On July 14, 2011, I attended an IRS Webinar conducted by IRS lawyers Tenille Francis and Stephen Tackney. Entitled "The Ins and Outs of IRC Section 3402(t)," the webinar focused on government contractor withholding requirements under IRC Section 3402(t). This was a new issue for me, and after the seminar I still had many unanswered questions, so I did some follow-up reading. I was particularly interested in the impetus for the withholding rule's enactment, as well as the reasons for the implementation delay, neither of which were really addressed during the webinar. For others who are not familiar with IRC Section 3402(t), and its controversial requirements and status, I provide the summary below.
IRC Section 3402(t) became a part of the Internal Revenue Code by the Tax Increase and Prevention and Reconciliation Act of 2006, P.L. 109-222 ("TIPRA"). It requires that federal, state, and local government entities withhold three percent on payments made for property or services after December 31, 2010. The implementation date for withholding was subsequently changed by statute to payments after December 31, 2011, and final regulations issued under Treasury Decision 9524 again delay the implementation date to payments after December 31, 2012. See 76 FR 26583 (May 9, 2011). The enunciated reasons for the multiple delays were, in general, to ensure that administrative burdens associated with the new rule were well formulated and understood.
The withholding rule was included in TIPRA as a means to prevent government payments to contractors with outstanding tax debts. There is a $10,000 threshold for the three percent withholding to apply and multiple smaller payments are not aggregated for purposes of this threshold. See 76 FR 26583. The specific government entities subject to the rule are defined in Treasury Regulation 31.3042(t)-2. Certain payments, such as payments by small entities, are exempt from the withholding rule and are set forth in Treasury Regulation 31.3042(t)-4. In addition, under the recent final regulations, withholding is not required under existing written contracts in effect on December 31, 2012. See Treasury Regulation 31.3402(t)-1. The actual withholding process is modeled upon the withholding system for individual salaries and wages. The government entity would be expected to set aside three percent of the payment. The money would then be transferred to the IRS with appropriate forms.
The implementation delay has been cited by some critics as a sign that there are problems with the withholding law and that the law could be standing on shaky ground. See Nicola M. White, "Critics of Contractor Withholding Law Hope for Repeal," Tax Notes (May 16, 2011). The Obama administration expressed awareness in March 2011 of the significant administrative burden the new law would impose and stated that a reasonable implementation delay would be acceptable. See "Obama Administration Open to 'Reasonable Delay of Unpopular Contractor Withholding Tax," Tax Notes (March 21, 2011). There are multiple bills pending in Congress involving a repeal of the withholding scheme (see 2011 H.R. 674; 2011 S. 89; S. 164). In addition, there is a regulation proposed to provide that the existing contract exception in IRC Section 3402(t)-1 would not apply after 2013. See 76 FR 26678.
Although multiple delays have sparked the debate that the withholding plan may be dwindling in strength, there is no indication that any of the efforts to repeal IRC Section 3402(t) rules will be successful. The IRS Webinar focused exclusively on how to successfully comply with the withholding requirements when they do in fact take effect and it is clear that the IRS is preparing for the new withholding rule to be implemented. Practitioners, and the taxpayers they represent, should stay abreast of the developments in this area and should similarly ready themselves to comply with the new rule.
RELATED LINKS: For additional insight, see:
LexisNexis Tax Advisor - Federal Code IRC § 3402.
For further discussion on withholding requirements in general, including withholding under IRC Section 3402(t), see Bender's Federal Tax Guidebook § 72.01 (Matthew Bender 2011).
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