If you are a US-based company and you hire non-US citizen workers, then you are required to submit Form 1042-S to the IRS.
This article is part of our guide on independent contractor taxes.
What is Form 1042-S?
The general goal of the form is to keep the IRS of the funds being sent outside of the country.
As companies expand their recruitment efforts beyond borders, being prepared to handle the tax requirements when paying freelancers who aren’t US citizens is key to hiring (and paying) all of the top talent you wish to work with.
In this post, we’ll cover everything you need to know about the 1042-S tax form.
Form 1042-S is a year-end federal tax form that US-based individuals, businesses, and institutions must file to report the amounts they paid to non-citizen, non-resident workers.
Its official name is ‘The Foreign Person’s US Source Income Subject to Withholding’. Really flows off the tongue, right?
The goal of the form is to keep the IRS in the know about how much money American companies and other paying entities are providing to people in foreign countries, to whom, and where that money ends up.
So, if you are an American-based company and you work with a graphic designer in the Ukraine and a content writer in London, you’ll need to complete Form 1042-S for each worker at the end of each year.
Who needs to file Form 1042-S?
Every US person, business, or institution that provides income to non-citizen individuals must file a Form 1042-S, even if ultimately the payments they made were exempt from being taxed because of a treaty or taxation exception.
The form applies to all payments made to non-resident aliens, foreign partnerships, foreign corporations, foreign estates, and foreign trusts that are subject to tax withholding.
On top of filing Form 1042-S with the IRS, your company must also provide the completed form to the individuals who received the payments. The most accurate way to understand who should your company summit 1042-S or 1099 tax forms is based on whether those individuals or vendors submit a W-9 or W-8BEN.
What types of payments do you report on Form 1042-S?
There is no minimum payment amount for filing Form 1042-S. You can pay a foreign freelancer $100 per year or $10,000 per year. The IRS still expects to receive a report.
In comparison, you only need to provide a Form 1099-NEC to US-citizen freelancers if you pay them at least $600 (Form 1099-NEC replaced Form 1099-MISC as of January 2020). This is an important distinction that companies should be aware of if they hire freelancers both within the US and abroad.
In addition to payments for freelance work, each of the following types of income requires a 1042-S form:
- Royalties
- Scholarships
- Dividends paid by American corporations
- Income from real estate
- Pension income
- Gambling winnings
- Normal income (in some cases)
- Interest on deposits
- Compensation for personal services performed in the U.S.
- Insurance premiums
Some examples of payments that are not subject to reporting on Form 1042-S include:
- Payments made by individuals if the payment is not part of their trade or business and no withholding is required to be made.
- Bank deposit interest that is not effectively connected with the conduct of a US trade or business.
- Insurance premiums paid on a contract issued by a foreign insurer.
How do you submit Form 1042-S?
Your company needs to submit Form 1042-S for all of the relevant recipients by March 15th. The form should reflect payments made to the individual in the year prior.
The IRS specifies that you must submit a separate form for:
- Each recipient regardless of whether or not you withheld tax.
- Each tax rate (if you withheld at more than one tax rate) of a specific type of income that you paid to the same recipient.
- Each type of income that you paid to the same recipient.
Although you can choose to fill out the forms electronically or on paper, you must submit them electronically if you are submitting them on behalf of 250 or more recipients.
What are the penalties for not submitting on time?
Failing to file complete and correct 1042-S forms for each foreign person your company pays could result in a penalty, unless you are able to prove that the failure was due to reasonable cause and not willful neglect.
In 2021, the penalty for filing the form less than 30 days late is around $50 per form. If you submit the forms more than 31 days late—up until August 1—the penalty rises to $110 per form. If you submit the forms after August 1, the penalty hits $280. And if the IRS determines you intentionally didn’t file the forms, the penalty can increase to $560 per form, or 10% of the total amount of items required to be reported, with no maximum penalty.
Late reporting doesn’t have to result in a penalty. If you need more time to file your Form 1042-S, you can request an extension from the IRS. To gain more time, you need to submit Form 8809 (Application for Extension of Time to File Information Returns) by March 15.
Be prepared to submit the correct tax forms for your foreign freelancers
As the skills gap widens, strategic organizations have set their sights on freelancers and independent contractors. When borders—and the tax codes they contain—aren’t a limiting factor, you have the potential to work with the best talent all over the world.
Working with foreign freelancers can give you access to pre-vetted, experienced, qualified talents who are ready to dive into work and support organizational agility.
By being aware of the reporting requirements you face and preparing your organization to fulfill them, bureaucratic processes don’t have to hold you back.