Tax Law Changes Nonresident Withholding Calculations


Everyone entering the U.S. could be subject to taxes from “day one” because the current tax code no longer allows personal exemptions or wage thresholds to apply to their earnings, an accounting firm tax manager said.

The personal exemption previously available for some nonresident workers to decrease taxable income was eliminated in 2018 for all individuals, under the Tax Cuts and Jobs Act (Pub. L. No, 115-97) that was signed into law in December 2017, Nita Patel, tax managing director at KPMG LLP, said May 15. This means “if they earn a dollar, it is taxable going forward,” she said.

Even brief travel to the United States for project meetings or trading should generally be calculated as work days for withholding purposes, Patel said at the American Payroll Association's 2018 Congress in National Harbor, Md.

Remaining exceptions to withholding include foreign sourced income under a certain threshold, income specifically excluded in the tax code, and income specifically excluded in tax treaties. 

The Golden Rule for Source of Income

The golden rule for determining the source of income is where an employee works in the world and performs services is the place of tax residency.

Foreign workers in the U.S. may be classified as either resident aliens or nonresident aliens for taxation purposes.
Resident aliens working in the U.S. are treated as tax residents if they are considered a lawful permanent resident with a green card, make a first-year election, or meet the substantial presence test. 

An employee present in the U.S. for at least 31 consecutive days in the current year and greater than or equal to 183 days over a three year period would be considered a tax resident under the substantial presence test, making their worldwide income potentially subject to U.S. federal taxes. This calculation considers 100 percent of days in current year, a third of days in the immediately prior year, and a sixth of days in second prior year, the payroll managers said. 

Even the day an employee lands at the airport is considered a full day of work for tax residence purposes, said Johnie Townsend, KPMG LLP global mobility service manager and former IRS examiner, who also spoke to the group. 

Nonresident aliens who do not have substantial presence in the U.S. generally only are taxed on certain income from U.S. sources.

There are, however, exceptions to the rule as other factors complicate withholding processes.

U.S. sourced compensation paid by a foreign employer may not be subject to withholding if the compensation is exempt from U.S. federal income tax through application of an applicable tax treaty. “Each country is different so some countries will look at 183 days in a calendar year, others will look at a rolling 12-month period,” Townsend said.

This is where it is difficult from a payroll perspective since employers may not know from the offset whether they may claim a treaty exception. Collaboration between departments to share information about what is stated in the assignment letter and what kind of visa workers are traveling on is important in this determination, Townsend said.
The date of a worker’s arrival and departure from the host country may complicate withholding calculations of nonresident aliens. 

Something as seemingly trivial as trip to the host country for house-hunting could trigger an early start to residency, even if the assignment letter sets a later start date. Returning to the host country after an assignment has concluded even for a brief trip could also extend the duration of residence to the last date of presence if there is no treaty exemption.

Don’t Forget the States

To be in full compliance, payroll professional handling nonresident alien withholding for foreign workers in the U.S. must consider state tax issues as well.

Because international tax treaties are generally not followed by states, employees who may be exempt from federal withholding could still be subject to state taxes. A stipend or payment which does not meet the threshold for U.S. federal income tax reporting may also still meet thresholds at the state level, Townsend said.

“There are lots of different sources of data you have to be on the watch for,” Patel cautioned payroll professionals.

By Anna Massoglia