Solopreneurs and small business owners often turn to outside help when they don’t have enough time to accomplish a task or need someone with specific expertise. While they may initially consider hiring employees, opting for a contractor can offer greater flexibility.
Sometimes, you may want to hire a contractor who lives in another country. Before you do, it’s essential to understand the unique requirements and employment tax laws for a U.S. company hiring foreign contractors.
Why hire foreign contractors?
When you hire full-time employees, you typically establish a long-term business relationship. In exchange for working a regular schedule, you pay them a set hourly rate or a salary and establish control of how work is performed. You’re also responsible for following state and local labor laws, offering certain employee benefits and paying employer payroll taxes.
On the contrary, hiring contractors and freelancers offers more flexibility. You don’t need to hire them long-term and aren’t responsible for paying for their benefits or payroll taxes.
While there are benefits to hiring contractors, like the ability to only employ them on a per-job basis, or not having to provide benefits or cover payroll taxes, there are limitations. Though you have the ability to direct the result of the work, the Internal Revenue Service (IRS) guidelines state that hiring companies can’t control the contractor’s work or how they do it.
Generally, you hire an independent contractor for remote work pertaining to a specific task and hiring an international contractor can open the door for a larger talent pool and sometimes lower professional services fees.
Foreign contractor tax requirements
While there are fewer responsibilities when hiring contractors, you still need to comply with local laws, taxes and IRS filing requirements.
Under IRS rules, the source of the income is a key component in determining how to handle reporting for tax purposes. For example, if you hire an international contractor who lives in France or Canada and they do the work from their home country, the IRS considers the work to have occurred in the contractor’s country and the income would be considered foreign-sourced income.
For a contractor living and performing the work internationally, foreign-sourced income isn’t subject to U.S. tax withholding, while U.S. source income, even if earned by a non-American, is subject to U.S. tax withholding.
Which tax forms are required?
While international contractors are likely not subject to the traditional 1099-NEC form that US-based contractors are, they still collect certain tax forms or other paperwork when hiring foreign workers.
One essential form for overseas contractors is Form W-8BEN. This tax form asks for identifying information about the contractor, including their name and address. It also has an area to claim benefits under one of the United States’ many tax treaties with foreign countries.
The form confirms that the contractor isn’t a U.S. citizen and isn’t working within the United States. If both of these things are true, the contractor isn’t subject to American taxes. Without this form, you must withhold 30% of your payments to foreign contractors for taxes.
IRS Form W-8BEN-E is similar but is for foreign businesses rather than individuals. For example, if you work with a foreign contractor who has formed a business entity, they may need to file W-8BEN-E instead of W-8BEN.
These forms expire after three years, so you must collect and submit new copies every three years.
Tax reporting and filing requirements
Accurate records are critical for every aspect of your business, particularly when it comes to tax compliance.
You should closely track the tax forms, including the W-8BEN, that your nonresident contractor has filed. You also need to maintain records of who you’ve paid, how much you’ve paid them and the tasks they completed.
Payments to American contractors must be reported on Form 1099-NEC, assuming you paid them more than $600 in a calendar year. There is no requirement to file that form for overseas contractors.
In fact, you don’t even need to file Form W-8BEN with the IRS. You should keep the form in your records, but you don’t need to submit it to the IRS like you need to send tax forms for American taxpayers.
When it comes to the IRS, the last thing you want to do is make a costly mistake.
Consequently, the first thing you need to do when hiring a foreign contractor is to ensure they are contractors, not employees. You want to avoid misclassification issues regarding the people you hire since a mistake like this may result in fines or legal action.
Next, make sure that they are non-U.S. citizens who reside outside of the U.S. If this is the case, it’s your responsibility to have them submit Form W-8BEN or W-8BEN-E so that you can confirm you don’t have to withhold taxes for them.
If your contractor is a U.S. citizen or works in the U.S., you’re responsible for tax withholding and many additional tax forms. Failure to properly file could lead to significant tax penalties.
It’s in your best interest to work with a tax professional and consider consulting with a lawyer who can help you navigate the complexities and tax implications of hiring people overseas. These experts can also help you avoid any violations of employment laws.
Furthermore, when establishing a working relationship with any remote worker, it’s wise to have them sign an independent contractor agreement during the onboarding process specifying they are an independent contractor. This agreement can also include the pay rate and how you pay the contractor, whether it’s via a bank account, PayPal or wire transfer.
Hiring foreign independent contractors can offer unique benefits to your business. However, it’s important to understand how the tax and filing requirements differ from hiring independent contractors in the United States.With careful record keeping, U.S.-based companies can make working with contractors from different countries a breeze.
TJ Porter is a freelance writer based in Boston, Massachusetts. He began covering finance while earning a degree in business at Northeastern University in Boston, Massachusetts and enjoys writing about credit, investing, real estate topics. When he’s not writing, TJ enjoys cooking, sports, and games of the video and board varieties. You can contact him at find more of his work at TJPorterWriting.com