Understanding Form 1042: Annual Withholding Tax Return for U.S. Source Income of Foreign Persons (2016)

If your business pays foreign individuals or companies for services, scholarships, dividends, or other U.S.-sourced income, you need to understand Form 1042. Think of it as the “annual report card” that tells the IRS how much tax you've withheld from payments to non-U.S. persons. This guide breaks down what you need to know about the 2016 version of this important tax form.

What Form 1042 Is For

Form 1042 is the annual tax return that “withholding agents” file to report taxes withheld from U.S. source income paid to foreign persons.
A withholding agent is any person or entity—whether a business, university, investment firm, or individual—that controls or pays income to foreign recipients and is required to withhold U.S. tax on those payments.

For the 2016 tax year, Form 1042 was significantly updated to report under two important chapters of the tax code: Chapter 3 (traditional withholding on foreign persons) and Chapter 4 (FATCA—Foreign Account Tax Compliance Act requirements).
This means you must report not just the typical 30% withholding on payments to nonresident aliens, foreign partnerships, and foreign corporations, but also withholding related to foreign financial institutions under FATCA.

The form covers various payment types including interest, dividends, royalties, scholarships paid to foreign students, rental income, and even specialized payments like federal procurement payments to foreign contractors (subject to a 2% excise tax under section 5000C).

Think of Form 1042 as the “cover sheet” for all the individual Forms 1042-S (the equivalent of W-2s or 1099s for foreign payees) you've issued during the year.
You must file Form 1042 even if you submit Forms 1042-S electronically.

When You’d Use Form 1042 (Late/Amended Filings)

Standard Filing Deadline

For the 2016 tax year, Form 1042 must be filed by March 15, 2017. You mail it to the IRS Ogden Service Center in Utah.

Requesting an Extension

You can request an automatic extension using Form 7004, but note:

The extension only applies to filing the return, not to paying any tax owed.
If you owe tax, you must still pay it by the March 15 deadline to avoid penalties.

Late Filing Penalties

If you miss the deadline and haven't requested an extension, penalties start accumulating immediately—5% of the unpaid tax per month (or part of a month), up to a maximum of 25%.

Amended Returns

If you need to correct your Form 1042 after filing:

Use a blank Form 1042 for 2016.
Check the “Amended Return” box at the top.
Complete the entire form with corrected information.
Attach a written explanation of what you're changing and why.

Important exception: Do not amend Form 1042 just to recover taxes you over-withheld in a prior year—use specific adjustment procedures instead.

Key Rules or Details for 2016

Mandatory Section 2

Starting in 2015 and continuing in 2016, Section 2 (Reconciliation of Payments of U.S. Source FDAP Income) became mandatory for all filers.
This ensures your reported income matches across all related forms.

Chapter 3 and Chapter 4 Status Codes

Every withholding agent must provide both a Chapter 3 and Chapter 4 status code, regardless of payment type.
These codes identify your role (e.g., Qualified Intermediary, Foreign Financial Institution, U.S. withholding agent) and reflect FATCA integration.

Electronic Deposit Requirement

All tax deposits must be made electronically using EFTPS (Electronic Federal Tax Payment System).
Paper payments are not accepted. Failure to use EFTPS results in a 10% penalty.

Deposit Timing Rules

Your deposit frequency depends on how much tax you've withheld:

$2,000 or more at the end of any quarter-monthly period (7th, 15th, 22nd, or last day of the month): deposit within 3 business days
$200–$1,999 at month-end: deposit within 15 days after the month ends
Less than $200 at year-end: deposit by March 15, 2017, or pay with your Form 1042

New Line Items

The 2016 form added:

Separate fields for adjustments to overwithholding (line 63c(1)) and underwithholding (line 63c(2))
Separate lines for tax paid during the calendar year vs. tax paid during the subsequent year

Step-by-Step (High Level)

Step 1: Gather Your Documentation

Collect all Forms 1042-S for the 2016 calendar year, plus:

Documentation for foreign tax treaty claims
Records of all tax deposits made via EFTPS

Step 2: Obtain Your Employer Identification Number (EIN)

If you are a QI, WP, or WT, you’ll need a specialized EIN (QI-EIN, WP-EIN, WT-EIN).
If you’re a participating FFI with a GIIN, you still need a separate EIN to file Form 1042.

Step 3: Complete Section 1 – Record of Federal Tax Liability

Report your tax liability for each quarter-monthly period throughout 2016.
The totals must match your total tax liability on lines 64b and 64c.

Step 4: Complete Section 2 – Reconciliation of U.S. Source FDAP Income

Report the total gross amounts of U.S. source income subject to withholding.
This reconciliation is mandatory for 2016.

Step 5: Report Total Tax and Make Reconciliation

Complete lines 61–69, reporting:

Total number of Forms 1042-S filed
Total amounts paid
Taxes withheld and deposits made
Any overpayment or balance due

Step 6: Sign, Date, and Mail

Sign the form, date it, and mail to Ogden Service Center by March 15, 2017.

Common Mistakes and How to Avoid Them

Mistake #1: Missing or Incorrect Status Codes

You must provide both Chapter 3 and Chapter 4 codes—omitting either delays processing.

Mistake #2: Failing to Use EFTPS

Paper payments are not accepted.
Register early for EFTPS—enrollment can take several days.

Mistake #3: Reporting Deposits Instead of Liability

Lines 1–60 report tax liability, not deposits made.
Report based on when liability was incurred.

Mistake #4: Incomplete Section 2 Reconciliation

Section 2 is mandatory. Fill out all fields completely.

Mistake #5: Filing Multiple Forms Unnecessarily

Unless acting in multiple capacities (e.g., QI and non-QI), file one Form 1042 consolidating all information.

Mistake #6: Amending to Recover Prior Year Overwithholding

Do not amend prior-year returns for overwithholding.
Use the reimbursement or set-off procedures instead.

What Happens After You File

Processing Time

Expect IRS processing to take several weeks to months.

Refunds and Overpayments

If line 70 shows an overpayment, you can:

Request a refund, or
Apply credit to next year's Form 1042 (2017)

Balance Due

If you owe tax:

Include payment with Form 1042 (if less than $200)
Do not include penalties or interest—IRS will bill separately

Notices and Audits

IRS may issue notices if discrepancies arise between your Form 1042, Forms 1042-S, and EFTPS deposits.
Audits often review treaty claims and documentation compliance.

Recordkeeping

Keep all relevant records for at least 3–6 years.
Longer if errors or fraud are suspected.

Penalties for Non-Compliance

Late filing: 5% per month (max 25%)
Late payment: 0.5% per month (max 25%)
Additional penalties: Possible for negligence or fraud under IRC §§6662 and 6663

FAQs

Q1: Do I need to file Form 1042 if I didn’t withhold any tax?

Yes. If you filed Forms 1042-S reporting payments to foreign persons, you must still file Form 1042.

Q2: What’s the difference between Chapter 3 and Chapter 4 withholding?

Chapter 3: Traditional withholding on nonresident aliens and foreign entities (typically 30%)
Chapter 4: FATCA-related withholding on noncompliant FFIs

Q3: Can I file Form 1042 electronically?

For 2016, Form 1042 had to be filed by paper mail.
However, if you file 250+ Forms 1042-S, those must be filed electronically.

Q4: What if I discover I over-withheld tax after filing?

If before March 15, adjust using undeposited amounts.
Afterward, use reimbursement or set-off procedures.
Do not amend unless authorized (QI/WP/WT/FFI cases).

Q5: What happens if I miss the March 15 deadline?

Penalties:

5% per month (filing)
0.5% per month (payment), up to 25% total

Q6: How long does an EFTPS deposit take?

Initiate transactions by 8 p.m. ET the day before due date.
Same-day wire payment through FTCS is possible with setup.

Q7: Do foreign recipients need to attach Form 1042-S to their returns?

Yes.
Foreign recipients must attach Copy C of Form 1042-S to claim withheld tax credits.

Additional Resources

Disclaimer:
This guide provides general information only and should not be considered legal or tax advice.
Consult a qualified tax professional or attorney for guidance specific to your situation.