How to Pay Foreign Independent Contractors: International Payments Guide

There is no doubt that hiring foreign independent contractors is great for your business. So, why isn't everybody doing it? Well, payments to foreign contractors are a little complicated.

Apart from hiring international contractors compliantly, paying them is one of the biggest issues. In this article, we are talking about the most important challenges with hiring and paying overseas contractors, along with providing you with a detailed list of international payment options. In addition, you will be able to understand the possible legal repercussions of a US company hiring foreign contractors. So, let's dive in.

What are the benefits of hiring foreign contractors?

The ability to work with people coming from different continents, cultures, perspectives and educational backgrounds is at our fingertips, thanks to the rise of a global talent market. Some of the biggest benefits of hiring international contractors are:

• Having different perspectives - Working with people that don't share our environment and culture can help us see things differently, thus allowing us to tap into an experience we never had. Their points of view will surely bring something new and exciting to the table. Perhaps this is exactly what your company needs.
• Minimal training required -  Independent contractors are usually very skilled workers, who are hired based on their specific knowledge that will benefit the company. Once you expand your search to the global market, the chances of finding the absolute best fit are increased.
• Cost-efficiency - Even though sometimes, at first, independent contractor fees are higher than employees' hourly rates, the total cost of one employee is much higher, given that the businesses who work with contractors do not cover traditional benefits, and there is no federal tax withholding, which makes hiring them very cost-effective.

Read more about the benefits of hiring foreign independent contractors.

Local labor laws

This is one of the most important considerations when hiring international contractors. Local labor laws differ in each country, so compliance in the employer's country doesn't equal to the local compliance of the overseas contractor.

You shouldn't let this discourage you. Just because it might happen, it doesn't mean it will. There are ways to avoid getting into any legal trouble, locally or internationally. Let's see what are the ways to reduce potential risks when hiring independent contractors.

Employee misclassification

This is one of the most common issues when hiring international contractors, locally or internationally. There is certain criteria defined by the IRS that needs to be met in order for someone to be considered for classifying employees and independent contractors.

According to the IRS, an independent contractor is an individual or an entity that is providing services to the general public, often working on multiple projects at a time and paying their own local taxes. The employer is only allowed to control the result of the work, leaving the means and work hours to the contractor. If the employer is controlling the whole work process, the independent contractor might be considered an employee, hence requiring the employer to pay employment benefits (Social Security, health insurance, pension plan, unemployment, etc.) through do tax withholding.

All of these regulations can be even stricter, under the local law. With so many contractors actually being full-time employees, countries are adapting and changing their labor and tax laws accordingly.

In some cases, it will be necessary to hire your foreign worker as an international employee in their local country. That requires a different set of employment process, most probably hiring through an employer of record.

For a more detailed overlook, check our employee misclassification guide.

Determine the necessary tax withholding and reporting obligations

Like we already mentioned, there is no obligation for backup withholding for your foreign independent contractors, like you need to do with your employees.

Even without tax withholding, tax reporting is still necessary if the income foreign contracts made 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. IRS provides guidance in order to facilitate this determination, but we summarized it here.

There is another possible option - your contractor is foreign, but they are working in the United States. If you want to avoid tax obligations, you need to meet certain conditions. Luckily, these conditions aren't too harsh. Firstly, the nonresident alien you hired can spend up to 90 days in the US during a tax year. Secondly, they need to have an office or any sort of place of business in a foreign country. And finally, the total amount they will be earning cannot exceed $ 3,000.

It is important to note that provided these conditions aren't met, the business is required to both report and withhold income for the foreign contractor. In this case, they need to provide you with ITIN - individual taxpayer identification number. It is possible to get a tax exemption, for the so-called “independent personal services”, only if the home country of the contractor has a tax treaty with the US. In order to claim this exemption for income tax and tax withholding, the contractor needs to submit Form 8233 to the company.

Collect Form W-8BEN

First and foremost, you will need a document to prove that your worker is not a US independent contractor. Form W-8NEN, Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting, is used for any foreign independent contractors to collect important information such as ITIN (International Taxpayer Identification Number) and other general information. Keep in mind that Form W-8BEN is used for individuals only; if you are hiring 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.

Read more about Form W-8BEN.

Do I need to issue 1099 to foreign contractors?

No, you don't. Form 1099, 1099-NEC to be precise, is issued to independent contractors based in the United States that have been paid more than $600 within a tax year. 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. Form W-8BEN serves to prove that the contractor is a foreign worker.

Foreign independent contractor agreement

An independent contractor agreement is highly advised, especially if you are working with international contractors. A good contract will go a long way in case of any disputes, but it also serves for defining common ground when it comes to the scope of work, payment terms, dispute resolution, etc. It will also give you the space to define the ownership of work and protection clauses all of which depend on the local laws and regulations.

Take a look at our guide on how to write an independent contractor agreement.

There are several ways to approach payment terms for independent contractors. Usually, the independent contractors will be invoicing the client for the work, but we advise you set the payment terms before you start the relationship.

Paying the contractor upfront

Some independent contractors like to be paid upfront, either partially or in full. Although this minimizes the risks of not being paid for a contractor, it increases the risk for the client. In case the work provided is incomplete or you are not satisfied with the work, it will be a hassle to get a refund and you will probably need to hire legal help.

Paying by the contractor upon project completion

Paying the independent contractor after the work is completed is the safest option for the client, but increases the risk for the contractor. The risk can be avoided by clearly communicating the terms in the contract.

Making a downpayment

This is a great median solution if you are working 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 in a timely manner.

Paying 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, it would be good to define the payment schedule so they know when to expect the money- weekly, monthly, or semi-monthly.

Once you have figured 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. There are several options offered currently, all of them have their pros and cons. You need to determine what is the best way for your business and whether the international contractor prefers to be paid in USD or their local currency.

International bank transfer (SWIFT)

This is one of the oldest, most commonly used ways to pay foreign contractors. A global transfer network, SWIFT, is used to connect financial institutions across the world, and companies pay their contractors via international bank transfers.

However, this method is slowly declining, since the difference in employment laws and regulations can pose challenges for these international money transfers.  

Another downside of international wire transfers is the hefty bank fees, as well as exchange rates. When wiring higher amounts of money, too much is lost in translation, so to speak.

International money order

These kinds of payments, as well as traditional paper checks, are also less and less in circulation. What was once the only available option now possess too much of a risk.

The biggest downside of the international money order is how slow the transaction is. In order to process it, 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 physically deposit the payment as well. Just 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. However, in countries where there is no digital option, this is the only route you can take.

Variety of digital wallets

Due to the limitations of traditional methods, online transfers are being used more and more for paying foreign contractors. Instead of long queues, you can now transfer money in just a few clicks. Since the industry is expanding, more options are becoming available.

PayPal

PayPal is the oldest and most frequent international money transfer services. It is present in more than 200 countries and it can support 25 local currencies. However, there are many countries with talented workers who still don't have the option of using this digital wallet. Transaction fees are also quite low, 2.9% + $0.30 in the US, and 3.9% + exchange rate for international transfers.

In addition to this, PayPal allows international payment through a company credit card, in addition to transferring money to a local bank account. And for those working with several contractors, there is the option of obtaining an advanced business solution called PayPal MassPay. It helps decrease the time needed to pay all of your contractors, since you can make multiple payments at once, just by uploading the necessary information. In addition, it has significantly lower fees than the regular account.

Note that PayPal has a certain restriction - you aren't allowed to use friends and family option for business purposes. You can use PayPal to pay overseas contractors, and you can use it to send money to your family, you just need to clearly state what kind of transaction you are making.

Payoneer

Another great option for paying an international contractor is Payoneer. It also has a global presence, and it offers multiple options for money withdrawal, one of them being their own Mastercard. Payoneer ships the card worldwide, so it can be a great alternative for your contractors since the money can be used as soon as it is deposited into the account. This is much faster than waiting for the funds to be deposited on regular bank accounts, although Payoneer offers that option as well.

On the downside, Payoneer fees are also substantially higher, $2 to $4 to load the debit card, and up to 3.5% for currency exchange. There is also a % fee for transferring money to your local bank account.

Revolut

Another digital payment option, currently used by 12 million customers, Revolut offers not only a money transfer system, it also deals in gold and crypto payments. Revolut offers transactions internationally, to both private customers and business, with no hidden fees.

They also offer their customers a card that currently supports around 130 local currencies. There are various subscription options you can choose from, offering different fees and products.

Wise

The biggest upside of using Wise (formerly TransferWise) as a payment method is the fact that they have the fairest exchange rate, allowing for local bank payouts in multiple local currencies. Every other payment service adds a premium to the wholesale exchange rate, making the transaction more expensive. They also list the benefit of offering exchange rates and fees before the money is sent. However, TransferWise is present in only 59 countries so far. If you aren't working with large sums of money, and your international contractors are located in one of the supported countries, TransferWise could be a good option for you.

Cryptocurrency

Although still considered a novelty, many businesses are opting for paying their contractors in cryptocurrency. Some still consider cryptocurrency payouts to be sketchy, mostly because the market for cryptocurrency business payment is still very new and untested. However, this prejudice is proving to be untrue, and cryptocurrencies have many benefits, especially if you are working with international contractors, thus operating with more than one currency. Cryptocurrencies can help you avoid exchange rates and hefty fees, and allow your overseas contractors to choose their own payment method and the local currency. This is why Deel contractors have the option of using cryptocurrencies as a means of payment.  It would be an unusual move for your business, but it doesn't necessarily have to be a risky one.