Friday, September 22, 2023

This IRS tax form could cost you 24%

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Shreya Christina
Shreya has been with for 3 years, writing copy for client websites, blog posts, EDMs and other mediums to engage readers and encourage action. By collaborating with clients, our SEO manager and the wider team, Shreya seeks to understand an audience before creating memorable, persuasive copy.

An IRS Form W-9 verifies your taxpayer ID number, usually your Social Security number, or for a business, your employer identification number. Before you get paid, many companies will ask for this form so that they can provide you with an IRS Form 1099. If you want to get paid, it can be a mistake to refuse to hand over a Form W-9. The IRS says that at any time a payer thinks they may need to report a payment on an IRS Form 1099, they must ask for a Form W-9. If they fail to sign one, they may have to withhold tax from the payment, even if you are not an employee.

This 24% “backup withholding” is the usual consequence of refusing to hand over a Form W-9. Forms 1099 allow computer comparison of Social Security numbers and dollar amounts paid and received, streamlining IRS collection efforts. Failure to report (or at least explain) a Form 1099 on your tax return will trigger an IRS notice asking you for an explanation or payment. So if you receive a 1099 form, report it, even if you claim the money should be tax-free.

Suppose an attorney settles a case for $1 million, with payment into the attorney’s trust account. Suppose that 60 percent is for the client and 40 percent is for the lawyer. The attorney will certainly receive a Form 1099 with the full $1 million as gross proceeds. The attorney can report the $400,000 fee as income without worrying about computer matching since gross proceeds do not count as income. The customer is not so lucky. Unless the settlement is a non-income settlement (for example, compensatory damages for personal bodily harm) or a capital recovery, the client will likely receive a Form 1099-MISC (probably in Box 3) for the full $1 million.

The client must then figure out how to deduct the $400,000 in legal fees, if allowed. Since 2018, it has become more difficult in many cases to find a way to claim legal expenses. As a result, Forms 1099 are even more important. Can you get around the tax return by being coy about your Social Security number or taxpayer ID number? Maybe, but it can be pretty hard to do, if you want to get paid. Each Form 1099 requires taxpayer identification numbers, so attorneys are often asked to provide payers with their law firm’s ID numbers and that of their clients.

Usually, the request is to sign and return a Form W-9. Do lawyers and clients have to agree? Usually, if they disagree, the money simply isn’t paid, or the payer withholds 24% and sends it to the IRS. Still, the Form W-9 can make you uncomfortable. A claimant in a personal injury case who has just obtained the consent of the defendant not to issue a Form 1099 will make you wonder why you would issue a Form W-9? After all, the purpose of Form W-9 is to provide and verify the taxpayer’s Social Security Number.

Doesn’t having the form necessarily mean the defendant will issue a Form 1099? Usually, but not always. It could just mean that this defendant will not pay anyone anything without a signed form. In addition to providing a beneficiary’s Social Security number, Form W-9 certifies that the recipient is a U.S. citizen or tax resident and therefore is not subject to the hefty reporting and withholding obligations often required for payments to non-Americans.

That’s why many companies have a policy of requiring signed Forms W-9 for: each payment. It doesn’t seem to be invoked often, but there is a potential penalty for refusing to provide a signed W-9 form when asked. If a payee is asked to provide a taxpayer identification number and fails to provide it to a paying party, they will be subject to a $50 fine for any failure to provide that information. A more effective remedy is probably the threat of 24% backup withholding. A payee who provides false or inaccurate information, or refuses to provide a Form W-9 when requested, is subject to backup withholding from the payments.

When a payer needs a W-9 form, it’s usually not worth fighting over, especially if there’s already an agreement about which Form 1099 will be issued. Disputes over Forms 1099 are common. The Form 1099 regulations are complex, leading many companies to make mistakes when issuing the forms. Recipients may not like this, and lawsuits are occasionally filed for the issuance of Forms 1099. Most such lawsuits don’t seem to go very far, perhaps precisely because it is often possible to justify whatever has been issued. So, while you may need to provide an IRS Form W-9 to get paid, try to troubleshoot Form 1099 if possible. You may be able to agree which forms will be issued.

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