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Do You Have the Withholding Documentation You Need?

Nov 19, 2014

What types of payments are subject to withholding?

In our last post, John, the Tax Director at ABC Wire Harness International Inc., asked Jane to assist him in reviewing the withholding practices of ABC and to design and implement procedure that would ensure compliance with both the old and new withholding rules (Chapter 3 and 4 respectively)

To begin the process, Jane asked John to identify the parties within the ABC organization that had cash payment function.  John identified the Accounts Payable and Treasury departments as the only two within the organization that had cash payment functions.  John and Jane organized a meeting with the personnel from these departments and presented the following general withholding rules:

  • In general, the old withholding rules only apply to payments of U.S. source Fixed Determinable or Periodic Income (FDAPI), which includes all items of income with the exception of gains on sale of property.  The new rules expanded this to include payments of gross proceeds from the sale of any property that could generate U.S. source interest or dividends. 
  • Consequently, payments to vendors for goods should not be subject to either set of withholding rules; payments to vendors for services could potentially be subject to withholding depending on where the service is performed and other factors; and all other payments which are not frequent in a typical commercial enterprise need to be analyzed on a case-by-case basis.

ABC will be held liable for under-withholding on any payment subject to withholding under the above rules. If an exception from withholding is available, ABC will be absolved of its liability to withhold but only if ABC has proper documentation that can be reasonably associated with the payments and supports an exception from withholding.

Jane’s next step will be to design and implement procedures to identify what documentation is required for each payment and how to ensure that documentation is on hand prior to making any payments.

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