What Does Backup Withholding Tax Mean?

Backup withholding is a mechanism the Internal Revenue Service (IRS) employs to ensure taxes are collected on specific types of income not typically subject to regular wage withholding. This measure prevents tax underpayments when certain reporting requirements are not met by taxpayers, securing tax compliance for payments that might otherwise escape the IRS’s immediate attention.

What is Backup Withholding

Backup withholding is a flat-rate tax applied to certain non-wage income payments, distinguishing it from income tax withheld from an employee’s paycheck. It applies to various types of income reported on Forms 1099, such as interest (Form 1099-INT), dividends (Form 1099-DIV), royalties, rents (Form 1099-MISC), and payments to independent contractors (Form 1099-NEC). The current flat tax rate for backup withholding is 24% as of 2024 and 2025. This withholding primarily targets individuals and certain entities, but generally not corporations. Payers, such as banks or businesses, are required to withhold this tax and remit it to the IRS on behalf of the recipient.

Common Triggers for Backup Withholding

Backup withholding is initiated under specific circumstances. One primary trigger is the failure to provide a correct Taxpayer Identification Number (TIN) to the payer. A TIN can be a Social Security Number (SSN), Employer Identification Number (EIN), or Individual Taxpayer Identification Number (ITIN). Providing an incorrect TIN, or one that does not match IRS records, will also activate backup withholding. Another common trigger occurs when a taxpayer fails to certify that they are not subject to backup withholding. This certification is made on Form W-9, where individuals confirm their TIN is correct and that they have not been notified by the IRS of underreported interest or dividends. Finally, the IRS may directly notify a payer to begin backup withholding if the taxpayer has significantly underreported interest or dividend income on past tax returns. The IRS issues multiple notices over a 120-day period before this type of withholding begins.

Preventing and Stopping Backup Withholding

Preventing backup withholding depends on accurately providing necessary tax information to payers. When opening new accounts, making investments, or beginning services that generate reportable income, individuals complete Form W-9, Request for Taxpayer Identification Number and Certification. This form requires providing a correct Taxpayer Identification Number (TIN) and certifying that one is not subject to backup withholding due to underreporting. Submitting a complete and accurate Form W-9 is the most effective way to avoid backup withholding.

If backup withholding has already begun, stopping it involves addressing the specific reason for its imposition. If it’s due to an incorrect TIN, submitting a new, correct Form W-9 to the payer will resolve the issue. For situations involving IRS notification due to underreported income, the taxpayer must resolve the underreporting issue directly with the IRS, which might involve filing missing returns or amending previous ones. Once the underlying issue is corrected, the payer can be notified to cease the withholding.

Claiming a Refund for Backup Withholding

Backup withholding functions as an advance payment of taxes, similar to estimated tax payments or wage withholding. Any amounts withheld are reported to the taxpayer on various Form 1099s, such as Form 1099-INT for interest or Form 1099-NEC for nonemployee compensation. These forms show the amount of federal income tax that was withheld. When an individual files their annual income tax return (Form 1040), they report the total amount of backup withholding taken throughout the year. This amount is treated as a credit against their overall tax liability. If the total backup withholding, combined with any other tax payments, exceeds the actual tax owed for the year, the taxpayer will be eligible to receive a refund.