Payees and backup withholding
If you read the previous article about backup withholding, some of this will sound familiar. Put simply, backup withholding imposes an additional withholding tax on recipients of certain types of passive income. Under-reporting income or inaccurate information on tax filings trigger this additional tax. Recipients bear the brunt of it, but how do payers like other financial firms handle backup withholdings? Let’s take an example:
Dak Wilson has stock investments managed by Orange County-based Third Foundation. Dak annually earns income from dividends of those investments, which Third Foundation pays to him. Dak originally submitted tax forms to Third Foundation with an SSN typo that was overlooked. The IRS attempted to contact Dak by mail 4 times to amend the error. After the 4th notice, the IRS additionally notified Third Foundation that Dak Wilson is now subject to a backup withholding due to his incorrect SSN information. Third Foundation must start applying the backup withholding (a flat 28% as of 2016) on Dak’s investment income until they are notified by the IRS to cease the additional withholding.
The backup withholding occurred through the incorrect information provided by Dak Wilson (the payee) to Third Foundation (his payer) for the dividends to be payed to him. Third Foundation must also notify Dak that a backup withholding was made within 15 days of the first payment that was subject to it. Publication 1281 goes into greater detail regarding the processing of backup withholding to the IRS.
Backup withholding is an unpleasant circumstance to fall into. As a payee, it’s additional income out of your pocket. Payers must also process the additional paperwork. Having a knowledgeable support team, like our team at MiklosCPA, can help avoid or rectify these kinds of issues. We are a California-based accounting firm with depth of knowledge and experience in supporting small businesses through their accounting and taxation needs. If you would like to learn more about our services, please do not hesitate to reach out!