institution to collect the tax. If the financial institution screws up,
it must pay the tax.
The
IRS has a small Bible of regulations that tell a “withholding agent” (a
U.S. person or institution who has a nonresident's money and the power
to pay it to the nonresident) what to do. The regulations also have a
number of rules that tell the withholding agent “if you do THIS, you are
safe.” Safe harbors – that's what these rules are called in tax jargon.
One
of those safe harbors is “If you get Form W-8BEN from someone and you
have no reason to think they are lying, you can rely on it and not get
penalized as a withholding agent if it turns out you screwed up.”
Every bank, pension plan administrator, and sane withholding agent therefore demands Form W-8BEN.
The Easy Part of Form W-8BEN
The
easy part of Form W-8BEN is Part I. This is all about you. The only
hard part of Part I are the questions (Line 5 and 6) about tax
identification numbers.
Line
5 asks you for your U.S. tax identification number. Since you have a
Social Security Number, enter it here. There is no ambiguity about this.
Line
6 asks you for your foreign tax identification number. Unfortunately,
in the Brave New World of FATCA the reality is that soon you will have
multiple sets of tender, loving bureaucrats who know everything about
you. If you have a number, you are required to enter it here.
Lines
5 and 6 are not really difficult to do. The long term implications are
just hard to accept: 100% of your life is transparent to two
governments, who can do with you what they will. Brave New World, etc.
Why Form W-8BEN Matters To You
In
order to show you why Form W-8BEN is important to you (and to persuade
you to do the necessary work in filling out Part II), here is a quick
summary of the tax results you can expect as a nonresident alien.
Interest Taxed at Zero
The
default rule is that bank interest is taxed at zero in the United
States. Giving Form W-8BEN to a bank will ensure that all interest
earned on your U.S. bank account is tax-free. (Note that in Part I you
told the USA where you live and what your foreign tax identification
number is – now Uncle Sam can tell your home government all about the
money you have in the United States).
You do not need to fill in Part II to achieve this result.
Capital Gain Is Not Taxed
Capital
gain (short term and long term) is not taxable (for non-real estate
investments, anyway). You want the financial institution to have Form
W-8BEN in hand so they report the capital gains correctly, and do not
impose backup withholding tax on the gross proceeds of your stock sales.
You do not need to fill in Part II to achieve this result
Default 30% Tax
The
main reason why you want to use Part II of Form W-8BEN is to reduce
your U.S. income tax bill. The general rule is that dividends, pension
payments, IRA distributions, and other types of U.S. income will be
taxed at a flat 30%.
Part
II of Form W-8BEN is where you give the financial institution the
information they need – then they know they are in a safe harbor and can
withhold zero (or at least an amount less than 30%) of tax on payments
to you.
Part II
Part
II is where you have to do some actual work. The result (if you do the
work correctly) is that you can reduce U.S. taxation from a flat 30% to a
lower number, possibly zero. This is done by using an income tax
treaty.
Is There a Treaty?
The first thing to do is check to see whether you live in a country that has an income tax treaty
with the United States. If there is no income tax treaty, then you
cannot use Part II to reduce the U.S. income tax imposed on income you
receive from U.S. sources.
Part II, Line 9
After
you find your country, and the treaty, you will need to complete Part
II properly. For this example, I am going to pretend that you have a
normal investment account at Charles Schwab, and in that account you
have stocks and bonds. You want to use the income tax treaty between the
United States and your home country to achieve that result.
Let's use a resident of Germany as an example. The particular item of income we are working with is dividend income.
Line 9 is easy. Enter “Germany” in the blank, assuming of course that it is true that you are a German resident.
Part II, Line 10 - Find the Treaty Article
Line
10 requires you to do a bit of research to find the relevant portion of
the income tax treaty between the United States and Germany that
discusses taxation of dividends.
Find the income tax treaty page for Germany on the IRS website. You will see there is an income tax treaty from 1989.
Treaties are updated by “Protocols”. Germany and the United States updated the income tax treaty in 2006 with a Protocol
(warning: PDF). You will want to look there for your answer. On page 4
of that official PDF you will see “ARTICLE IV” of the Protocol deleted
the old Article 10 of the treaty and replaced it with an entirely new
Article 10. This deals with the taxation of dividends and is the current
agreement between the two countries about how dividends are taxed.
-
Article 10(1) says that dividends can be taxed by the recipient's home country. You live in Germany. You knew that. You know your Apple dividends will be taxed in Germany.
-
Article 10(2) says that dividends can also be taxed in the paying corporation's home country. This means that the United States can tax the dividends paid by Apple as they are being paid out to a resident of Germany.
-
Article 10(2)(b) limits the amount of tax that the IRS can take to 15%. This is better than the default 30%, at least.
For
the purpose of Part II, Line 10, we have now identified Article
10(2)(b) as the relevant treaty clause that reduces your U.S. income
taxation on dividend income from U.S. corporations. I assume that the
other situations (requiring 10% or 80% stock ownership) do not apply to
this situation. You are unlikely to own 10% or 80% of a corporation
through an account at Charles Schwab.
Part II, Line 10 - Filling In the Blanks
Filling in the blanks on Form W-8BEN, Part II, Line 10:
-
Put “10(2)(b)” in Line 10, at the far right blank.
-
On the second line, it asks you for the correct tax rate. Put 15% in there.
-
At the end of the second line, it asks you to identify the type of income. Write “dividends” in there.
-
Finally, the IRS wants an essay answer for why you meet the terms of the treaty article. This is silly, redundant, and of no nutritional value to the IRS at all. So we cheerfully do it! Write in here “I am a resident of Germany receiving dividends from U.S. corporations.”
Practical Realities
Aside from signing the form and giving it to Schwab, you have dealt with the tax stuff.The bigger practical question (and this is still an evolving unknown) is whether any U.S. financial institution will want to continue doing business with you after you cease to be a U.S. citizen or green card holder. The trend is not encouraging. More and more U.S. financial institutions are declining to do business with nonresident aliens – and that includes you, someone who expatriated.It's not that they don't love you. Of course Merrill Lynch loves you, in its own special way. They want you gone because you are expensive and risky. You carry tax risks along with you (what if their systems fail and they screw up withholding)? You carry “know your customer” risks. (Yes, I know that you had an account with us for the last 20 years, but can you really document the source of funds as being from your job as a school teacher? Are you really sure that you didn't make that money selling trafficking AK-47s in North Africa during your summer breaks?)And mostly you carry securities law risks. If Merrill Lynch allows you – a citizen and resident of Germany – to buy and sell stock, there is a risk that German securities regulations might catch them unawares, and Merrill Lynch would find themselves facing stiff fines in Germany for those violations.As a result, it is much easier and cheaper to kick you out of the system.Banking (cash money in a bank) appears to be no problem with U.S. banks. I have seen many banks open accounts for nonresidents.
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