Form 1042-S Income Codes: What Do They Mean?

Form 1042-S, Foreign Person’s U.S. Source Income Subject to Withholding, is a tax document used to report specific types of income paid to non-U.S. residents. Withholding agents, such as employers or financial institutions, prepare and submit this form to the Internal Revenue Service (IRS) and provide a copy to the foreign person who received the income. The form details the amount of income paid and any federal tax that was withheld.

A key part of Form 1042-S is the two-digit income code entered in Box 1. This code classifies the type of U.S. source income being reported, such as distinguishing between scholarship funds and dividends. This classification directly influences how the income is treated for tax purposes under U.S. law, ensuring both the IRS and the recipient understand the nature of the payment.

Understanding Key Boxes on Form 1042-S

Box 2, “Gross Income,” shows the total amount paid to the foreign person. The form separates withholding based on different chapters of the tax code, and Box 3, the “Chapter Indicator,” specifies whether withholding falls under Chapter 3 or Chapter 4 rules. For Chapter 3 withholding, Box 3a shows the “Exemption Code” and Box 3b shows the “Tax Rate.” For Chapter 4, Box 4a and Box 4b report the relevant exemption code and tax rate.

If no exemption applies or a tax treaty specifies a reduced rate, that percentage is entered in the appropriate tax rate box. This rate is applied to the gross income to determine the U.S. federal tax to be withheld, which is reported in Box 10 as a total withholding credit. For instance, if a payment is covered by a tax treaty allowing a 10% tax rate under Chapter 3, that rate appears in Box 3b, and the resulting tax amount contributes to the total shown in Box 10.

Income Codes for Personal Services and Studies

Many Form 1042-S filings relate to payments for personal services and academic activities for foreign students, scholars, and temporary workers in the U.S.

• Code 16 is for scholarship or fellowship grants. This includes amounts for tuition, living expenses, or research, which may be fully or partially exempt from tax depending on tax treaties.
• Code 17 applies to compensation for independent personal services, covering payments to an independent contractor like a freelance consultant or guest lecturer.
• Code 18 is for compensation for dependent personal services, used for wages paid to an employee where the payer withholds taxes from the paycheck.
• Code 19 is designated for compensation for teaching, covering payments to foreign professors or instructors at a U.S. educational institution.
• Code 20 is for compensation during studying and training, which applies to wages paid to a foreign student or trainee for work performed.

Income Codes for Investments and Royalties

Foreign individuals and entities often receive U.S. source income from investments. For interest-related income, Code 01 applies to interest from bonds issued by U.S. corporations or government entities. Code 29 is used for deposit interest from banks, which is often exempt from U.S. tax for non-resident aliens. Code 30 covers Original Issue Discount, a form of interest on a debt instrument issued for less than its redemption value.

Dividend payments have their own codes. Code 06 is for dividends paid by U.S. corporations, such as from stock in an American company. Code 07 reports capital gain distributions from mutual funds or real estate investment trusts (REITs). Code 08 is used for dividends paid by foreign corporations that are treated as U.S. source income under certain tax rules.

Royalty payments are categorized by the type of intellectual property. Code 10 is for industrial royalties, including payments for the use of patents, trademarks, or industrial processes. Code 11 is for motion picture or television copyright royalties. Code 12, for other royalties, is used for payments related to copyrights on literary works and musical compositions not covered by Code 11.

Other Common Income Codes

Form 1042-S includes codes for various other types of income that foreign persons may receive from U.S. sources.

• Code 09 represents income from real property, such as rent from a U.S. property owned by a non-resident. This income is subject to a 30% withholding tax unless a tax treaty provides a lower rate.
• Code 15 is used for pensions and annuities. This category includes retirement distributions from U.S. pension plans and payments from annuity contracts, with tax treatment often depending on treaty terms.
• Code 28 is for gambling winnings from activities like lotteries, raffles, and casino games. These winnings are generally subject to a 30% withholding tax.
• Code 23 serves as a catch-all category for U.S. source income that does not fit into more specific classifications, such as a covenant not to compete payment.