By Anthony Diosdi
If you are an American working outside the United States or are considering working outside the United States, you should consider whether your host country has a totalization agreement with the United States. This article provides a brief overview of totalization agreements which should be of particular interest to U.S. persons working outside the United States.
Introduction
Totalization agreements are sometimes confused with international income tax treaties. While they are similar in concept, totalization agreements are different from income tax treaties. Income tax treaties are used to prevent two countries from taxing the same source of income. On the other hand, totalization agreements are designed to eliminate dual taxation with respect to social security taxes.
Totalization agreements, often called “International Social Security Agreements” have two main purposes. First, they eliminate dual social security taxation. This situation often occurs when a worker from one country works in another country and is required to pay social security taxes to both countries on the same income. Second, the totalization agreements helps fill gaps in benefit protection for cross-border workers who work in the U.S. and another country.
The U.S. currently has totalization agreements with Italy, Germany, Switzerland, Belgium, Norway, Canada, United Kingdom, Sweden, Spain, France, Portugal, Netherlands, Austria, Finland, Ireland, Luxembourg, Greece, South Korea, Chile, Australia, Japan, Denmark, Czech Republic, Poland, Slovak Republic, Hungary, Brazil, Uruguay, Slovenia, and Iceland.
How do Totalization Agreements Work?
Totalization agreements eliminate dual social security coverage. This situation may occur when a person from one country works in another country and is required to pay social security taxes to both countries on the same earnings. Each totalization agreement includes rules intended to assign a worker’s coverage to the country where the worker has the greater economic attachment. Totalization agreements generally ensure that the worker pays social security taxes to only one country, provided certain procedural requirements are satisfied.
If a worker is temporarily assigned to work for the same employer in another country, the worker remains covered only by the country from which he or she has been transferred. This is often referred to as the “Detached Worker” rule. The detached worker rule in totalization agreements generally applies to employees whose assignments in the host country are expected to last five years or less. The totalization agreement with Italy represents a departure from other U.S. totalization agreements in that it does not include a detached worker rule. Coverage for expatriate workers is based principally on the worker’s nationality. If a U.S. person is employed in Italy, he or she would be covered by a U.S. program regarding Social Security and would be exempt from Italian coverage and contribution.
If a U.S. employer assigns a U.S. person to work in a foreign country, the worker in a foreign country that does not have a totalization agreement with the U.S., the U.S. employer and the worker are generally liable to pay social security taxes to both the U.S. and the foreign host country. However, when a U.S. employer sends a U.S. worker to work in a foreign host country with which the U.S. has a totalization agreement, relief from social security taxes is provided. In general, totalization agreements provide as follows:
1. If an U.S. person is sent to a foreign country for five years or less to work for the same U.S.-based employer, he or she would generally remain covered by the U.S. Social Security system.
2. If the same U.S. person was assigned abroad for longer than five years, he or she would pay social security taxes to the foreign country.
3. If the U.S. person was employed by a foreign employer or was hired by a U.S.-based employer while living outside the U.S., he or she would pay social security taxes to the foreign country. If the foreign employer is an affiliate of a U.S. employer, the U.S. employer can enter into an agreement under Section 3132(l) to have the U.S. social security coverage for services of U.S. persons performing services for the foreign employer.
Under certain cases, a worker may be exempted from coverage in a totalization agreement even if he or she was not assigned there directly from the U.S. If, for example, a U.S. company sends an employee from its New York office to work for four years in its Hong Kong office and then reassigns the employee to work for four additional years in its London office, the employee can be exempted from U.K. Social Security coverage under the U.S.-U.K. Totalization Agreement.
If on the other hand, a non-U.S. employee was sent from a foreign country to work in the U.S., the same principles would generally apply:
1. If the alien employee is sent by a foreign employer to work in the U.S. for five years or less, he or she would generally remain covered by the foreign country’s social security system.
2. If the same individual was sent to the U.S. for longer than five years, he or she would pay Social Security and Medicare taxes to the United States.
3. If the nonresident worker worked for a U.S.-based employer or was hired by a foreign employer while residing in the U.S., he or she would pay U.S. Social Security and Medicare taxes.
Self Employed Rules
Totalization agreements coverage generally extends to self-employed U.S. persons whether their work is performed in the U.S. or another country. Most totalization agreements eliminate dual coverage of self-employment by assigning coverage to the worker’s country of residence. For example, under the U.S.-Swedish Totalization Agreement, a dually covered self-employed U.S. person living in Sweden is covered only by the Swedish system and is excluded from U.S. coverage. Although the totalization agreements with Belgium, France, Germany, Italy, and Japan do not use the residence rules as the primary determinant of self-employment coverage, each of them include a provision to ensure that workers are covered and taxed in only one country.
How to Substantiate a Claim
Substantiation of a claim of exemption under the terms of a totalization agreement can be obtained by a U.S. person or nonresident through a request for a Certificate of Coverage from either country where services had taken place.
If wages paid in a foreign country are subject only to U.S. Social Security tax and are exempt from foreign social security tax, the employer should get a Certificate of Coverage from the Office of International Programs of the Social Security Administration.
If the employee is an alien who wishes to claim an exemption from U.S. Social Security taxes and Medicare taxes because of a totalization agreement, he or she must secure a Certificate of Coverage from the social security agency of his or her home country and present such Certificate of Coverage to his or her employer in the U.S., according to the procedures set forth in Revenue Procedure 80-56, 84-54, and Revenue Ruling 92-9. An alternate procedure is provided in these revenue procedures for an alien who is unable to secure a Certificate of Coverage from his or her home country.
If the employee is a U.S. person and he or she is working in a foreign country with which the U.S. has a totalization agreement, and under the totalization agreement, pay is exempt from U.S. Social Security tax, the employee or employer should get a statement from the authorized official or agency of the foreign country verifying that the wages are subject to social security coverage in that country. If the authorities of the foreign country will not issue such a statement, either the employee or the employer should get a statement from the U.S. Social Security Administration, Office of International Programs. The statement should indicate that the wages are not covered by the U.S. Social Security. This statement should be kept by the employer because it establishes that its employee’s pay is exempt from U.S. Social Security tax.
Conclusion
Totalization Agreements are advantageous both for cross-border workers. Totalization agreements eliminate dual contributions cross-border workers might otherwise be paying to the Social Security systems of both the U.S. and another country.
We have substantial experience advising clients ranging from small entrepreneurs to major multinational corporations in foreign tax planning and compliance. We have also provided assistance to many accounting and law firms (both large and small) in all areas of international taxation.
Anthony Diosdi is one of several tax attorneys and international tax attorneys at Diosdi Ching & Liu, LLP. Anthony focuses his practice on domestic and international tax planning for multinational companies, closely held businesses, and individuals. Anthony has written numerous articles on international tax planning and frequently provides continuing educational programs to other tax professionals.
He has assisted companies with a number of international tax issues, including Subpart F, GILTI, and FDII planning, foreign tax credit planning, and tax-efficient cash repatriation strategies. Anthony also regularly advises foreign individuals on tax efficient mechanisms for doing business in the United States, investing in U.S. real estate, and pre-immigration planning. Anthony is a member of the California and Florida bars. He can be reached at 415-318-3990 or adiosdi@sftaxcounsel.com.
This article is not legal or tax advice. If you are in need of legal or tax advice, you should immediately consult a licensed attorney.