McDOWELL DILLON and HUNTER

The IRS has issued final regulations modifying reporting obligations for partnerships involved in Code Sec. 751(a) exchanges of partnership interests. The regulations remove the requirement that partnerships furnish transferors with certain information relating to unrealized receivables and inventory items by January 31 following the exchange year. The regulations are effective for returns filed for tax years ending on or after May 20, 2026.

Under Code Sec. 6050K, partnerships must file Form 8308, Report of a Sale or Exchange of Certain Partnership Interests, for transfers involving Code Sec. 751(a) property. The IRS and Treasury Department received comments that many partnerships could not determine the information required for Part IV of Form 8308 by the January 31 furnishing deadline. As a result, the final regulations remove Reg. §1.6050K-1(c)(2) and revise Reg. §1.6050K-1(c)(1) to permit partnerships to furnish Form 8308 completed in accordance with the form instructions.

Although partnerships are no longer required to furnish Part IV information to transferors and transferees by January 31, they must still file a completed Form 8308, including Part IV, with Form 1065. The IRS finalized the regulations without substantive changes from the proposed regulations issued in 2025.

T.D. 10048

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The IRS has issued guidance on qualified long-term care distributions from qualified retirement plans. The guidance affects providers of certified long-term care insurance (issuers), plan administrators, and individual participants receiving qualified long-term care distributions. The IRS also extended the general deadline for amending a plan to permit qualified long-term care distributions to December 31, 2027.

Background

The SECURE 2.0 Act of 2022 (SECURE 2.0 Act), permitted defined contribution plans to make qualified long-term care distributions, effective for distributions made after December 29, 2025. The 10 percent additional tax on early distributions would not apply to distributions under Code Sec. 401(a)(39). However, a qualified long-term care distribution would be included in the taxpayer’s gross income.

Disclosure Requirements

The guidance addresses content requirements and procedures for submitting an Issuer Disclosure to the IRS. There is no general deadline for submitting an Issuer Disclosure. However, an issuer must submit an Issuer Disclosure to the IRS before the issuer can file a long-term care premium statement with a defined contribution plan.

Distribution Requirements

Under the guidance, the plan administrator is permitted to rely on the issuer’s statement and the information provided on the long-term care premium statement in making a qualified long-term care distribution. It is optional for a plan to permit qualified long-term care distributions, but the exception to the 10% additional tax only applies if the plan permits qualified long-term care distributions, even if the employee uses a distribution to pay for long-term care insurance. Unlike other permitted distributions, a qualified long-term care distribution would not be eligible for an extended 3-year repayment to a retirement plan.

Reporting Requirements

The payment of a qualified long-term care distribution to an employee must be reported by the payor on Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit Sharing Plans, IRAs, Insurance Contracts, etc.

Further, issuers must make a return to the IRS using Form 1099-LPS, Long-Term Care Premiums Paid Statement. The issuer will report the long-term care premiums paid for the calendar year. The Form 1099-LPS must be filed with the IRS no later than February 1 of the calendar year following the calendar year the long-term care premium statement was filed with the plan.

Deadline Extension

The guidance extends the deadline for a plan sponsor of a defined contribution plan that is not a governmental plan, a section 403(b) plan maintained by a public school, or an applicable collectively bargained plan, to amend its plan to permit qualified long-term care distributions from December 31, 2026, to December 31, 2027. The deadlines to amend defined contribution plans that are applicable collectively bargained plans or governmental plans remain as provided in Notice 2024-02. Thus, Notice 2024-2, I.R.B. 2024-2, 316, is modified in part.

Notice 2026-33

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The IRS finalized regulations treating income derived by individual members of an Indian tribe from fishing rights-related activities as compensation for purposes of limitations on benefits and contributions under a qualified retirement plan. These regulations are effective for plan years beginning on or after May 4, 2026, and affect participants, beneficiaries, sponsors, and administrators of Tribal plans.

Fishing rights-related income is exempt from federal income tax and employment tax under Code Sec. 7873. However, proposed reliance regulations would allow contributions to be made to qualified retirement plans based on fishing rights-related income. Also, plans that accept contributions of fishing rights-related income may still use safe harbor definitions of compensation. The IRS finalized this rule as proposed without material modification.

Although the final rule is somewhat limited in scope, the IRS addressed additional issues in the preamble. The IRS clarified that plan contributions attributable to a Tribal employee's fishing rights-related activiity is treated as investment in the contract under Code Sec. 72 . Thus, distributions of the amount contributed would generally be tax-free (subject to basis recovery rules) and distributions attributable to earnings would be taxable. The IRS also indicated that plans that permit designated Roth contributions may allow contributions attributable to fishing rights-related activity to be made on a Roth basis.

T.D. 10046

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The IRS has introduced a streamlined option allowing taxpayers to extend the time to challenge disallowed Employee Retention Credit (ERC) claims, reducing the need for immediate refund litigation. The measure applies to taxpayers who received Letter 105-C or 106-C, are awaiting review by the IRS Independent Office of Appeals and have six months or less remaining in the statutory two-year period.

Taxpayers generally have two years from the disallowance notice to resolve the claim or file a refund suit, but an administrative appeal does not suspend this deadline. Once the period expires, the IRS cannot issue a refund even if the taxpayer later prevails. To address this, eligible taxpayers may execute Form 907, Agreement to Extend the Time to Bring Suit, provided it is signed by both parties before the limitation period ends.

The IRS now permits submission of Form 907 through its Document Upload Tool, with qualifying requests reviewed and confirmed in writing. While the IRS is issuing notices to eligible taxpayers, others meeting the criteria may also apply. The agency indicated that the initiative is intended to preserve taxpayer rights and facilitate administrative resolution of ERC disputes.

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The IRS has established a significant issue ruling program for cerain corporate transactions (Rev. Proc. 2026-21). This program would not diminish the availability of letter rulings under existing programs. This procedure modifies and amplifies the ruling procedures provided in Rev. Proc. 2026-1, I.R.B. 2026-1, 1, and Rev. Proc. 2026-3, I.R.B. 2026-1, 143.

The significant issue ruling program allows taxpayers to request rulings on one or more issues that:

are solely under the jurisdiction of the Associate Chief Counsel (Corporate);
are significant issues, as defined in section 4.02 of Rev. Proc. 2026-21; and
involve the tax consequences or characterization of a transaction (or part of a transaction) that is described in Code Sec. 332, 351, 355, 368, or 1036.

Significant Issue Ruling Program

Taxpayers may request, and the IRS may issue, a ruling on part of an integrated transaction described in the above provisions, or a ruling on a particular legal issue under a section of the Code or regulations with respect to a transaction (or part thereof) rather than a ruling that addresses all aspects of that section (or any other section) with respect to the transaction (or part thereof).

In addition, the IRS may rule on the tax consequences resulting from integrated transactions described in the above provisions to the extent that a significant issue is presented under related Code sections that address such tax consequences.

A significant issue generally is a germane and specific issue of law, provided that a ruling on the issue would not be a comfort ruling or the conclusion in such a ruling otherwise would not be essentially free from doubt.

The requests for ruling must contain (1) narrative description of the transaction that puts the significant issue in context; (2) statement identifying the issue; (3) analysis of the solvability of issue; and more.

Effect on Other Documents

Rev. Proc. 2026-1 and Rev. Proc. 2026-3 are modified and amplified.

Effective Date

The significant issue ruling program applies to all letter ruling requests described in section 4.01 of Rev. Proc. 2026-21 postmarked or, if not mailed, received by the IRS after May 5, 2026.

Rev. Proc. 2026-21

Other References:

Code Sec. 332
CCH Reference - FED ¶16,052.188

Other References:

Code Sec. 351
CCH Reference - FED ¶16,405.48

Other References:

Code Sec. 355
CCH Reference - FED ¶16,466.923

Other References:

Code Sec. 368
CCH Reference - FED ¶16,753.53

Other References:

Code Sec. 1036
CCH Reference - FED ¶29,702.11

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The IRS has announced a new time-limited settlement opportunity for eligible taxpayers involved in conservation easement and historic preservation easement disputes with the IRS. The program aims to resolve cases faster and on terms that are generally more favorable than recent Tax Court decisions.

The IRS has announced a new time-limited settlement opportunity for eligible taxpayers involved in conservation easement and historic preservation easement disputes with the IRS. The program aims to resolve cases faster and on terms that are generally more favorable than recent Tax Court decisions. Since 2020, the IRS has settled 405 cases through earlier initiatives, although taxpayers still had to pay penalties and were allowed only limited deductions for certain out-of-pocket costs. More than 1,100 conservation easement cases currently remain pending before the IRS and the Tax Court. Under the new initiative, many eligible partnerships will not have to make an upfront payment to participate. In addition, taxpayers whose earlier settlement offers expired or were rejected may now have another chance to resolve their cases, while some partnerships that were not previously eligible may also qualify. IRS Chief Executive Officer Frank J. Bisignano said Congress created the conservation easement deduction to encourage legitimate preservation efforts rather than tax shelters based on inflated property values.

The IRS said partnerships that accept the offer during the initial 90-day period generally will not be allowed a charitable contribution deduction, but they may qualify for a limited deduction tied to certain out-of-pocket expenses. Those partnerships generally would face a 10 percent gross valuation misstatement penalty, while partnerships settling during an additional 45-day period generally would face a 20 percent penalty. Interest also will continue to accrue as required by law. At the same time, the IRS noted that courts have repeatedly reduced claimed deductions and upheld significant penalties in conservation easement disputes. Certain cases, such as those already tried or currently under appeal, will not qualify for the initiative. The IRS added that eligibility will depend on the status and specific facts of each case.

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Following a 2026 tax filing season that was consistent with the 2025 season, the American Institute of CPAs offered legislators a series of recommendations to help improve filing season in the future.

“Based on limited and anecdotal information, many practitioners noted that the IRS appeared to operating consistently compared with the prior year’s service,” AICPA said in a recent letter to the Senate Finance Committee’s top leadership following a hearing on the 2026 tax filing season, adding that data currently available shows “tax return processing remained relatively consistent, though the quality of telephone services appeared to vary depending on the hotline.”

AICPA did observe that while Internal Revenue Service modernization efforts have allowed for consistent customer service levels compared to recent prior years, “IRS customer service has not returned to pre-COVID-19 pandemic levels according to IRS data and the AICPA’s most recent annual membership survey.”

With that, the industry organization offered recommendations in the areas of governance and oversight, taxpayer services, and dedicated practitioner services.

In the area of IRS governance and oversight, AICPA recommended the following:

Requiring a Government Accountability Office review to determine whether a private sector board with sufficient authority to hold the IRS accountable and oversee implementation of key recommendations from advisory groups;
Re-establish the annual joint hearing review to focus on strategic and business plans, taxpayer service and compliance, technology and modernization, and the filing season; and
The Joint Committee on Taxation should provide a bi-annual report on the overall state of the Federal tax system.

In the area of taxpayer service, the following recommendations were offered:

Hire more qualified and experienced professionals from the private sector, adequately train all agency employees, skillfully manage IRS resources, and ensure organizational alignment between Congress, the executive branch, and the IRS;
Congress should determine what the appropriate level of service is and then ensure that the appropriate resources are allocated to achieve that level;
Continue to improve the technology infrastructure modernization; and
Effectively utilize customer satisfaction surveys to assess IRS performance, improve the taxpayer experience, and effectuate modernization efforts or process improvement.

AICPA pushed for the passage of the Taxpayer Assistance and Services Act, which it states “would significantly improve IRS services, reinforce fairness and transparency in our tax system, and reduce tax administrative burdens on taxpayers and practitioners, including many critical tax provisions for which AICPA has previously advocated.”

In the area of dedicated practitioner services, AICPA recommended:

Create consolidated dedicated “executive-level” practitioner services comparable to private sector services that are implemented and adapted based on practitioner feedback solicited periodically; and
Continue to expand the functionality of a robust and enhanced tax professional account as part of the IRS’s online portal with account access to all of a practitioner’s client information, allowing for IRS to communicate directly with authorized practitioners, enable a centralized login system, and prioritize the protection and privacy of user identities and data;
Provide practitioners with a robust practitioner priority hotline with high-skilled employees capable of resolving complex technical and procedural issues; and
Assign customer service representatives to each geographic area to address unusual or complex issues that practitioners were unable to resolve through the priority hotlines.

The letter to the Senate Finance Committee leadership and other AICPA 2026 tax policy and advocacy comment letter can be found here.

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The Patient Protection and Affordable Care Act (PPACA)-the Obama administration's health care reform law-was enacted in 2010 and many of its provisions have taken effect. But other important provisions will first take effect in 2014 and 2015. These provisions of the law will require affected parties to take action-or at least to be aware of the law's impact-in 2013 and 2014. These provisions affect individuals, families, employers, and health insurers, among others.

Individual mandate

The individual mandate will apply beginning in 2014. The mandate applies separately for each month. Individuals and their dependents must either carry health insurance or pay a penalty, known as the individual shared responsibility payment. The health insurance must qualify as minimum essential coverage (MEC). Most employer-offered plans, as well as Medicare and Medicaid, qualify as MEC. Certain groups are exempt from the individual mandate, including members of a health sharing ministry, taxpayers without an income tax filing requirement, members of federally-recognized Indian tribes, and persons for whom coverage is unaffordable (more than eight percent of the individual's household income).

Exchanges

Affordable health insurance marketplaces (exchanges) are ramping up and will be open for business October 1, 2013. Exchanges will provide an open enrollment season during which individuals and families without health insurance can sign up for an insurance policy offered through the exchange, effective January 1, 2014. Anyone needing insurance, or looking for cheaper insurance, can use an exchange. Persons who obtain coverage through an exchange will avoid owing a penalty under the individual mandate. Employers have to start notifying existing employees about the existence of exchanges by October 1, 2013, and must notify new employees when hired.

Low-income individuals and families who purchase insurance through an exchange may qualify for the health insurance premium tax credit for 2014 if their household income falls between 100 percent and 400 percent of the federal poverty level for 2013. Individuals who do not have a filing requirement for 2013 do not need to file a return to qualify for the credit. Individuals will generally self-certify as to their eligibility for the credit. Based on this information, the exchange will determine whether the insured person qualifies for the credit. Taxpayers may qualify for an advanced credit; in this case, the exchange will pay the credit directly to the insurer during 2014 to offset a portion of the health insurance premium.

Small employer credit

Small employers may be able to claim the maximum small employer health insurance credit, if the employer has 10 or fewer employees and average wages per employee of $25,000 or less. While the credit has been around since 2010, the amount of the credit increases for 2014 and 2015 to 50 percent of premiums paid for taxable employers, and 35 percent for nonprofit employers.

Employer mandate

The employer mandate (the employer shared responsibility payment) was scheduled to take effect in 2014, but the IRS postponed it until 2015. Nevertheless, during 2014 employers will want to start paying attention to whether they would qualify as an "applicable large employer" (ALE), since status as an ALE for 2015 depends on 2014 employees. An employer who has 50 or more full-time equivalent employees is an ALE. New employers will be treated as an ALE if they "reasonable expect" to have 50 employees. Employers that are members of an affiliated group of companies under Code Sec. 414 must determine their status as ALEs based on the number of employees in the group.

Employers will also want to look at their health insurance offerings. Once the employer mandate applies, employers must offer MEC to 95 percent of their full-time employees. The coverage must also be affordable and must provide minimum value. Employers should look at whether they need to redesign their plan offerings or change the employees' share of the cost to comply with these requirements. If the employer's coverage does not satisfy these requirements, if the employee purchases insurance through an exchange, and if an employee qualifies for the insurance premium tax credit, the employer may be responsible for the employer mandate and owe a penalty.

Employer reporting. The requirements for employers and insurers to report health insurance coverage provided to employees and others were also postponed until 2015. Nevertheless, the IRS is encouraging health insurer issuers to experiment with the requirements by filing the necessary reports for 2014. Larger employers also have to report the value of their health insurance coverage on the employee's Form W-2. The amount reported is not taxable.

Wellness programs. Beginning in 2014, employers may offer wellness programs as part of their health care benefits offered to employees. Employers may offer benefits, such as premium reductions, to employees who satisfy certain health-related requirements.

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The American Taxpayer Relief Act of 2012, signed into law on January 2, 2013, extended the American Opportunity Tax Credit through (and including) the 2017 tax year. The credit, which is an enhanced version of the Hope tax credit for tuition, allows taxpayers to claim a credit against federal income taxes for costs of tuition and other qualified educational expenses paid for the taxpayer, his or her spouse, or a dependent claimed on the tax return who is enrolled at an eligible educational institution. An eligible educational institution would include any accredited public, nonprofit, or private college, university, vocational school, or other post-secondary institution.

The maximum American Opportunity Tax Credit amount is $2,500 per eligible student per year, and it is available for each of the first four years of a student's post-secondary education. (This represents an increase from the Hope credit maximum amount of $1,800 for each of the first two years of post-secondary education.)

The American Opportunity Tax Credit amount is not $2,500 across the board for each claimant, however. Broken down, the maximum credit amount is more accurately stated as being 100 percent of the first $2,000 of qualified tuition and related expenses, plus 25 percent of the next $2,000 of qualified tuition and related expenses. If, by way of an example, a taxpayer had only $3,000 of total qualified tuition and other related expenses, the maximum credit amount the taxpayer could claim would be $2,250. In addition, the credit is also partially refundable if a taxpayer's total tax liability is less than the amount of the credit. Up to 40 percent of the credit amount is refundable.

The American Opportunity Tax Credit v. other educational benefits

The American Opportunity Tax Credit is one of several education tax benefits available to taxpayers, but because it cannot always be used in conjunction with these other benefits, taxpayers should compute their tax savings for each tax benefit and then decide which one claim. For example, a taxpayer cannot claim a tuition and fees tax deduction in the same taxable year that he or she claims either the American Opportunity Tax Credit or the Lifetime Learning Credit. Neither can a taxpayer claim the Lifetime Learning Credit for any student if he or she has opted to claim the American Opportunity Credit for that same student for the same tax year.

A taxpayer may, however, claim both an education tax credit and take distributions from a Coverdell Education Savings Account or a Qualified Tuition Program. The taxpayer must, however, subtract any qualified expenses used to figure the education credit from the amount of qualified expenses he or she subsequently uses to determine what portion of a distribution from a Coverdell ESA or a qualified tuition program is tax-free.

Before computing an education credit or deduction, the taxpayer should also determine whether or not the credit can be used towards those particular educational expenses. For example, the American Opportunity Tax Credit can be used not just toward tuition, but also toward expenses for books, equipment, and supplies that are required for coursework, but are not required as a condition of enrollment. The Lifetime Learning Credit on the other hand cannot be used for such expenses unless they are a condition of enrollment. However, the American Opportunity Tax credit can only be used for qualified education expenses incurred during each of the first four years of post-secondary education, whereas the Lifetime Learning Credit can be used toward graduate school expenses.

Other differences include that the American Opportunity Tax Credit can be used on a per student basis, meaning if one household has two qualified students, the tax return can claim two American Opportunity Tax Credits. But only one Lifetime Learning Credit can be claimed per return.

The American Opportunity Tax Credit, however, imposes a requirement that the student for whom the credit is claimed has no felony drug convictions. The Lifetime Learning Credit has no such requirement.

We will assume for now that the taxpayer has decided to go ahead and calculate the amount he or she can claim for an American Opportunity Tax Credit. The next question to ask is whether a taxpayer's adjusted gross income (AGI) falls beneath the phase-out limit. The credit was designed for lower- and middle- income families, meaning higher-income families generally cannot claim the credit.

Who is eligible?

A taxpayer can claim the American Opportunity Tax Credit for qualified expenses paid by the taxpayer for the post-secondary education of the taxpayer, the taxpayer's spouse, or the taxpayer's claimed dependent for the tax year for which the credit is claimed. There is a threshold on the amount of adjusted gross income (AGI) a taxpayer can have before the credit amount begins to phase out. The credit amount begins to phase out for single filers, heads of household, and qualifying widowers with AGI of $80,000 and completely phases out for these taxpayers if their AGI exceeds $90,000. The threshold range for married taxpayers who file jointly is from $160,000 to $180,000. Married taxpayers who file separately cannot claim the credit.

Computing the credit

Step One: Computing total qualified education expenses. In order to compute the amount of the American Opportunity Tax Credit a taxpayer must first add up all his or her qualified education expenses. Generally, qualified education expenses are amounts paid during the tax year toward tuition and fees required for the student's enrollment or attendance at an eligible educational institution. Often an educational institution will issue to the taxpayer a Form 1098-T, Tuition Statement, which includes the amount of tuition a taxpayer paid for that tax year. However, the IRS has warned that this amount can differ from the amount the taxpayer actually paid. For purposes of computing the credit, the IRS directs the taxpayer to use only the tuition amounts that he or she actually paid during the tax year.

Qualified education expenses do not include costs of room and board, insurance, medical expenses (including student health fees), transportation, and other similar personal, living, or family expenses. The costs associated with courses involving sports, games, or hobbies, or any noncredit course are generally not qualified education expenses unless such course or other education is part of the student's degree program. As we stated above, taxpayers calculating the American Opportunity Tax Credit can also include amounts spent on books, supplies, and equipment that are required for a course of study in their qualified education expenses.

Step Two: Adjusting the amount of qualified educational expenses. The taxpayer must subtract from his or her total qualified educational expenses amounts received as tax-free educational assistance received during the tax year that are allocable to the particular academic period in question. Tax-free educational assistance includes:

The tax-free part of any scholarship or fellowship;
The tax-free part of any employer-provided educational assistance;
Tax-free veterans' educational assistance, and
Any other educational assistance that is excludable from gross income (tax free).

"Tax-free" assistance does not include a gift, bequest, devise, or inheritance. It also does not include any portion of a scholarship or fellowship that must be included in gross income.

If after making these adjustments the amount of qualified education expenses exceeds the maximum credit of $2,500, the taxpayer can only claim $2,500. If the amount is lower than $2,500, the taxpayer can claim the whole amount. (Or less, if the taxpayer's AGI is within the phase-out range. See Step Three, below.)

Step Three: Calculating any phase-out of the credit. A taxpayer whose AGI falls within the phase out ranges must reduce his or her credit amount ratably. To do this, the taxpayer should subtract his or her AGI from the top threshold amount ($180,000 for married joint filers; $90,000 for single filers, heads of household, and qualifying widowers). Next the taxpayer must divide the difference by either $20,000 (married joint filers) or $10,000 (single filers, heads of household, and qualifying widowers). The resulting quotient should be multiplied by the total amount of qualified education expenses after adjustments for tax-free educational assistance. The product of that should be subtracted from the total amount of qualified education expenses, after adjustments. The result is the amount of the American Opportunity Tax Credit the taxpayer can claim.

For example, if a single taxpayer in 2012 had $85,670 in AGI, he or she must subtract that amount from the top threshold amount for single taxpayers ($90,000). Then he would take the difference ($4,330) and divide it by $10,000. The quotient is .433, meaning the taxpayer must reduce his American Opportunity tax credit amount by 43.3 percent. If, the amount of the taxpayer's qualified education expenses, after adjustments for scholarships, was $1,600, then the total credit amount that he could claim would be $891.20 because:

$1,600 - ($1,600 × .443) = $891.20

The refundable American Opportunity Tax Credit

If a taxpayer has a tax liability that is lower than the amount of the credit claimed, he or she may be eligible to receive a refundable tax credit of up to 40 percent of the credit amount (a maximum of $1,000). This means, that beyond just lowering a taxpayer's federal tax liability, a portion of the full credit amount will be returned to the taxpayer in cash as part of the tax refund.

Another set of rules applies for purposes of determining who is eligible for the refundable portion. Generally the rules on refundability appear to be designed to benefit to low-income households with little or no tax liability. Thus, the refundable portion rules seem to exclude from eligibility single filing students, who may have some earned income from a summer job or work-study. The rules state that a taxpayer cannot receive a refundable American Opportunity Tax Credit if the taxpayer:

Is under age 18 at the end of the tax year; or
Is over age 18 at the end of the tax year and has income that was less than one-half of the taxpayer's support; or
Is between age 18 and 24 at the end of the tax year, a full-time student, and has earned income that was less than one-half of his or her support; and
Has at least one living parent at the end of the tax year; and
Is not filing a joint return for 2012.

If the taxpayer is eligible for the refundable portion, the taxpayer multiplies the total amount of qualified educational expenses, after adjustments, that he or she is able to claim as an American Opportunity Tax Credit by 40 percent (or .40). That product becomes refundable and is entered onto Form 1040, line 66, in the Payments section of the tax return.

The rules for computing education credits and deductions can be confusing. Please contact our offices with any questions.

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Most people are familiar with tax withholding, which most commonly takes place when an employer deducts and withholds income and other taxes from an employee's wages. However, many taxpayers are unaware that the IRS also requires payors to withhold income tax from certain reportable payments, such as interest and dividends, when a payee's taxpayer identification number (TIN) is missing or incorrect. This is known as "backup withholding."

Backup Withholding in General

A payor must deduct, withhold, and pay over to the IRS a backup withholding tax on any reportable payments that are not otherwise subject to withholding if:

the payee fails to furnish a TIN to the payor in the manner required;
the IRS or a broker notifies the payor that the TIN provided by the payee is incorrect;
the IRS notifies the payor that the payee failed to report or underreported the prior year's interest or dividends; or
the payee fails to certify on Form W-9, Request for Taxpayer Identification Number and Certification, that he or she is not subject to withholding for previous underreporting of interest or dividend payments.

The backup withholding rate is equal to the fourth lowest income tax rate under the income tax rate brackets for unmarried individuals, which is currently 28 percent.

Only reportable payments are subject to backup withholding. Backup withholding is not required if the payee is a tax-exempt, governmental, or international organization. Similarly, payments of interest made to foreign persons are generally not subject to information reporting; therefore, these payees are not subject to backup withholding. Additionally, a payor is not required to backup withhold on reportable payments for which there is documentary evidence, under the rules on interest payments, that the payee is a foreign person, unless the payor has actual knowledge that the payee is a U.S. person. Furthermore, backup withholding is not required on payments for which a 30 percent amount was withheld by another payor under the rules on foreign withholding.

Reportable Payments

Reportable payments generally include the following types of payments of more than $10:

Interest;
Dividends;
Patronage dividends (payments from farmers' cooperatives) paid in money;
Payments of $600 or more made in the course of a trade or business;
Payments for a nonemployee's services provided in the course of a trade or business;
Gross proceeds from transactions reported by a broker or barter exchange;
Cash payments from certain fishing boat operators to crew members that represent a share of the proceeds of the catch; and
Royalties.

Reportable payments also include payments made after December 31, 2011, in settlement of payment card transactions.

Failure to Furnish TIN

Payees receiving reportable payments through interest, dividend, patronage dividend, or brokerage accounts must provide their TIN to the payor in writing and certify under penalties of perjury that the TIN is correct. Payees receiving other reportable payments must still provide their TIN to the payor, but they may do so orally or in writing, and they are not required to certify under penalties of perjury that the TIN is correct.

A payee who does not provide a correct taxpayer identification number (TIN) to the payer is subject to backup withholding. A person is treated as failing to provide a correct TIN if the TIN provided does not contain the proper number of digits --nine --or if the number is otherwise obviously incorrect, for example, because it contains a letter as one of its digits.

The IRS compares TINs provided by taxpayers with records of the Social Security Administration to check for discrepancies and notifies the bank or the payer of any problem accounts. The IRS has requested banks and other payers to notify their customers of these discrepancies so that correct TINs can be provided and the need for backup withholding avoided.

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