Withholding tax is money that a payer deducts from a payment and sends directly to the tax authority on the recipient's behalf, rather than the recipient receiving the full amount and settling the tax later. It is a collection mechanism that improves compliance and smooths government cash flow, and it applies both to domestic wages and to cross-border income.
The most familiar form is payroll withholding, where an employer removes income tax and social security contributions from each paycheck. In the US this is the W-4 system; in the UK it is PAYE. Withholding also applies to passive income leaving a country. A company paying a dividend, interest or royalty to a foreign investor typically withholds a percentage at source.
Standard cross-border rates are often high, for example 30% in the United States or 26% in Italy, but tax treaties frequently reduce them. Suppose a US company pays a 10,000 dividend to a treaty-resident investor: instead of withholding 3,000 at the statutory 30%, a treaty might cut it to 15%, or 1,500.
- Domestic: PAYE and payroll deductions.
- Cross-border: dividends, interest and royalties.
Withheld amounts are usually credited against the final bill. Compare rates internationally with the compare taxes by country tool.