The Complete Guide to TN Visa Taxes
The U.S. tax filing season is here again and with it a fair amount of complex processes. But even more so as a TN visa holder as you have to figure out certain special considerations like residency status, income tax treaties and totalization agreements. Calculating your tax burden and making sure all the proper forms have been submitted can prove to be a formidable task. That’s why we’ve put this guide together on the most important tax information for TN visa holders so you can that you file your taxes correctly before this year’s April 15th deadline.
TN Visa Background
The TN visa is a U.S. nonimmigrant work visa that caters to only Canadian and Mexican citizens. It was created under the terms of the North American Free Trade Agreement (NAFTA), an accord by the United States, Canada and Mexico set up to remove tariff barriers and increase investment opportunities among the three countries. NAFTA is the largest free trade agreement in the world since the gross domestic product of its three members exceeds $20 trillion.
If you are a Mexican or Canadian citizen seeking entry into the United States for the purposes of employment and your profession falls under the NAFTA list of professions, then you may qualify for a TN Visa. Common professions eligible on the list include accountants, attorneys, engineers, dentists and scientists. One important thing to note here is that you must also have the necessary skills needed by a U.S. employer and must have received a job offer (whether part-time or full-time) before starting the TN visa application. That being said, the specific eligibility criteria are quite different for Mexican and Canadian citizens.
Legal spouses and children (below 21 years old) of TN Visa holders may also enter and live in the United States on a derivative status visa, known as the TD visa. Unlike many other dependent visas like the L-2 and H-4 visas, however, the TD visa does not allow spouses to seek employment in the U.S.
TN Visa Duration of Stay
As a temporary visa, Canadian or Mexican citizens on TN status may stay in the U.S. for up to three years, with the option of renewing indefinitely upon expiry. However, the TN visa beneficiary must demonstrate their intention to return to their home country upon the expiration of their TN visa status even though they are allowed to renew it.
Taxes for TN Visa Holders in the U.S.
The United States income tax system is based on either citizenship or residence, so TN visa holders may find themselves subject to taxation on their world income in both the U.S. and their respective home countries.
Considered among the most complex tax systems in the world, this system is administered by the U.S. Internal Revenue Service (IRS). For Canadian citizens, keep in mind that the provisions contained in the Canada-United States Income Tax Convention do not allow for an outright exemption from filing an income tax return.
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TN Visa Taxes
There are three main tax categories that TN visa holders may be liable for -- Federal Income Tax, Social Security and Medicare taxes and Federal Unemployment Tax. Which one the TN status worker actually pays will depend on relevant treaties and they are residents or nonresidents. We’ll get to these in a minute.
Federal Income Tax
TN visa holders pay their Federal income taxes based on their resident status. Those who are classified as resident aliens have the same tax responsibilities as citizens of the United States. They withhold their U.S. federal income tax in the same way that the country’s citizens would, including applicable provisions for exemptions and medical status, among others. This means also filing Form W-4, Employee's Withholding Certificate, with their employers.
Workers on TN status who are classified as nonresident aliens have different tax responsibilities. In their case, Chapter 9 of IRS Publication 15 Circular E Employer’s Tax Guide requires U.S. employers of TN visa holders to withhold federal income taxes on their wages according to a specific set of rules. For one, the employer must add an amount to the wages of the nonresident alien employee in order to arrive at the actual amount of federal income tax to withhold from their wages.
This additional payment is solely for calculating the federal income tax withholding amount and isn’t included in any box on the employee's Form W-2, nor does it add to the income tax liability of the TN visa holder. If they have stayed in the United States long enough to be classified as resident aliens, workers on TN visa status will then file their federal income taxes according to the same rules as residents and U.S. citizens.
Social Security and Medicare
TN visa holders are generally liable for Social Security and Medicare taxes, though there are exceptions, such as under a Totalization Agreement or if the TN worker’s profession is not subject to Medicare and Social Security taxes, as stipulated under the IRS Employer’s Tax Guide.
These taxes are based on the Federal Insurance Contributions Act (FICA), which caters to a federal insurance system of old-age, survivors, disability, and hospital insurance. Insurance for the first three items is financed by the social security tax, while the Medicare tax finances the hospital insurance. Keep in mind that you are required to report each of these taxes separately.
Calculating Social Security and Medicare Taxes
There are different tax rates for social security and Medicare. The IRS has set the 2020 social security tax rate at 12.4% total amount withheld, 6.2% each for the U.S. employer and TN employee. The 2020 Medicare tax rate, on the other hand, is set at 2.9% total amount withheld, 1.45% each for the employee and employer. You can then calculate the amount of withholding for each tax by multiplying each payment by the tax rate.
There’s also the wage base limit which only applies to social security tax. The wage base limit refers to the maximum wage that is subject to the tax for that year. Per the IRS tax guide, the social security wage base limit for 2020 is pegged at $137,700. While Medicare is not subject to the wage base limit, U.S. employers may be required to withhold an additional 0.9% Medicare Tax from the wages of TN employees who earn in excess of $200,000 within a calendar year. This additional tax is only imposed on the TN employee.
Federal Unemployment (FUTA) Tax
TN visa holders are also liable for the Federal Unemployment Tax as set up under the Federal Unemployment Tax Act (FUTA). Certain exceptions are provided under the IRS tax guide for individuals exempt from the Federal Unemployment Tax.
In conjunction with state unemployment systems, FUTA provides for unemployment compensations to workers who have lost their jobs. Most employers pay this tax on both the federal and state levels, and typically applies to the first $7,000 paid to each employee as wages during the year under the federal wage base. The state wage base varies from state to state. The 2020 FUTA tax rate is pegged at 6.0%. TN workers don’t directly pay FUTA tax since it is borne solely by the employer and not withheld from their wages.
It is important to note that many states in the U.S. have their own income tax systems that apply to residents earning income from within the state or from corporations that are doing business in the state. Most of these states that impose their own income tax follow the federal taxable income, but mostly as a starting point. You can expect their rates, taxation methods, computation rules and filing requirements to vary.
For instance, some states exclude some types of wages from their unemployment tax, even though they would normally be included under the FUTA tax. Many states also do not recognize foreign tax credits, taxes paid outside the U.S. to a foreign country or province, when imposing certain taxes on employees and employers. That’s why establishing tax residence usually involves taking into account any possible implications of state taxation on federal and international tax systems and filing requirements.
Accordingly, you should seek competent international tax advice before filing your TN taxes.
Tax Residence: Green Card vs Substantial Presence Test
TN visa holders are essentially involved in cross border employment so it is important to determine which country they are considered a resident of for the purpose of tax filing. It is easy to confuse residence with citizenship, especially when dealing with a U.S. citizen, but when applied to cross-border taxes, it simply comes down to their U.S. resident rules under the green card test and the substantial presence test.
Green Card Test
Satisfying the green card test means the individual is a lawful permanent resident of the United States under immigration laws. This includes U.S. citizens and immigrants who hold a green card. These individuals and/or their business interests are considered taxable in the U.S. on their world income even if their business activities are primarily outside the States. Obviously TN visa holders cannot meet the requirements for this test by virtue of their nonimmigrant visa status.
Substantial Presence Test
The Substantial Presence Test involves determining the tax residence of an individual by counting the number of days that they have been physically present in the U.S. in the current year. The number of days required to satisfy the Substantial Presence Test is 183 days in that calendar year and once met, the individual is then categorized as a resident alien and must file their taxes the same as someone who meets the green card test.
Let’s assume the TN visa holder entered the U.S. before June 20 of that year and remained in the country through December 31 of the same year, then they’ve met the Substantial Presence Test since they have been in the U.S. for more than 183 days. They will then have to file their taxes as a resident alien. However, if they are unable to accumulate 183 days of residence within a calendar year, they will be considered a nonresident alien for that year and progress to resident alien status in the second calendar year, provided they remain in the U.S. throughout that period.
In some cases, TN visa holders from Canada may choose to apply for an exception from the substantial presence test rule by filing Form 8840 under the provisions of the Closer Connection Exception Statement to demonstrate their closer ties to Canada than to the United States. In this case, the Canadian resident’s usual indicators of residence, like their driver’s license and religious affiliation indicate stronger ties to Canada.
Income Tax Treaty With the U.S.
While identifying tax residence is important, it is equally crucial to consider any existing income tax treaty between the TN visa holder’s home country and the U.S. This is because while every country imposes its own domestic tax laws, it can quickly get too complicated when an individual or corporate entity is subject to the tax laws of two countries based on the same income and expenses. This presents the potential for double taxation, hence the need to understand the income tax treaty provisions. Tax treaties serve as a reference point or arbitrator between conflicting tax laws, and where this is such a conflict, the treaty supersedes the domestic laws of the participating countries. Essentially, a tax resident is subject to the application of the income tax treaty.
As it stands, both Canada and Mexico have their own income tax treaties with the United States so TN visa holders may qualify for a reduced income tax rate. In some cases, the income tax treaty can even exempt individuals from paying certain taxes. For example, under Canada’s tax treaty with the United States, Canadian citizens who are categorized as nonresident aliens and who earn below $10,000 while on TN visa status in the U.S. are not required to pay federal income taxes.
Totalization Agreements and TN Tax Exemptions
Citizens of countries that have signed a Totalization Agreement with the United States may be exempt from certain taxes. A Totalization Agreement eliminates dual taxation and dual coverage by exempting citizens of participating countries from paying social security taxes in both their home country and the U.S. Since there is a Totalization Agreement between Canada and the United States, Canadian citizens on TN visas do not have to pay Social Security taxes. Unfortunately, this is not the case with Mexico as the Social Security Totalization Agreement that the U.S. signed with Mexico back in 2004 is yet to come into effect so Mexican citizens on TN visa status are still liable for these taxes.
Wage Reporting for TN Visa Holders
TN workers are required to report their wages to the IRS using Form W-2, Wage and Tax Statement and Form 941 from their employer. They’ll use the W-2 to report their state and local wages as well. If the individual’s wages are exempt from federal income tax as a result of tax treaties or Totalization Agreements, then wage reporting is done on Forms 1042 and 1042-S. These tax forms are filed separately and the main difference between them is that Form 1042 covers how much income to withhold for tax purposes, while Form 1042-S deals with payments made to foreign workers in the U.S.
What about withholding non-wage payments?
This depends on the tax residence status of the TN visa holder. If they’re considered as a nonresident alien and receive payments in the form of interest, dividends, rent, royalties, or any other non-wage compensation, they will have 30% of the non-wage amount withheld for federal income tax. However, this rate may be different for Canadian TN workers due to the income tax treaty with the United States.
On the other hand, if a TN worker is classified as a resident alien for tax purposes, then there will be no withholding on their non-wage payments. Nevertheless, they must report their Individual Tax Identification Number (ITIN) to their employer to make sure that all applicable wages are properly reported.
Filing Requirements for U.S. Income Tax
Resident aliens on TN status are required to file Form 1040, U.S. Individual Income Tax Return and their W-2 form. If they paid foreign income tax on their foreign income, they may be eligible for the Foreign Tax Credit in some cases.
Nonresident aliens on TN status must file either Form 1040NR or 1040NR-EZ, along with their W-2. The underlying difference between these tax forms involves the tax payer’s source of U.S. income. TN workers who earned dividend income, taxable interest —or are looking to claim dependents for tax purposes will file Form 1040NR, the standard tax form for nonresident aliens. Those whose U.S. income only came from wages, salaries, tips, and other eligible payment sources should file Form 1040NR-EZ.
TN visa taxes can be quite tricky, especially when you start to factor in the various applicable treaty laws, totalization agreements and residency status. As such, fulfilling your tax obligations as a TN visa holder means doing proper research and being meticulous with tax filing.
The same can be said when sorting out your living conditions in the U.S. As a current TN visa holder, you’re probably already aware of the challenges involved with obtaining basic services like apartment rentals, U.S. credit cards, student loans and even phone plans without a U.S. credit score. Plus it doesn't help that your credit score and history from your home country cannot be used in the United States. The good news is you could always use Nova Credit’s Global Credit Passport® to transfer your international credit to the U.S. to apply for these essential services.
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