Source of Income

In most cases, income is from U.S. sources if it is paid by domestic corporations, U.S. citizens or resident aliens, or entities formed under the laws of the United States or a state. Income is also from U.S. sources if the property that produces the income is located in the United States, the services for which the income is paid were performed in the United States or the income is a dividend equivalent. A payment is treated as being from sources within the United States if the source of the payment cannot be determined at the time of payment, such as fees for personal services paid before the services have been performed. Other source rules are summarized in Chart B and ex- plained in detail in the separate discussions under With- holding on Specific Income, later.

In most cases, interest on an obligation of a foreign corporation or foreign partnership is foreign-source income. If the entity is engaged in a trade or business in the United States during its tax year, interest paid by such entity is treated as from U.S. sources only if the interest is paid by a U.S. trade or business conducted by the entity or is allocable to income that is treated as effectively connected with the conduct of a U.S. trade or business. This applies to a foreign partnership only if it is predominantly engaged in the active conduct of a trade or business outside the United States.

Guarantee income. Certain amounts paid, directly or indirectly, for the provision of a guarantee of indebtedness issued after September 27, 2010, are from U.S. sources. The amounts must be paid by one of the following.

1. A noncorporate U.S. resident or a U.S. corporation for the provision of a guarantee of the resident or corporation.

2. Any foreign person for the provision of a guarantee if the payment of income is effectively connected, or treated as effectively connected, with the conduct of a U.S. trade or business.

Personal service income (for purposes of chapter 3 withholding). If the income is for personal services performed in the United States, it is from U.S. sources. The place where the services are performed determines the source of the income, regardless of where the contract was made, the place of payment, or the residence of the payer.

However, under certain circumstances, payment for personal services performed in the United States is not considered income from sources within the United States.

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For information on this exception, see Pay for Personal Services Performed, later.

If the income is for personal services performed partly in the United States and partly outside the United States, you must make an accurate allocation of income for services performed in the United States based on the facts and circumstances. In most cases, you make this allocation on a time basis. That is, U.S. source income is the amount that results from multiplying the total amount of pay by the following fraction.

Number of days services are performed in the United States

Total number of days of service for which compensation is paid

Multiyear compensation. Generally, the source of multiyear compensation is determined on a time basis over the period to which the compensation is attributable. Multiyear compensation is compensation that is included in the taxable income of a recipient in 1 tax year but that is attributable to a period that includes 2 or more tax years. The determination of the period to which the compensation is attributable, for purposes of determining its source, is based on the facts and circumstances of each case. For example, an amount of compensation that specifically relates to a period of time that includes several calendar years is attributable to the entire multiyear period. Where determining the source of multiyear compensation on a time basis is appropriate, the amount of compensation treated as from U.S. sources is figured by multiplying the total multiyear compensation by a fraction. The numerator of the fraction is the number of days (or unit of time less than a day, if appropriate) that labor or personal services were performed in the United States in connection with the project. The denominator of the fraction is the total number of days (or unit of time less than a day, if appropriate) that labor or personal services were performed in connection with the project.

Employees. If the services are performed partly in the United States and partly outside the United States by an employee, the allocation of pay, other than certain fringe benefits, is determined on a time basis. The following fringe benefits are sourced on a geographical basis as shown in the following list.

• Housing—employee’s main job location.

• Education—employee’s main job location.

• Local transportation—employee’s main job location.

• Tax reimbursement—jurisdiction imposing tax.

• Hazardous or hardship duty pay—location of pay zone.

• Moving expense reimbursement—employee’s new main job location.

For information on what is included in these benefits, see Regulations section 1.861-4(b)(2)(ii)(D).

An employee’s main job location (principal place of work) is usually the place where the employee spends most of their working time. If there is no one place where most of the work time is spent, the main job location is the

place where the work is centered, such as where the employee reports for work or is otherwise required to base their work.

An employee can use an alternative basis based on facts and circumstances, rather than the time or geographical basis. The employee, not the employer, must demonstrate that the alternative basis more properly determines the source of the pay or fringe benefits.

Territorial limits. Wages received for services rendered inside the territorial limits of the United States and wages of an alien seaman earned on a voyage along the coast of the United States are regarded as from sources in the United States. Wages or salaries for personal services performed in a mine or on an oil or gas well located or being developed on the continental shelf of the United States are treated as from sources in the United States.

Income from the performance of services directly related to the use of a vessel or aircraft is treated as derived entirely from sources in the United States if the use begins and ends in the United States. This income is subject to withholding if it is not effectively connected with a U.S. trade or business. If the use either begins or ends in the United States, see Transportation income , later.

Crew members. Income from the performance of services by a nonresident alien in connection with the individual’s temporary presence in the United States as a regular member of the crew of a foreign vessel engaged in transportation between the United States and a foreign country or a U.S. territory is not income from U.S. sources.

Multilevel marketing. Certain companies sell products through a multilevel marketing arrangement, such that an upper-tier distributor, who has sponsored a lower-tier distributor, is entitled to a payment from the company based on certain activities of that lower-tier distributor. Generally, depending on the facts, payments from such multilevel marketing companies to independent (nonemployee) distributors (upper-tier distributors) that are based on the sales or purchases of persons whom they have sponsored (lower-tier distributors) constitute income for the performance of personal services in recruiting, training, and supporting the lower-tier distributors. The source of such income is generally based on where the services of the upper-tier distributor are performed, and may, depending on the facts, be considered multiyear compensation, with the source of income determined over the period to which such compensation is attributable.

Scholarships, fellowships, and grants. Scholarships, fellowships, and grants are sourced according to the residence of the payer. Those made by entities created or domiciled in the United States are generally treated as income from sources within the United States. However, see Activities outside the United States next. Those made by entities created or domiciled in a foreign country are treated as income from foreign sources.

Activities outside the United States. A scholarship, fellowship, grant, targeted grant, or an achievement award received by a nonresident alien for activities conducted

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outside the United States is treated as foreign source income.

Pension payments. The source of pension payments is determined by the part of the distribution that constitutes the compensation element (employer contributions) and the part that constitutes the earnings element (the investment income).

The compensation element is sourced the same as compensation from the performance of personal services. The part attributable to services performed in the United States is U.S. source income, and the part attributable to services performed outside the United States is foreign source income.

Employer contributions to a defined benefit plan covering more than one individual are not made for the benefit of a specific participant, but are made based on the total liabilities to all participants. All funds held under the plan are available to provide benefits to any participant. If the payment is from such a plan, you can use the method in Revenue Procedure 2004-37, 2004-26 I.R.B. 1099, available at IRS.gov/irb/2004-26_IRB#RP-2004-37 , to allocate the payment to sources within and without the United States.

The earnings part of a pension payment is U.S. source income if the trust is a U.S. trust.

Amounts Subject to Chapter 3 Withholding, earlier); and

• Items of income excluded from gross income without regard to U.S. or foreign status of the owner of the income, such as tax-exempt municipal bond interest and qualified scholarship income.

The following items are examples of FDAP income.

• Compensation for personal services paid to an individual or a sole proprietorship.

• Dividends and dividend equivalent payments.

• Interest.

• Original issue discount.

• Real estate mortgage investment conduit (REMIC) excess inclusion income.

• Pensions and annuities.

• Alimony (no longer income if the divorce or separation agreement is executed after December 31, 2018, or if executed before January 1, 2019, but modified after December 31, 2018, the modification must state that section 11051 of P.L. 115-97 (TCJA) applies to the modification).

• Real property income, such as rents, other than gains from the sale of real property.

• Royalties.

• Taxable scholarships and fellowship grants.

• Other taxable grants, prizes, and awards.

• A sales commission paid or credited monthly.

• A commission paid for a single transaction.

• The distributable net income of an estate or trust that is FDAP income and must be distributed currently, or has been paid or credited during the tax year.

• FDAP income distributed by a partnership that, or such an amount that, although not actually distributed, is includible in the gross income of a foreign partner.

• Taxes, mortgage interest, or insurance premiums paid to, or for the account of, a nonresident alien landlord by a tenant under the terms of a lease.

• Publication rights.

• Prizes awarded to nonresident alien artists for pictures exhibited in the United States.

• Purses paid to nonresident alien boxers for prize fights in the United States.

• Prizes awarded to nonresident alien professional golfers in golfing tournaments in the United States.

Payments for the following purposes are examples of payments that are not withholdable payments.

• Services (including wages and other forms of employee compensation (such as stock options)).

• The use of property.

• Office and equipment leases.