As a Canadian resident, sole proprietor or corporation working with a U.S. based customer, you might be subject to a 30% withholding tax on any payments made to you or your corporation. In order to avoid paying this tax and to claim the Canada-US Tax Treaty benefits, you will have to fill out a W-8BEN form as an individual or a W-8BEN-E form as an entity.
What is withholding tax?
The U.S. tax law requires local companies to deduct 30% of the total fees paid to a foreign individual or corporation and remit this amount to the Internal Revenue Agency (IRS). This type of amount deducted prior to making payment to the vendor is referred to as withholding tax.
For example, if you are providing consulting services to a U.S. based client and charge your client $10,000 for the service, your client referred to as the withholding agent is responsible for remitting $3,000 of that amount to the IRS and the rest $7,000 to you. This would mean that you will be taxed on this income twice: once in the U.S. and again in Canada.
How to avoid double taxation and claim Tax Treaty benefits?
At the time of writing this post, Canada still has in effect a Tax Treaty with the U.S. which reduces the burden of double taxation on Canadian residents and corporations. In simple words, income from U.S. sources will not be subject to withholding taxes as long as the conditions below are met and you pay taxes on that income in Canada.
Residence: The individual or corporation is a resident and has a permanent home in Canada.
Permanent Establishment: The individual or corporation does not have a permanent establishment (place of management, branch, office, factory, workshop, and mine) in the U.S.
As an individual you will have to notify your customer that you are claiming an exception under the tax treaty by filing W-8BEN, Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting (Individuals).
As a corporation/entity you will have to notify your customer that you are claiming an exception under the tax treaty by filing W-8BEN-E, Certificate of Status of Beneficial Owner for United States Tax Withholding and Reporting (Entities).
You can prepare these forms on your own by carefully following the instructions or you may want to consult with a professional accountant to assist you in completing it.
How to fill out a W-8BEN (Rev. July 2017)?
Part I of the W-8BEN form requires identification information of the individual applying for withholding tax exemption (Line items 1 -4).
Line item 5 asks for U.S. taxpayer identification number (SSN or ITIN), if you do not have one of these tax numbers, you can leave this line blank. Alternatively, you can apply for an ITIN by filing out Form W-7.
The turnaround time to receive your ITIN is five to six weeks. If you provide a U.S. tax number, your W-8BEN form will be valid until any information on the form becomes incorrect.
However, as a resident Canadian with a valid Social Insurance Number (SIN), you can leave line 5 blank and provide your SIN on line 6. A Form W-8BEN provided without SSN or ITIN will remain valid for a period starting on the date the form is signed and ending on the last day of the third succeeding calendar year unless a change in circumstances makes any information on the form incorrect. For example, a Form W-8BEN signed on September 30, 2018, remains valid through to and including December 31, 2021.
In Part II you need to specify the country of residence on line 9 and on line 10 specify the article and paragraph of the tax treaty that applies to your situation to claim a 0% rate of withholding.
How to fill out a W-8BEN-E (Rev. July 2017)?
This form is an elaborated version of W-8BEN. Part I of the W-8BEN-E form requires identification information of the entity applying for withholding tax exemption (Line items 1 -4).
If you are providing services from Canada to your U.S. based customer then there is a high probability that you are an Active NFFE. Check the Active NFFE box in Line 5 and complete the certification under Part XXV.
If your corporate structure includes a holding company or the nature of your work does not clearly specify if you have a permanent establishment in the U.S. then you should consult with a professional accountant and get assistance in completing this form.
When requested to provide a W-8BEN or W-8BEN-E by your customer you should not ignore this request, as 30% of your earnings might be deducted and sent to the IRS. Our recommendation is to be more proactive in this matter and be prepared to provide this form to your U.S. based customer as part of the onboarding process. The IRS website provides detailed instructions on how to fill out these forms, however, it would be in your best interests to consult with a professional accountant to make sure you do this right the first time!