Non-USA Domicle Question Re Interest Income Withholding Taxes

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galeno
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Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Thu May 24, 2018 5:16 pm

I know that non-USA domiciled investors w/o a USA tax treaty buying and holding equity ETFs on the LSE will pay a DIVIDEND income withholding tax of 15% for USA domicled equities, 7.5% for non-USA developed country equities, and 11.2% for EM equities.

Is there an INTEREST income withholding tax for USA domiciled bonds, non-USA developed bonds, and EM bonds?

If so, does anybody know how much for each?

Help!
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

DoctorE
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by DoctorE » Fri May 25, 2018 3:15 am

As far as I know, Irish domiciled bond funds listed on the LSE will not have withholding tax on the distributions.
Bonds as part of ETFs listed on the US-exchanged will have withholding tax on the coupons issued as distributions from the ETF.
Individual US treasury, portfolio interest or US corporate bonds will not have withholding tax.

As a a non-US resident, I would not hold ETFs bond funds.

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galeno
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Fri May 25, 2018 11:20 am

A bond ETF such as BND or AGG bought on a USA stock exchange will have a withholding tax of 30% on the interest income. USA bank accounts, CDs, and individual USA treasury bonds do not. I've known that for years.

What about the interest income from a bond ETF bought on the LSE? E.g. SUAG. SUAG mainly holds USA treasury bonds and USA corporate bonds.My understanding is that there is NO withholding tax on the interest income.

What about my latest interest: AGGU. This is a new world bond ETF which follows the Barklay Global Aggregate Bond Index hedged to USD. About 40% of the bonds are from the USA. The rest from outside.

Is there any withholding tax on the interest income for LSE:SUAG or LSE: AGGU?
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

DoctorE
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by DoctorE » Fri May 25, 2018 11:52 am

galeno wrote:
Fri May 25, 2018 11:20 am
A bond ETF such as BND or AGG bought on a USA stock exchange will have a withholding tax of 30% on the interest income. USA bank accounts, CDs, and individual USA treasury bonds do not. I've known that for years.

What about the interest income from a bond ETF bought on the LSE? E.g. SUAG. SUAG mainly holds USA treasury bonds and USA corporate bonds.My understanding is that there is NO withholding tax on the interest income.

What about my latest interest: AGGU. This is a new world bond ETF which follows the Barklay Global Aggregate Bond Index hedged to USD. About 40% of the bonds are from the USA. The rest from outside.

Is there any withholding tax on the interest income for LSE:SUAG or LSE: AGGU?
My understanding of the withholding is like yours. Irish domiciled USA-only bond funds, listed on the LSE, will not have withholding tax on the distributions. International, non-USA, bonds might have partial withholding as each country has its own tax laws as to the treatment of bond interest coupons paid to the fund. I would imagine SUAG/AGGU would have minimal inherent withholding.
Last edited by DoctorE on Fri May 25, 2018 2:45 pm, edited 1 time in total.

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galeno
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Fri May 25, 2018 2:08 pm

Thanks DoctorE.

That is my understanding also. An ETF composed of 100% USA investment grade bonds e.g. LSE:SUAG withholds ZERO taxes on the interest income.

USA Bogleheads talk about the 4-ETF portfolio: VTI + VXUS + BND + BNDX (non-USA bonds hedged to USD).

Since the USD is the major currency of the region where we live, I want to add non-USA bonds to our portfolio. Until recently there were no good cheap options for non-USA residents.

Ireland I-shares has recently come out with two bond ETFs that follow the Global Bond Index: AGGG and AGGU. I want to use AGGU but I'd like to know if I'm steping into a withholding tax problem.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

DoctorE
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by DoctorE » Fri May 25, 2018 2:47 pm

galeno wrote:
Fri May 25, 2018 2:08 pm
Thanks DoctorE.

That is my understanding also. An ETF composed of 100% USA investment grade bonds e.g. LSE:SUAG withholds ZERO taxes on the interest income.

USA Bogleheads talk about the 4-ETF portfolio: VTI + VXUS + BND + BNDX (non-USA bonds hedged to USD).

Since the USD is the major currency of the region where we live, I want to add non-USA bonds to our portfolio. Until recently there were no good cheap options for non-USA residents.

Ireland I-shares has recently come out with two bond ETFs that follow the Global Bond Index: AGGG and AGGU. I want to use AGGU but I'd like to know if I'm steping into a withholding tax problem.
I think Ireland is pretty good on treaties so it's likely that a fund domiciled in Ireland, such as the AGGU, would enjoy a network of double tax treaties. I'm not aware of any documentation of the exact amount, if any, of withholding that the fund is subjected to by the various countries. You might want to email iShares UK/IRL to ask if they can provide this.

Maple
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Maple » Mon Jun 04, 2018 4:00 am

galeno wrote:
Thu May 24, 2018 5:16 pm
I know that non-USA domiciled investors w/o a USA tax treaty buying and holding equity ETFs on the LSE will pay a DIVIDEND income withholding tax of 15% for USA domicled equities, 7.5% for non-USA developed country equities, and 11.2% for EM equities.

Is there an INTEREST income withholding tax for USA domiciled bonds, non-USA developed bonds, and EM bonds?

If so, does anybody know how much for each?

Help!
galeno wrote:
Fri May 25, 2018 11:20 am
... What about the interest income from a bond ETF bought on the LSE? E.g. SUAG. SUAG mainly holds USA treasury bonds and USA corporate bonds.My understanding is that there is NO withholding tax on the interest income.

What about my latest interest: AGGU. This is a new world bond ETF which follows the Barklay Global Aggregate Bond Index hedged to USD. About 40% of the bonds are from the USA. The rest from outside.

Is there any withholding tax on the interest income for LSE:SUAG or LSE: AGGU?

Hi Galeno.

I'm a fellow non-USA resident, owning LSE bond ETFs in my IB account.

Specifically, I've owned IHYU and IUAG (US$ version of SUAG which is in GBP) for over a year, and there has been 0 withholding on the dividends paid by the fund to me. I also own AGGG and VDET, but not yet through a dividend cycle, although I expect similar treatment for those.

I think you are also (perhaps primarily) asking whether the bond ETFs themselves pay taxes on the income they receive from the bonds they hold. As DoctorE posted, this varies based on the tax laws of the various jurisdictions. However, in the case of bonds, the tax is typically small to nothing. You asked about specific amounts for specific ETFs ... Looks like iShares reports the exact amounts in their annual financial statements under the heading "Non-reclaimable overseas income withholding tax" and by comparing this to "Interest income", you can calculate exact tax rates. In the specific case of IUAG and IHYU, financial year ended 31 October 2017, the tax rates appear to be 0% and 31/2400.13 (~0.01%) respectively. Here is the recent iShares annual financial statement for many of their funds: https://www.ishares.com/uk/individual/e ... report.pdf

Hope that helps.

galeno wrote:
Fri May 25, 2018 11:20 am
A bond ETF such as BND or AGG bought on a USA stock exchange will have a withholding tax of 30% on the interest income. USA bank accounts, CDs, and individual USA treasury bonds do not. I've known that for years ...
Galeno,

This is broadly true for when no tax treaty exists, and perhaps the number is 25% or 15% under various tax treaties. However, I have recently learned that this is only half the story, according to an international tax accounting expert I hired. Brokerage firms tend to withhold the full amount (30% in your example), because they are liable if they don't and the tax laws are complex. The US government DOES NOT tax the vast majority of dividends paid by AGG or BND (~85% exempt respectively, and similar funds to different exemptions depending on holdings) when held by non-USA residents. The dividends are largely classified as "NRA Exempt Qualified Interest Income (QII)" and various fund companies publish this data for their funds every year. To get the refund, it seems NRA investors need to file with the IRS. Most probably do not ... extra cash for the IRS. Here is a link to the iShares 2017 NRA Exempt Qualified Interest Income report. https://www.ishares.com/us/literature/t ... 364636.pdf

If we accept that tax argument, then many bond funds are better owned by NRAs in the US market (from a total fee perspective, leaving aside inheritance tax risk and tax return hassle). Also, the US market has a better selection of funds and narrower bid/offer spreads. For example, compare AGG (US based) and IUAG (London based) from a total fee perspective (I used various assumptions for yield, QII and tax treaty, which can be modified to fit other cases).

AGG: ~3% yield x 15% (non exempt income) x 30% (no treaty tax rate) + 0.05% (management fee) = 0.185%

IUAG: ~3% yield x 0% (tax rate) + 0.25% (management fee) = 0.25%

I'd appreciate if some other savvy Bogleheads would intelligently challenge my analysis and conclusion. My understanding of the overwhelming Bogleheads' opinion is that London ETFs are overall cheaper for bonds, but now I'm less convinced of that logic.

TedSwippet
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by TedSwippet » Mon Jun 04, 2018 9:08 am

Maple wrote:
Mon Jun 04, 2018 4:00 am
If we accept that tax argument, then many bond funds are better owned by NRAs in the US market (from a total fee perspective, leaving aside inheritance tax risk and tax return hassle).
There can certainly be niche circumstances where US domiciled funds could be cheaper for NRAs purely from a total fee perspective than Ireland domiciled ones.

However, for investors in the 180 or so countries lacking a US estate tax treaty, ignoring US estate tax risk means that AGG and IUAG are not directly equivalent. Specifically, the US domiciled one is riskier.

Adding the cost of life insurance to a US domiciled holding equalises the risk, but also either narrows the gap or -- depending on age and asset levels -- entirely overwhelms the cost saving of holding US domiciled funds or ETFs.

Maple
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Maple » Mon Jun 04, 2018 12:37 pm

TedSwippet wrote:
Mon Jun 04, 2018 9:08 am
There can certainly be niche circumstances where US domiciled funds could be cheaper for NRAs purely from a total fee perspective than Ireland domiciled ones.

However, for investors in the 180 or so countries lacking a US estate tax treaty, ignoring US estate tax risk means that AGG and IUAG are not directly equivalent. Specifically, the US domiciled one is riskier.

Adding the cost of life insurance to a US domiciled holding equalises the risk, but also either narrows the gap or -- depending on age and asset levels -- entirely overwhelms the cost saving of holding US domiciled funds or ETFs.
TedSwippet,

Are you (or any other Bogleheads) familiar with the US estate tax risk of a NRA in cases where the estate is left to charity, inside the USA?

Thanks in advance for any insights you care to share.

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galeno
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Mon Jun 04, 2018 12:40 pm

We used Schwab International for 11 years and paid the horrible USA-NRA taxes. We're much happier using IB and using Ireland domiciled ETFs.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

Maple
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Maple » Mon Jun 04, 2018 2:40 pm

galeno wrote:
Mon Jun 04, 2018 12:40 pm
We used Schwab International for 11 years and paid the horrible USA-NRA taxes. We're much happier using IB and using Ireland domiciled ETFs.
Understood, perhaps some of that could be refundable? Personally, I'm indifferent regarding the origin of the fees (taxes, management expenses, trading costs, etc), but care very much about minimizing their aggregate magnitude. The Boglehead forum, and its wise contributors, have been a VERY valuable resource. I find it interesting that an argument (it seems so far) can be made for holding US domiciled bond ETFs, in certain cases.

The new ETF mentioned by Galeno, AGGU (hedged, accumulating, expense ratio = .1%), seems to be a good one. I'm satisfied owning its related ETF, AGGG (unhedged, non-accumulating, expense ratio = .1%). I prefer an unhedged, accumulating version, but that is not available from what I can see. The preference for unhedged is because I feel a global basket of local currency bonds is itself a form of hedge / currency diversification.

Do we have any estimate of the costs of the hedges in AGGU? Not profit/loss from the currency futures themselves (which should balance out over a long time), but costs from the transaction fees and bid/offer spreads? I looked through some of the financials, but didn't see any estimates. Both AGGG (unhedged) and AGGU (hedged) list the same expense ratio (0.1%), but perhaps the hedging expense is buried within the transactions.

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galeno
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Mon Jun 04, 2018 4:44 pm

If one follows the Boglehead strategy of using stocks for growth and bonds for stability / ballast one wants to have the non-USD bonds hedged to USD. E.g. AGGU. The cost of hedging like the cost of turnover is buried in the costs of the fund. Knowing Vanguard, it's the best a retail investor is going to get.

The problem with the unhedged version AGGG is the volatility (GSD). AGGG is 67% more volitile vs AGGU.

Here are the 4.5 yr GSDs of

Total Bond Market = 3.0%
Hedged Global Bonds = 3.1%
Non-hedged Global Bonds = 5.0%

FTSE all world equity = 15.1% (for reference).
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

Kesev
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Kesev » Sun Jun 10, 2018 4:10 pm

Maple wrote:
Mon Jun 04, 2018 2:40 pm
Understood, perhaps some of that could be refundable?
Maple, probably of notice would be the following:
I as NRA have BIV (Vanguard Intermediate Bond, US-domicile) in my port directly. They charge me regular tax treaty rate on BIV monthly payments. Than every year in March I get reconciliation for the previous year, with about 80% of BIV payments reclassified as interest and relevant tax refunded to my account. Looks like this:
====
2017 Form 1042-S Income Reclassification
The following Chapter 3 reportable income has been reclassified from how it was initially paid. The benefit of this reclassification is that, in many cases, it may result in a refund of taxes withheld. The reclassified amounts are reflected on the Tax Information Statement included.
...
Security Description

Date// Original Income Amount// Reclassified Income Amount// Original Withholding Amount// Reclassified Withholding Amount// Refunded Withholding Amount

VANGUARD BD INDEX

02/07/2017 // 89.20 // 13.58 // 8.92 // 4.08// 22.68 Income Code 06: Dividends paid by U.S. corporations - general
02/07/2017 // 0.00 // 75.62 // 0.00 // 0.00 //0.00 Income Code 01: Interest paid by U.S. obligors - general
===

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galeno
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by galeno » Sun Jun 10, 2018 4:52 pm

This thread has been very informative.

I was told MANY times that because we have NO relationship with the USA other than using a USA domicled broker (i.e. no income, properties, bank accounts etc in the USA) we have NO recourse to get any of the 30% USA-NRA withholding taxes back.

I'm going to pay a consulting fee to a local international CPA to SEE if I can get some $$$ back.

Since we still have and use the Panamanian IBC we set up to mitigate the harsh USA interitance situation for USA-NRAs holding USA domiciled ETFs it might be a smart idea to use USA-domicled VT instead of Ireland domiciled VWRD for equities.

With ERs = 0.10% I can't see any USA domicled bond ETF that can beat AGGU (USD-hedged accumulating) or AGGG (non-hedged distributing).
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.13%. Term = 34 yr. FI Duration = 6.2 yr. Portfolio survival probability = 95%.

Kesev
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Kesev » Sun Jun 10, 2018 5:18 pm

galeno, the refund only works for bond ETF dividends being later reclassified as interest.
I don't think there is any chance to recover US equity US-domiciled ETF dividends taxes.

Maple
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Maple » Sun Jun 10, 2018 7:57 pm

Kesev wrote:
Sun Jun 10, 2018 4:10 pm
Maple, probably of notice would be the following:
I as NRA have BIV (Vanguard Intermediate Bond, US-domicile) in my port directly. They charge me regular tax treaty rate on BIV monthly payments. Than every year in March I get reconciliation for the previous year, with about 80% of BIV payments reclassified as interest and relevant tax refunded to my account. Looks like this:
====
2017 Form 1042-S Income Reclassification
The following Chapter 3 reportable income has been reclassified from how it was initially paid. The benefit of this reclassification is that, in many cases, it may result in a refund of taxes withheld. The reclassified amounts are reflected on the Tax Information Statement included.
...
Security Description

Date// Original Income Amount// Reclassified Income Amount// Original Withholding Amount// Reclassified Withholding Amount// Refunded Withholding Amount

VANGUARD BD INDEX

02/07/2017 // 89.20 // 13.58 // 8.92 // 4.08// 22.68 Income Code 06: Dividends paid by U.S. corporations - general
02/07/2017 // 0.00 // 75.62 // 0.00 // 0.00 //0.00 Income Code 01: Interest paid by U.S. obligors - general
===
Kesev,

It is good that Vanguard refunds you, automatically. Vanguard doesn't for me. I hire an international tax accountant to file a 1040NR, in which he takes the 1042-S tax slips and reclassifies all the income. The accountant is expensive, but the refunds so far (1 year track record only) have been well worth it. I got 100% refunds of withholding tax on Qualified Interest Income and Capital Gains distributions.

According to my calculations, for 2017 tax year, ~85% of the BIV distributions should be tax free for NRAs like us:
[1.85 (NRA exempt interest income) + 0.08 (capital gains)]/2.25 (total distribution) = 85%

Vanguard publishes spreadsheets, annually, in which they classify all income from all the distributions of their US-domiciled funds. Here is the link:
https://advisors.vanguard.com/VGApp/iip ... iciFiles

Maple
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Maple » Sun Jun 10, 2018 8:32 pm

galeno wrote:
Sun Jun 10, 2018 4:52 pm
This thread has been very informative.

I was told MANY times that because we have NO relationship with the USA other than using a USA domicled broker (i.e. no income, properties, bank accounts etc in the USA) we have NO recourse to get any of the 30% USA-NRA withholding taxes back ...
galeno,

That seems to be the prevailing opinion, so far, on this board. However, it does not match my personal experience (1 year track record so far). I do have a US-domiciled checking account into which the IRS can deposit the refund. But, I'm not sure this was necessary. Perhaps the IRS could mail you a refund or your accountant could act on your behalf.

Kesev wrote:
Sun Jun 10, 2018 5:18 pm
galeno, the refund only works for bond ETF dividends being later reclassified as interest.
I don't think there is any chance to recover US equity US-domiciled ETF dividends taxes.
Kesev,

True, and true, according to the professional advice I've received. However, if capital gains are included in the dividends of US equity US-domiciled ETFs (from which taxes are withheld), I'm advised those are refundable.

More surprising to me (and more advantageous), the accountant takes the position that dividends paid to NRAs from US-domiciled ETFs, which are received from foreign sources, are not taxable by the IRS. For example, the distribution from SCHE (Schwab Emerging Markets Equity ETF, 99.6% foreign sourced income) was withheld at a 25% tax-treaty rate in my account. The accountant claims this is fully refundable.

So, all this new information is causing me to re-evaluate my investments. Previously, I began transferring to Irish ETFs, now I'm less certain. If this accountant's advice continues to prove true, some US-domiciled ETFs will be better for me (more choices, lower ETF management fees and lower trading costs).

Kesev
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Kesev » Mon Jun 11, 2018 3:23 am

Maple wrote:
Sun Jun 10, 2018 7:57 pm
Kesev wrote:
Sun Jun 10, 2018 4:10 pm
I as NRA have BIV (Vanguard Intermediate Bond, US-domicile) in my port directly. They charge me regular tax treaty rate on BIV monthly payments.
Kesev,
It is good that Vanguard refunds you, automatically.
I see now that I was misleading with "directly", sorry. I hold BIV through Citi/Pershing, and the "automatic" refund is theirs. I was under impression that this is done by all US brokers until I read this topic; probably only brokerages with significant amount of NRA clients do it.
It would be interesting to know if Interactive Brokers does such refund.

Captain Haddock
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Re: Non-USA Domicle Question Re Interest Income Withholding Taxes

Post by Captain Haddock » Mon Jun 11, 2018 5:20 am

I don't know if it's relevant, but Firstrade requires international customers (non-US citizens living outside the US) to submit a W-8BEN "Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting (Individuals)", which supposedly provides relief on US capital gains tax. Their website adds: "In most cases, foreign investors can apply through Internal Revenue Service for the tax refund that was previously charged on the dividends earned."

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