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WITHHOLDING ON ALIMONY PAID TO NONRESIDENTS
In TC Memo ¶92091 63 CCH TCM 2063 TC Memo 1992-91 , a U.S. resident alien individual was required to withhold U.S. tax from alimony payments to his former wives, who were nonresident aliens. Although the Tax Court held that the payments were fixed or determinable annual or periodic (FDAP) income under Section 1441 , it declined to impose penalties.
The taxpayer was a Canadian citizen living in the U.S. His two former wives, also Canadian citizens, lived in Canada. Under Canadian law, he paid alimony and separate maintenance in Canadian funds from a Canadian bank account. The alimony payments were deducted on the taxpayer's U.S. return.
The Service assessed deficiencies for failure to withhold on the alimony and interest payments, on the grounds that taxpayer's income was U.S.-source. The taxpayer argued that withholding at the source would result in double taxation.
Source and control. Section 871 imposes a 30% tax on U.S.-source income received by nonresident alien individuals. Under Section 1441 , all persons with control over the FDAP income of any nonresident alien individual must withhold tax to the extent the item is U.S.-source income. Such persons are liable for the tax under Section 1461 .
According to the Tax Court, alimony payments qualify under Sections 1441 and 871 when they are FDAP income. The taxpayer had the requisite control because he maintained the account from which the alimony was paid, although the account was outside the U.S. The alimony was U.S.-source income to the former wives because the "source" was the U.S. resident taxpayer and the income was produced in the U.S. rather than in Canada, where the physical payment occurred. In addition, since the taxpayer deducted the payments, he effectively acknowledged that the income was taxable to his former wives.
The court dismissed the taxpayer's double taxation argument on the grounds that the alimony was untaxed income to the former wives, not the taxpayer. Under the U.S.-Canada tax treaty, any remedy for double taxation had to be asserted by the former wives in Canada.
No penalties. The court did not impose penalties for underpayment due to negligence or intentional disregard. The taxpayer was unfamiliar with the U.S. tax system and relied in good faith on the advice of two national accounting firms, including a partner who advised him that he was not responsible for any withholding. This reliance also prevented imposition of penalties for failure to file and to deposit withheld taxes. Under the circumstances, the taxpayer's actions were reasonable and not due to willful neglect.
Treaty provisions. The U.S.-Canada tax treaty now provides that alimony arising in one country and paid to a resident of the other is taxable only in the other country. This provision was not effective for years at issue in Housden. Taxpayers in similar situations involving other countries should examine the relevant treaties to determine if the language has been changed in the same way.
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