Withholding taxes

When a company makes a payment to an individual or an entity, it may be required to withold a percentage of the amount and remit it to the tax authority. For example, when an employer pays out a salary, it withholds income tax (as well as payroll deductions) from the employee's paycheck. A company may also withhold taxes when paying out dividends, interest, royalties, rent, directors fees, and technical service fees. Other payments may be exempt from withholding (ex: payments for services to resident companies) or be subject to a lower (or zero) rate (ex: payments to parent companies or major shareholders, i.e. participation exemption).

WTH tax applies to domestically sourced income. For example, if a US company hires a remote contractor in Canada, it should not withhold any tax from payments because the income is not US-sourced (and the contractor is not a US person). In some countries (ex: US, Canada, UK), payments to residents are also exempt from withholding, meaning that they must declare the income and pay taxes later, when filing their tax return. In others (ex: Bulgaria, Mexico), the tax is withheld at the source for both residents and non-residents, therefore the residents do not pay the tax again at the individual level.

Non-resident WHT

When you earn foreign-source income, a non-resident withholding tax will typically be deducted before the payment is received. For example, when you, as a foreign person, receive dividends from a US corporation, it will withhold 30% to the IRS since the income is US-sourced. This rate can be reduced if the country you are a tax resident of has a tax treaty with the US (ex: 15% for Canadian residents, see WTH taxes in US) by submitting a W-8BEN form to the IRS. Rental income (along with REITs) is often subject to the standard WTH tax and can't be reduced by a tax treaty.

Unfortunately, the WTH tax is non-refundable. However, you may be able to claim a foreign tax credit to reduce your domestic tax when filing a tax return. Also, if the tax was withheld by mistake (ex: by a US client even though your service/product was not US-sourced) or at an incorrect rate (ex: a general rate was applied instead of a reduced rate based on a tax treaty), you could file a foreign tax return to claim a refund (ex: Form 1040-NR in US).

The rate of withholding depends on several factors:

Unfortunately, there may be multiple levels of WTH taxes:

Read more in this article. For a US/Canada perspective, see this white paper.

Reducing non-resident WHT

1. Invest in contries with a zero or low non-resident WTH tax

2. Invest in funds domiciled in countries that don't levy WTH tax

3. Move to a country with a lower WTH rate based on a tax treaty

4. Invest in domestic companies

5. Earn capital gains