The US-UK Dual Taxation agreement and W-8BEN (Certificate of Foreign Status) do not stop withholding tax being applied on 401(k) and IRA withdrawals. Here’s why.
Filing a W-8BEN for your 401(k) will not, by itself, stop your 401(k) withdrawal from withholding taxes being applied. Filling out a W-8BEN form will not exempt you from withholding on your withdrawal; it is used to verify to the IRS that you are a non-resident alien. You will most likely need to file a U.S. tax return to receive any refund that you may be owed.
As a non-resident alien (NRA) withdrawing money from a 401(k) / IRA based in the United States, you may be shocked to discover that almost all of the money you are taking out has withholding tax applied. You think, “But wait, I just filled out a W-8BEN form!” While you are on the right track, there is more to it than that.
How the W-8BEN Works: Verification, Not Waiver
The W-8BEN form (“Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting”) is a document used to identify that you are a foreign person and the beneficial owner of the income being reported. A 401(k) provider will request a W-8BEN to verify your non-resident status for tax purposes. The form will also be used to claim benefits under a treaty between the United States and the country in which you are a resident, which may entitle you to a lower tax rate.
However, simply having a W-8BEN on file does not stop the initial withholding. If you do not provide a W-8BEN to your 401(k) plan, the plan will hold back at the highest rate, which is 30%.
U.S. Code Section 871 Requires Withholding
In general, U.S. Internal Revenue Code (IRC) §871 requires periodic or non-periodic payments from U.S. sources to non-resident aliens to be subject to a 30% tax. Distributions from a 401(k) are sourced in the United States and are therefore subject to withholding.
Furthermore, your 401(k) IRA provider has no choice but to withhold. They are a withholding agent for the IRS. They must withhold a percentage of your distribution when you request a withdrawal, and they must pay the withheld tax to the U.S. Treasury. When a non-resident alien requests a distribution from their 401(k), the default withholding rate of 30% of the gross distribution will be withheld for U.S. taxes.
Even if your W-8BEN form on file with your plan provider shows a lower treaty rate, they will most likely withhold at 30% and let you file a U.S. tax return to get a refund. They are liable for making sure that the required withholding is sent to the U.S. Treasury and may not be aware of every tax treaty’s specifications or want to deal with them when you withdraw funds.
Filing a 1040-NR Is the Key to Getting a Refund
A treaty rate can work in your favour by reducing your 401(k) tax bill if you reside in a country that has a tax treaty with the United States. In some cases, the treaty might even provide a full exemption from withholding on your 401(k) distribution.
However, even if a tax treaty applies to you, you will almost always be required to file a U.S. non-resident alien income tax return, Form 1040-NR, in order to claim a refund for any over-withheld taxes.
This is how it typically works:
- Tax Withheld at the Source. Your IRA 401(k) provider will withhold a percentage of your distribution and send that to the IRS. You will receive the net distribution.
- Receive a Form 1042-S. Early in the year, your 401(k) provider will send you a Form 1042-S, “Foreign Person’s U.S. Source Income Subject to Withholding.” This form will include the gross amount of your distribution, as well as the amount of U.S. federal tax that was withheld.
- File a Form 1040-NR. You will then use the information on the Form 1042-S to complete and file a Form 1040-NR with the IRS. On this form, you will report the income and tax withheld.
- Claim Your Treaty Rate. To claim a reduced rate of tax under a treaty, you may also have to file a Form 8833, “Treaty Based Return Position Disclosure,” with your 1040-NR. This form is used to disclose your position that a particular article of a tax treaty entitles you to a reduced rate of tax.
- Receive a Refund. The IRS will process your return and issue you a refund for any over-withheld taxes.
It can be easy to assume that your W-8BEN will stop your 401(k) withdrawal from being withheld for U.S. taxes. It is crucial to keep in mind that the W-8BEN form is merely a verification of your foreign status. In many cases, you will still need to file a U.S. tax return to reclaim any refund that you may be owed.