Part I of this blog post explained how Form W-8BEN is used for so-called Chapter 3 income tax withholding purposes covering topics such as the types of income subject to US-source withholding when paid to a foreign (non-US) person; exemptions, length of time for validity of the Form. It also provided an overview of how both the Form and its uses have changed since enactment of the “Foreign Account Tax Compliance Act” (FATCA). The new and revised Form W-8BEN as well as other new forms in the W-8 series (e.g., Form W-8BEN-E), are designed to address the person’s status for both withholding purposes (Chapter 3 of the Code) and FATCA purposes (Chapter 4 of the Code).
Part II of this post will discuss use of the Form W-8BEN and Form W-8BEN-E for Chapter 4, FATCA purposes. It will also explain the uses for related W-8 Forms (Forms W-8ECI, W-8IMY, and W-8EXP).
Why Am I Being Asked to Fill Out the Form?
It is no surprise that more and more foreign (non-US) financial institutions are becoming “FATCA-compliant”. I have been receiving questions from non-US individuals or entities overseas about why their local banks or brokerage firms are asking them to complete Form W-8BEN or Form W-8BEN-E when these foreign persons have no US connections whatsoever, are customers of a non-US financial institution and are not receiving any type of “US source” income.
In addition, operating companies in the US are also asking for one of these forms before making any kind of payment to the foreign person (e.g., payment for services rendered by the foreigner). This should not be a cause for alarm to the foreign person, but I find that many foreign individuals and businesses are afraid to fill out the form and do not understand why it is requested by the US payor. Hopefully, Part I and this current blog post, Part II, will help allay some of those concerns.
Simply put, the US payor is trying to protect itself from the IRS. It needs documentation in its files to evidence that it has made the correct decisions about whether income tax withholding or certain FATCA information reporting was required. The Form W-8BEN or Form W-8BEN-E provides that information and serves as the documentation the payor can rely on if it is asked questions by the IRS.
FATCA – Form W-8BEN-E is Born!
For the first time in 2014, the Form W-8BEN was split into two forms: W-8BEN and new Form W-8BEN-E. The revised Form W-8BEN is now used exclusively by foreign individuals. Form W-8BEN-E is used by entities to document their foreign status, so-called Chapter 4 status, and/or for making a claim of treaty benefits (if applicable).
Let’s learn more about “Chapter 4”. As most will already know, “FATCA” was enacted by the US Congress in 2010. FATCA added an entire new chapter to the US Internal Revenue Code – so-called “Chapter 4 of Subtitle A” consisting of Sections 1471 through 1474. Under Chapter 4, participating foreign financial institutions (FFIs) and certain registered-deemed compliant FFIs are generally required to search their data bases and to identify their US account holders, regardless of whether a payment subject to US withholding is made to the account. The IRS has published pages and pages of regulations that provide due diligence, withholding, and reporting rules for both US withholding agents and FFIs under Chapter 4. Thus, FFIs must carefully search through their data bases to find US account holders and when taking on new clients, they must have procedures in place to carefully separate out non-US from US persons.
Form W-8BEN and Chapter 4 Status
Most non-US financial institutions are using the Form W-8BEN to identify and document their non-US individual account holders. US account holders must fill out Form W-9 certifying that they are US persons and thus indicating their US status to the institution. Generally, once the institution obtains a Form W-8BEN from its customer (along with meeting other due diligence requirements) the institution knows it does not have to report information about that particular customer’s account pursuant to FATCA. Information about accounts of US persons held at a foreign institution must be turned over to the IRS (whether directly, when the institution is a participating FFI or indirectly, through its own local government agency that has signed a so-called “intergovernmental agreement”, or IGA, with the US under which the foreign government agrees to forward the information on to the IRS). Generally, FFIs must report account numbers, balances, names, addresses, and US taxpayer identification numbers. When the account holder is a foreign entity, the institution must report the name, address, and US taxpayer identification number of each “substantial” US owner of the entity (an owner with at least 10%).
Form W-8BEN-E and Chapter 4 Status
Looking at the name of the form often provides help in understanding what the form is used for. Form W-8BEN-E is titled “Certificate of Status of Beneficial Owner for United States Tax Withholding and Reporting (Entities)”
The title alone tells us this form is to be used ONLY by entities. The “E” at the end stands for “Entity”. The Form W-8BEN-E is a certificate prepared by the beneficial owner of the payment received from the US payor. A “beneficial owner” is the foreign legal entity that is the beneficial owner of the payments received from the US payor. The Form W-8BEN-E is not sent to the IRS. Rather, it is retained by the US payor or withholding agent. If questioned by the IRS, the Form serves to support the US payor’s withholding or reporting decisions such as whether withholding was required and the appropriate withholding tax rate.
Sometimes it is confusing as to who is the beneficial owner of the payment. This is generally the foreign legal entity that is the beneficial owner of the payments received from the US payor. It is important to remember, however, that an entity may be viewed differently for US tax purposes than for other legal purposes. The form must be completed for the entity pursuant to the US tax rules, rather than in accordance with the legal rules. See for example the discussion of the “disregarded entity” in this context and how it confuses the matter.
Form W-8BEN-E: A Closer Look
Form W-8BEN-E contains 30 parts. It is an intimidating looking form but while there are many parts to the Form, it is often the case that only a few of them will need to be completed for a particular foreign entity. Critically, all foreign beneficial owners must complete Part I (Identification of Beneficial Owner) and Part XXIX (Certification).
Part I requires information related to:
Entity name and country of incorporation or organization
Chapter 3 status – This section must be completed to identify the tax status of an entity claiming treaty benefits. Entities requesting treaty benefits must also complete Part III (Claim of Tax Treaty Benefits) 3
Chapter 4 status – This section is a bit frightening to the uninitiated (and at certain times, even the initiated)! It must be completed to identify the so-called Chapter 4 “FATCA status” of the entity. The Form lists 31 classifications. Each foreign entity will fit one – and only one – classification. Some common key terms that those completing the Form will face include:
- FFI – Foreign Financial Institution – if an entity is an FFI, the entity is subject to complex additional requirements under FATCA that are beyond the scope of this blog post. Typically an FFI is engaged in the banking or investment lines of business.
- NFFE – Non-Financial Foreign Entity – NFFE’s are all non-US entities that are not treated as a “Financial Institutions”. NFFEs include foreign entities that are not engaged in the banking and investment business areas. Typically, if an entity is not an FFI, it is an NFFE. They must then be further categorized as an “Active NFFE” or a “Passive NFFE”.
Determining the correct type of NFFE is an important element of completing the Form.
- A Passive NFFE is a foreign entity that first of all is not an active NFFE (see below), and either does not have substantial US owners or, if it has substantial US owners, has provided the names of those owners and does not meet any of the other NFFE categories.
- An Active NFFE is a foreign entity that is not a financial institution whose gross income is derived more than 50 percent from non-passive sources and more than 50 percent of its assets are held for the production of non-passive income. Passive income is defined and generally includes such items as dividends, interest, rents, royalties, annuities, amounts received from insurance contracts based on the performance of the pool and other items. Active NFFE is often the correct and most common category choice for the typical nonfinancial foreign operating company (for example, a trading or manufacturing company).
- A publically traded NFFE is an NFFE that is traded on one or more established securities markets.
The linchpin to completing the Form is being able to correctly identify the Chapter 4 status of the entity. Only once this status is determined can one complete the designated additional part(s).
Consequences of Failing to Fill Out the Form W-8BEN or W-8BEN-E
In a nutshell, failing to fill out the appropriate form for your financial institution can result in negative consequences. If you are a foreign person, you use one of the W-8BEN forms. If you are a US person, you use Form W-9.
Don’t ignore your financial institution’s request to fill out the required paperwork. Individual account holders (both US and foreign) that do not document their status may be denied opening an account with the institution. The IRS has announced that foreign financial institutions following the mandates of an IGA applying the due diligence procedures in section III, paragraph B, of Annex I of the IGA simply cannot open an account without the required certification of status. See IRS FAQ #10.
In addition, existing account holders who refuse to fill out the required paperwork may be deemed “recalcitrant”. Generally, a “recalcitrant” account holder is an account holder who fails to (i) comply with reasonable requests for information pursuant to the IRS mandated verification and due diligence procedures to identify US accounts (i.e., fails to provide the relevant Form W-8BEN or W-9, as appropriate); (ii) provide a name, address and taxpayer identification number or (3) provide a bank secrecy waiver upon request. “Recalcitrant” account holders may be subject to 30% withholding on certain payments and possible closure of the account. Foreign individuals can avoid being classified as recalcitrant account holders by using Form W-8BEN to document their foreign status. Remember, US individuals should not use Form W-8BEN, they are to use Form W-9 to avoid classification as a recalcitrant account holder.
Other Family W-8 Members
The related family members, Forms W-8ECI, W-8IMY, and W-8EXP apply to establish foreign status (and if relevant, exemptions etc.) for Chapter 3 and Chapter 4 purposes ONLY in specific circumstances. Form W-8ECI is used by foreign businesses that have so-called “effectively connected income” from a US trade or business on which Chapter 3 withholding is not required; Form W-8IMY is for a foreign “intermediary” or “flow through” entity such as a foreign partnership or foreign trust; and Form W-8EXP applies for a foreign government or foreign tax-exempt organization that may claim exemption from withholding or a reduced withholding rate.
The IRS gives useful information about all of these Forms here (“Instructions for the Requester of Forms W–8BEN, W–8BEN–E, W–8ECI, W–8EXP, and W–8IMY”).
If you need help with your W-8BEN family of forms, let me know!
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