In the United States, backup withholding is a mandatory 28% tax withholding applied by payers when certain IRS requirements are not met. Instead of paying the recipient, the payer must withhold funds and send them directly to the IRS. Backup withholding applies in several key situations.
Situations Requiring Backup Withholding
1. Payee Fails to Provide a Correct TIN
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If the payee does not furnish a valid Taxpayer Identification Number (TIN), backup withholding must begin.
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Payers can use IRS TIN Matching to verify accuracy.
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If the TIN is incorrect, withhold 28% until the correct TIN is provided.
2. IRS Issues a “B Notice”
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The IRS sends a “B Notice” if a payee’s TIN does not match IRS records.
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First “B Notice”: send it with a new Form W-9 to the payee.
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Second “B Notice”: the payee must contact the IRS or SSA to obtain the correct TIN.
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Backup withholding continues until a valid, certified TIN is furnished.
3. IRS Identifies Underreporting
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If the IRS determines that a payee has underreported taxable income, it may require backup withholding.
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The payer receives a letter instructing continued withholding until further notice.
4. Payee Fails to Certify Exemption
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If a payee does not certify that they are exempt from backup withholding, the payer must withhold.
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Failure to comply may result in penalties for the payer.
Additional Notes
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Some states (e.g., California) require an additional 7% backup withholding if federal withholding applies.
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Backup withholding does not apply to wages or pension payments.
Key Takeaway
Backup withholding ensures the IRS collects taxes when payee information is missing, incorrect, or when underreporting occurs. Payers must comply to avoid penalties and liability for uncollected amounts.