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What is Backup Withholding? How Do I Comply with Backup Withholding Rules?

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Question: What is Backup Withholding? How Do I Comply with Backup Withholding Rules?

Backup withholding is withholding that is taken from certain forms of payments and income by businesses and banks. If you are paying individuals and reporting those payments on Form 1099, you may be required to withhold taxes from some of these individuals, as backup withholding.

Answer:

What payments are subject to backup withholding?
Payments that may be subject to backup withholding include interest, dividends, rents, royalties, payments to independent contractors, and broker payments. For most businesses, payments to independent contractors are most likely to require backup withholding.

When must I withhold income taxes on a payment?
You as a business owner and payer must withhold taxes on a payment if:

  • The taxpayer has not given you a taxpayer identification number (Social Security Number, Employer ID Number, or Individual Taxpayer ID Number)
  • The IRS has notified you that the taxpayer ID number is incorrect
  • The IRS has notified you that the taxpayer has not reported all interest or dividend income in prior years
(There are several other circumstances that apply to banks and brokerages but not to businesses.)

How do I get the individual's taxpayer ID? What if the individual refuses or neglects to give the taxpayer ID number?
Use Form W-9 to request the identification number of the individual. If you do not receive the information, start backup withholding immediately and continue until you receive it.

How do I know how much to withhold?
The backup withholding rate is 28%, through the end of December, 2010. The rate was set to increase, but was held at 28% through 2011 by the Tax Relief Act.

How do I report the tax withheld?
First, you must file Form 945 with the IRS. You must also report the amount withheld to the payee on Form 1099.

How do I deposit the backup withholding amounts?
Generally the deposit rules for Form 945 are the same as those for Form 941 (payroll taxes). You are a semiweekly or monthly depositor, depending on the amount deposited. You may use the IRS e-file (EFTPS) system or make deposits using the deposit coupon. There are some special rules that relate to depositing backup withholding; read the Instructions for Form 945 for more information.

More About Backup Withholding

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