How to Pay Foreign Independent Contractors: International Payments Guide
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The gig economy is growing faster than the whole US economy, meaning companies hire more independent contractors and freelancers than ever before. Many companies are also tapping into the global talent pool for the first time, looking for independent contractors overseas.
One of the most complex parts of hiring foreign independent contractors is payment. Paying independent contractors is easier than paying foreign employees. However, you still have to choose international payment methods, navigate international payment fees, and comply with foreign taxes.
This guide will walk you through different payment options and tax implications you need to know when working with international contractors.
Why hire foreign independent contractors?
Thanks to the rise of the global talent market, we can now work with people from different continents, cultures, perspectives, and educational backgrounds. Some of the most significant benefits of hiring international contractors are:
Fresh, diverse perspectives
Working with people that don’t share our environment and culture can help us see things differently and bring diversity to our team. A foreign contractor’s point of view can bring new and exciting insights to the table and help you understand your foreign markets better with firsthand experience.
Minimal training requirements
Independent contractors are usually skilled workers, and they earn clients based on existing knowledge and skills. Their experience is usually broad because they’ve worked with numerous clients. Contractors also work independently, so they’re probably familiar with various tools and software and don’t need training.
An independent contractor is self-employed and pays their own income taxes. A contractor’s fees may sometimes be higher than employees’ hourly rates, but the total employer cost of one employee is much higher. The employer doesn’t cover traditional employee benefits and doesn’t withhold federal payroll taxes, which makes hiring contractors very cost-effective.
Read more about the benefits of hiring independent contractors.
2 compliance issues for paying foreign independent contractors
Companies hiring foreign independent contractors must avoid legal risks and costly penalties that may follow improper hiring practices. Avoiding risk comes down to complying with local labor laws regarding employee classification and tax implications.
1. Local labor laws regarding employee classification
Issues arise when the definition of an independent contractor in the company’s country doesn’t match the one in the foreign contractor’s country.
According to US law, an independent contractor is an individual or an entity providing services to the general public, often working on multiple projects and paying their own local taxes. The business can only control the result of the work, freeing the contractor to complete it whenever and however they prefer.
If the business controls the whole work process, the independent contractor might be considered a full-time employee. The company must pay employment benefits (e.g., social security taxes, health insurance, pension plan, and unemployment insurance) through tax withholding if the worker is an employee. Failure to do so is employee misclassification.
In other countries, the rules regarding foreign worker classification may be slightly different. A local legal expert can help you ensure full compliance with your contract and avoid potential employee misclassification penalties. Your independent contractor agreement should clearly outline your contractor’s status.
If your relationship does not align with the country’s definition of independent contractor, you’re better off hiring your non-US worker as an international employee in their local country. That requires a different set of employment processes, most probably hiring through an employer of record.
2. Tax obligations
You have no obligation to withhold taxes for your foreign independent contractors. However, even without tax withholding, tax reporting is still necessary if the income from foreign contracts is US-sourced.
If you are a US company paying international contractors, you need to report that amount to the IRS using Form 1042 and 1042-S, Foreign Persons’ US Source Income Subject to Withholding. The IRS provides guidance to facilitate this determination, but we summarized it here.
If your contractor is a foreign person but works in the US, you need to meet certain conditions to avoid paying taxes:
- The nonresident alien you hired can only spend up to 90 days in the US during a tax year
- They need to have an office or any sort of place of business in a foreign country
- They cannot earn more than $3,000
If you don’t meet these conditions, your business needs to report and withhold income for the foreign contractor. In this case, the contractor needs to provide you with an individual taxpayer identification number (ITIN).
It’s possible to get a tax exemption for “independent personal services” only if the contractor’s home country has a tax treaty with the US. To claim this exemption for income tax and tax withholding, the contractor must submit Form 8233 to the company.
4 ways to pay foreign independent contractors
You can approach payments to independent contractors in several ways. Usually, independent contractors invoice the client for the work, and the client pays them using a payment method they agree upon in advance, by the due date designated in the invoice.
Contractors may require different payment cadence from their clients:
1. Pay the contractor upfront
Some independent contractors require upfront payments: their clients need to pay for their services in full before starting the project.
Although this minimizes the risks of not getting paid for a contractor, it increases the risk for the client. If the work provided is incomplete or you are not satisfied with the result, it can be a hassle to get a refund, and you may need to hire legal help to solve the dispute.
However, if you’ve been working with a contractor for a long time, paying your contractor upfront can be a sign of good faith that can improve your client-contractor relationship.
2. Pay the contractor upon a milestone/project completion
Paying the independent contractor after they achieve a milestone or complete the work is the safest option for the client. However, it may increase the risk for the contractor.
Your independent contractor can decrease this risk by clearly communicating the terms of the project and signing an independent contractor agreement.
3. Make a downpayment to the contractor
Unlike paying your contractor upfront, making a downpayment means paying only a portion of the total service cost.
Downpayments are a great median solution if you work with an independent contractor for the first time. Making a downpayment and paying for the project partially will provide safety for the contractor, incentivizing them to do great work promptly.
4. Pay the contractor by the hour
You can choose to pay the independent contractor by the hour on a payment schedule you agree on.
If the project is long-term, define the payment schedule in the contract, so the contractor knows when to expect the money: weekly, monthly, or semi-monthly.
5 method for foreign independent contractor payments
When you figure out the best way to protect your business and thoroughly enjoy the benefits of working with an international contractor, you need to determine the best way to make international payments.
No method works for every company, so you need to compare various payment options based on speed, additional fees, security, availability, and contractor preferences.
1. International bank transfer (SWIFT)
A global money transfer network, SWIFT, is used to connect financial institutions worldwide. Companies worldwide pay their contractors via international bank transfers since there are around 11,000 bank members in this network, available in approximately 200 countries.
One of the most significant benefits of using SWIFT is the network’s security. However, some contractors may not prefer this payment method because international wire transfers can have hefty bank fees and unfavorable exchange rates.
2. International money order
International money orders, although outdated, are another way to send your international contractor money. These payments are an alternative to cash and look similar to traditional paper checks.
International money orders may not comply with local tax laws and require too much hassle. The transaction can be extremely slow, as you must physically purchase the money order at the post office, bank, a Western Union outlet, etc. Upon receiving the money order from the payer, the payee (international contractor) will have to deposit the payment as well physically.
Like with international bank transfers, fees and exchange rates can significantly increase the cost for the payer and the total amount received for the contractor.
3. Digital wallets
A digital wallet is a form of online money transfer, used more and more for paying foreign contractors. It’s usually an online service where you can store your money and make online payments or transfer money to your bank account.
The biggest benefit of digital wallets is that you can transfer money in just a few clicks (or one click if you’re a Deel client) and combine it with different withdrawal methods: SWIFT, PayPal, Payoneer, etc.
Paying contractors in cryptocurrencies can help you avoid high exchange rates and bank fees. Digital currencies are gaining popularity and have become a huge benefit that can attract global talent to your company. Speed and low cost are the most significant advantages of paying your contractor workforce in crypto and the number of choices they have when withdrawing money.
Deel supports payments in various cryptocurrencies, such as USD Coin, Bitcoin, and Ethereum.
5. Money transfer services
A money transfer service is an online solution that allows business owners to send money to contractors. Most allow you to send money instantaneously without the fee associated with SWIFT payments.
PayPal is available in more than 200 countries and supports 25 currencies. Transaction fees are quite low: 2.9% + $0.30 in the US, and 3.9% + exchange rate for international transfers. PayPal allows international payment through a company credit card and money transfers to a local bank account.
If you work with several contractors, you can use the PayPal MassPay option to save time and make multiple payments at once.
Revolut offers a money transfer system and deals in gold and crypto payments with no hidden fees. The service also provides a card that currently supports around 130 local currencies.
You can choose among different subscription options depending on your company’s needs, the number of contractors, and their location.
Payoneer has a global presence like PayPal and offers multiple options for money withdrawal, one of them being their own Mastercard. Payoneer ships the card worldwide, so it can be an excellent alternative for your contractors since they can use the money as soon as it arrives in the account.
However, Payoneer fees are substantially higher: they charge for loading the debit card, currency exchange, and transferring money to your bank account.
Wise is another international payment method with the fairest exchange rate, allowing local bank payouts in multiple currencies, but it’s only available in around 59 countries.
If you don’t work with large sums of money and your international contractors live in one of the supported countries, TransferWise could be a good option.
Paying foreign independent contractors FAQs
Find additional answers to any questions regarding hiring foreign independent contractors.
What tax documents do I need for hiring foreign contractors?
As an employer, you need a legal document to prove that your independent contractor is not a US citizen.
The IRS Form W-8BEN, Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting, is used for foreign independent contractors to collect important information such as ITIN (International Taxpayer Identification Number) and other general information.
Form W-8BEN is for individuals only; if you hire a foreign contractor that acts as an entity, give them Form W-8BEN-E instead. You don’t need to send Form W-8BEN to the IRS, but you need to keep it on record for every foreign contractor you hire.
Do I need to issue 1099 to foreign contractors?
As long as your independent contractor is not a US citizen and is not making US-source income, you don’t need to collect 1099 for them.
Do I need to sign an independent contractor agreement with a foreign contractor?
Every employer should sign an independent contractor agreement with their contract workers, whether the worker is a US citizen or a foreign person.
A well-drafted contract can help with any dispute resolution. It also serves to clearly define the nature of your working relationship, the scope of work, payment terms, and the ownership of the work the contractor performs for you, especially regarding intellectual property.
Protection clauses you should include in your foreign contractor agreement may depend on the local laws and regulations, so ask for help from a local legal expert to ensure your contract is bulletproof.
Make international payments fast and easy with Deel
We believe making global payments shouldn’t be a challenge.
With Deel, you can fund payroll with just a click and automatically calculate taxes without lifting a finger. Our multiple currency options and various withdrawal methods make it even easier for your team to get paid on time, every time, so that you can have one happy crew.