Do I owe taxes, as a foreign investor in US stocks?
This question comes up alot: As a foreign investor, do I have to pay taxes when I buy US stocks? If so, how much? And am I supposed to file taxes with the IRS?
Disclaimer: This is not tax advice. I'm not a tax counsel, and I'm definitely not your tax counsel. If your tax situation is complex, seek help from a licensed tax professional.
One of the biggest hurdles I had to overcome before starting my investing journey was my primal fear of inadvertently breaching tax law. I had nightmares of the 'tax police' coming after me, locking me up in a prison just as I'm about to enter the US, because I forgot to pay taxes on a stock purchase I'd made in 2009.
It's really difficult finding resources for foreign investors (non-US citizens/residents) related to the tax exposure from investing in US stocks. In this post, I cover the most important things you should know as a foreign investor in US stocks, and references for you to read more on.
Types of Tax
Capital Gains Tax
Capital gains tax is a tax levied on the profit realized from selling stocks (as well as other 'non-inventory assets'). Basically, whenever most investors make a profit, the government takes a bite off of it.
You get one huge advantage as a foreign investor in US stocks: you don't pay capital gains tax.1 It doesn't matter if you're holding US stocks, or stocks of international companies listed in the US.
This is absolutely amazing — because the vast majority of gains that investors realize from stock investments are due to changes in the stock price (and not from dividends, discussed below).
If you buy $TSLA for $600, then sell it for $700 a few days later — you can withdraw the full $700 straight to your international bank account (net trading fees). No tax liability, zilch, nada.
Dividends are profit distributions made by companies to shareholders. Not all companies pay dividends. In fact, 'growth' companies are well known for not paying dividends at all (since they just re-invest any profits straight back into the business). Amazon is a prime example (get it, Prime?).
Corny wordplay aside, it's important to note that foreign investors are liable for taxes on dividends earned from US stocks, as well as any international stocks they earn.
These taxes are withheld by your investment broker, so you don't typically need to file a separate US tax return (since you don't 'owe' the IRS anything; they're paid directly by your broker).
The taxes on dividends paid out by US stocks are 30%, assuming your country of residency doesn't have a tax treaty with the US to prevent double-taxation2.
If Apple decides to pay out a $100 dividend, your broker will withhold $30 (the 30% tax on this dividend payment) and add $70 to your USD balance.
An estate refers to of all the investments, assets, and interests an individual owns. Estate tax is a tax imposed on the value of someones estate upon this persons death.
Any assets above the $60,000 for foreign investors is taxed at the estate tax rate, of up to 40%! 3
That means that if someone has $150,000 invested in US stocks, and then passes away — their heirs may be liable for up to 40% of ($150,000 - $60,000) = $36,000 in taxes.
How ETFs Are Treated
You may be wondering how ETFs are treated from a tax perspective, since they represent a basket of stocks, which may include both US and non-US equities.
The answer is simple: the dividend and estate taxes on ETFs are assessed based on where the ETF is registered (or 'domiciled').
If you're a foreign investor in a country that has no tax treaty with the US (e.g. Saudi Arabia), and invest in a US-domiciled ETF — your tax rate is the flat 30%. However, if you choose to invest in the popular ISDU to get exposure to US based halal stocks, you can take advantage of the fact that it's domiciled in Ireland. The effective tax rate becomes just 15%, the tax treaty rate between Ireland and the US.
This creates a strong incentive for foreign investors to choose the iShares ETFs domiciled in Ireland, over the ones registered in the US like SPUS or HLAL. (You can learn more about Halal ETFs in my post here).
In summary, foreign investors ('non-resident aliens' in IRS tax speak) are not liable for capital gains tax, but are subject to dividend and estate taxes, that are withheld by the broker before distributions are made to the investor.
Here are some references if you're interested in reading more on the topic:
- Investopedia: Do Non-U.S. Citizens Pay Taxes on Money Earned Through a U.S. Internet Broker?
- IRS - U.S. Tax Guide for Aliens (Official admission by the US government that aliens do, in fact, exist). Of particular interest is Section 4 - How Income of Aliens Is Taxed.
- Nonresident aliens are subject to no U.S. capital gains tax, and no money will be withheld by the brokerage firm. https://www.irs.gov/pub/irs-pdf/p519.pdf↩
- For a list of all countries that have a tax treaty with the US to prevent double taxation, reference the IRS page here. For other countries (beside the US), you can find the correpsponding dividend tax rate here.↩
- Read more on estate taxes for non-resident aliens here: https://onlinetaxman.com/foreign-investment-in-us-tax/↩