In general, foreign persons are generally subject to a federal withholding tax of 30% on income sourced from the United States. This withholding generally applies to U.S.-source fixed, determinable, annual, or periodical (FDAP) income, such as interest, dividends, rents, royalties, and certain other passive income.
However, if a tax treaty exists between the foreign person’s country of residence and the United States, a reduced rate or an exemption may apply.
Withholding tax provisions in U.S. tax treaties may establish reduced rates for cross-border payments, often lowering standard withholding rates from statutory levels to more favourable percentages. Tax treaties typically modify standard withholding tax requirements in several important ways. Most tax treaties the US has signed with other countries may have lower withholding tax rates. These rates may be reduced in the following ways:
Dividends paid by a U.S. company to foreign shareholders are generally subject to a 30% withholding tax in the U.S. However, this withholding tax may be reduced under a tax treaty if the beneficial owner of the dividends is a resident of a country that has a tax treaty with the United States.
For example, under the U.S.-India tax treaty, the withholding tax rate on dividends is reduced to 25%. Therefore, if an individual receiving dividends is a tax resident of India and the dividends are paid by a U.S. company, the dividend income will be taxed at the reduced rate of 25%.
U.S.-sourced interest income earned by a foreign person is generally subject to a 30% withholding tax in the United States. However, this withholding tax rate may be lowered under a tax treaty if the beneficial owner of the interest income is a resident of a country that has a tax treaty with the U.S.
For example, under the U.S.-Canada tax treaty, the reduced withholding tax rate on interest is 15%. Therefore, if an individual receiving the interest is a resident of Canada and the interest income is sourced from the U.S., the interest income will be taxed at the reduced rate of 15%.
U.S.-sourced royalty income earned by a foreign person is generally subject to a 30% withholding tax in the United States. However, this withholding tax rate can be reduced under a tax treaty if the beneficial owner of the income is a resident of a country that has a tax treaty with the U.S.
For example, under the U.S.-Canada tax treaty, the withholding tax rate on royalties is reduced to 10%. This means that if an individual receiving royalty income is a resident of Canada and the income comes from the U.S., it will be taxed at the reduced rate of 10%.