It is common knowledge that W-9 tax forms are used to prepare annual 1099 tax forms for services provided by non employees. Similar to the W-2 tax form, the payee uses the 1099 form to prepare annual tax returns due to the IRS by April 15. The payer also submits the 1099 forms to the IRS by February 28 to be matched against the payee’s tax return to identify unreported taxable income. Both the payer and payee have a responsibility in this dual reporting process; noncompliance or errors could result in penalties and interest for either party. The IRS regulations stipulates when a 1099 tax form is required. However, the rules do not provide guidance on the collection process for the W-9 tax form which may vary by each organization. Thus, the reason for the W-9 tax form dilemma.
CASE STUDY
Some clients describe the 1099 filing season as chaotic, difficult and labor intensive for the following reasons:
- A complete review of “Total Payments by Vendor with 1099 Payments by Vendor Reports” to identify errors; could be time-consuming depending on number of vendors.
- Vendors refuse to submit a W-9 form for payments equal to or exceeding $600.
- Transactions entered incorrectly in the accounting module requires manual adjustments to generate a 1099 form.
- Vendors who do not receive a form by January 31st request a form to file their taxes.
- Inconsistent treatment of expense reimbursement to vendors resulting in errors and telephone calls.
- Corrections to 1099 forms already reported to the IRS requires edits.
- The IRS issues a B-Notice to the payer; the tax data and name does not match on the 1099 tax form.
- The IRS assess penalties and interest to the payer for incorrect or missing 1099 forms.
WHY EXEMPT VENDORS MAY RECEIVE A REQUEST FOR A W-9 TAX FORM
It is not unlawful or against IRS regulations to request a W-9 tax form from exempt vendors. However, all organizations should comply with the request, including exempt vendors such as corporations or non-profit organizations. Following is a list of reasons for this request:
- Zero tolerance for risk of noncompliance; therefore, all vendors require a W-9 tax form be on file prior to receiving payment. In some cases, a 1099 tax form may be filed for all vendors regardless of tax status.
- Difficulty in determining the vendor’s federal tax status. For example, a limited liability company may elect a different tax status.
- Confirm business is a legal entity with a valid social security number, employer identification number (EIN) or an individual tax identification number (ITIN) for resident aliens.
- Eliminate decision process, especially for inexperienced or limited staff resources.
Recommendation
In preparation for the 1099 tax filing season and to avoid penalties and interest, we recommend a W-9 tax form or acceptable substitute document is on file for all vendors, including those who are exempt from receiving a 1099 tax form.
“Did you know that W-9 tax forms may be available online, such as Staples?”
Organizations may obtain W-9 tax forms online or information on their website to confirm citizenship for vendors exempt from receiving a 1099 tax form. Incorporated companies may provide articles of incorporation to confirm their federal tax status and/or citizenship. If either alternate does not work, request W-9 tax form.
We further recommend the following:
- Include W-9 tax form or acceptable alternative document requirements in all contracts; including policy for updating them.
- Apply 28% backup tax withholding on payments without a W-9 tax form or alternate document on file.
- File physical or electronic copy of W-9 forms separately for ease of retrieval in case of an audit and/or to answer possible IRS B-notices regarding 1099 tax forms.
- Establish a review and approval process to properly capture 1099 transactions in the accounting system.
- Establish a consistent process for expense reimbursements to vendors.
- Prepare 1099 tax forms for total payments equal to or greater than $600 for the following:
- Freelancers, consultants and independent contractors.
- Attorneys not classified as an employee or included in your pension plan.
- Limited liability companies taxed as sole proprietor or partnership.
- C-corporations who provide medical and healthcare services.
- Merchandise corporations who also provide services such as installation, training, technical support that is included in the price.
- Include in File Retention Policy that all W-9 tax forms received are maintained for three (3) years and four (4) years for those that were subject to a backup tax withholding.
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Transitional Accounting Services acknowledges that this blog is for information only. These best practice recommendations should be implemented from a practical standpoint which requires an understanding of your organization. Let us know if we may be of further assistance.