Withholding tax is one of the payroll tax of the United States. It was established by President Lincoln in 1862 to help finance the Civil War and the current system was implemented in 1943 to collect taxes from the source.
As what is suggested from the name, withholding tax refers to the money that is withheld from employees’ wages and that money goes directly to the government. The money taken from employees is a credit against their annual income tax. If the employers withhold too much money, employees will receive a tax fund. Otherwise, they need to pay the additional tax bill.
There are two types of withholding tax employed by IRS. One is U.S. resident withholding tax and the other one is Nonresident withholding tax.
- U.S. resident withholding tax
U.S. resident withholding tax is levied on every U.S. resident’s personal income and it is collected by every employer. If the amount of money employers withhold is not enough, employees should file a tax returns each year (due in July in 2020). If too much money is withheld, employees will receive a tax refund.
Normally, it is better for employees to have 90% of their estimated income taxes withheld by the government. It can help them escape heavy penalties of falling behind on income taxes and ensure that they are not overtaxed. Employees can also use the IRS tax withholding estimator to figure out the current amount of tax that is withheld.
- Nonresident withholding tax
Nonresident withholding tax is levied against nonresident aliens who are born in foreign countries and have not passed the green card test or a substantial presence test.
For the nonresident aliens, they should file Form 1040NR if they work on trade or business. Meanwhile, they should pay attention to standard IRS deduction and exemption tables to figure out the deductions they can claim.