Caution: This page (and its links) has not been updated to include all Chapter 4 (FATCA) withholding matters. For Chapter 3 and Chapter 4 withholding obligations, please refer to Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities.
Generally, when a foreign person engages in trade or business in the United States, all income from sources within the United States (other than certain investment income) connected with the conduct of that trade or business is considered to be Effectively Connected Income (ECI). This applies whether or not there is any connection between the income, and the trade or business being carried on in the United States, during the tax year. For more details about Effectively Connected Income (ECI), see Publication 519, U.S. Tax Guide for Aliens.
If you are making non-ECI (NECI) payments to a Withholding Foreign Partnership (WP), you do not have to withhold if the WP is acting in that capacity. The WP must assume primary NRA withholding responsibility for amounts (subject to NRA withholding) that are distributed to, or included in the distributive share of, any direct partner. The WP must withhold any amount required to be withheld. A WP must provide you (the U.S. Withholding Agent) with a Form W–8IMY that certifies that the WP is acting in that capacity and a written statement identifying the amounts for which it is so acting. The Form W–8IMY must contain the WP EIN. This is usually a different EIN than the one the partnership uses for other-than-WP purposes, but it should be the one the WP provides on its W-8IMY.
Responsibilities of WP
A WP is also a withholding agent (WA). The WP must withhold on the date it makes a distribution of an amount subject to NRA withholding to a direct foreign partner based on the Forms W–8 or W–9 it receives from its partners. Under the "lag method" if the partner´s distributive share has not been distributed, during the year that it was earned by the WP, the WP must withhold on the partner´s distributive share on the earlier of the date that the distribution is made in the next year, the date the partnership must mail or otherwise provide to the partner a Schedule K–1 (Form 1065) or the due date for furnishing the statement (whether or not the WP is required to furnish the statement). There is a new check box 7c on Form 1042-S for a WA to indicate if it is withholding under these rules. See Publication 515 and Rev Proc 2017-21 (PDF) for WP's that are foreign reverse hybrids.
The WP may determine the amount of withholding based on a reasonable estimate of the partner´s distributive share of income subject to withholding for the year. When NECI is distributed during the same year as the WP earns it, a WP follows the same rules as a U.S. withholding agent, i.e., Form 1042-S reporting tracks payments. When NECI is not distributed by the earlier of the dates in the prior paragraph, a WP must allocate the undistributed NECI and report it as if paid on the earliest of the dates in the prior paragraph. The WP will later be able to distribute the delayed-distributed NECI without further withholding, like "previously taxed income". Like other WAs, a WP must correct the reported amounts paid and withheld on Forms 1042-S whenever better information becomes available. Per the Update to 2019 Instructions for Form 1042-S, if the distribution date is after the due date for filing the WP's Forms 1042 and 1042–S (including extensions for the calendar year), the WP may now file “late” Forms 1042-S with box 7c checked, or report the NECI in the following calendar year.
Form 1042 filing
The WP must file Form 1042 even if no amount was withheld. In addition to the information that is required for the Form 1042, the WP must attach a statement showing the amounts of any over- or under-withholding adjustments and an explanation of those adjustments.
Form 1042-S Reporting
The WP can elect to report NECI payments made to its direct partners on a pooled basis rather than reporting payments to each direct partner. This election must be made when the WP withholding agreement is executed with the IRS. If the election was not made, the WP must file separate Forms 1042–S for each direct partner whose distributive share included an amount subject to NRA withholding.
For more information on applying these rules, see the WT agreement found in Revenue Procedure 2017-21 (PDF).
Not Acting as WP
A foreign partnership that is not acting as a WP is a nonwithholding foreign partnership. This occurs if a WP is not acting in that capacity for some or all of the amounts it receives from you. Also, a WP generally is a nonwithholding foreign partnership for amounts distributed to, or included in the distributive share of, pass-through partners or indirect partners.
You must treat payments made to a nonwithholding foreign partnership as made to the partners of the partnership. The partnership must provide you with a Form W–8IMY (with Part VIII completed), a withholding statement identifying the amounts, the withholding certificates or documentary evidence of the partners, and the information required on a Withholding statement under Nonqualified Intermediaries.