Taxation on FDAP

Nonresident individuals or corporation are taxed on income that is effectively connected with a trade or business in the U.S. and U.S. source investment income. Fixed, Determinable, annual or periodical (FDAP) income is treated differently from the effectively connected income (ECI). Generally, non-residents are taxed at a flat rate on FDAP income from U.S. sources, but only if they are not effectively connected with U.S. trade or business. The 30% or lower rate applies to the gross amount and deductions are not allowed against FDAP income.  Taxes on FDAP are paid through withholding.

FDAP Income

Income is fixed when it is paid in amounts know ahead of time. income is determinable whenever there is a basis for figuring the amount to be paid. income can be periodic if it is paid form time to time. It does not have to be paid annually or at regular intervals. Income can be determinable or periodic even if the length of time during which the payments are made is increased or decreased.

The following items are examples of FDAP income unless it is categorized as effectively connected income (ECI) in US:

• compensation for personal service;
• interest and original issue discount;
• dividends;
• Alimony;
• real property income such as rents other than gains from the sale of real property;
• royalties,
• scholarships and fellowship grants,
• other grants, prizes and awards;
• sales commission paid or credited monthly;
• commission paid for a single transaction;
• the distributable net income of an estate or trust;
• distribution form a partnership;

Tax Compliance

Payments of U.S. source FDAP income to a foreign person must be reported by a withholding agent on an Annual Withholding Tax Return for U.S. Source Income of Foreign Persons (Form 1042) by March 15th of the succeeding calendar year. As of January 1, withholding agents are required to make all deposits on withheld taxes by electronic funds transfer (ETF) through the U.S. Department of Treasury’s Federal Tax Payment System (EFTP).

Tax Forms

When nonresident individuals or corporations receive FDAP income, following tax forms may be required:

• Form W-7 Applicaiton for IRS individual taxpayer identification number
• Form SS-4 Application for employer identification number
• Form W-BEN Certificate of foreign status of beneficial owner for united states tax withholding
• Form 1040NR U.S. nonresident alien income tax return
• Form 1120-F U.S. Income Tax Return of a Foreign Corporation
• Form 8833, Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b)