Sometimes, you may have to withhold money from the IC and give it to the IRS. This is called backup withholding, and you can avoid it if you take the steps that we describe in subsection a, below. If you do find yourself in the position of having to do backup withholding, follow the procedures that we describe in subsection b, below.
a. How to avoid backup withholding
It’s very easy to avoid backup withholding. Have the IC fill out and sign IRS Form W-9, Request for Taxpayer Identification Number. Retain it in your IC file. You don’t have to file the W-9 with the IRS. This simple form merely requires the IC to list his or her name and address and taxpayer ID number. Corporations, partnerships and sole proprietors must have a federal employer identification number (EIN), which they obtain from the IRS. In the case of sole proprietors without employees, the taxpayer ID number is either the IC’s Social Security number or an EIN if the IC has obtained one.
If the IC doesn’t already have an EIN, you don’t have to backup withhold for 60 days after he or she applies for one. It usually takes several weeks to obtain.
Which Is Better, a Social Security Number or EIN?
A sole proprietor IC who doesn’t have employees can use either his or her Social Security number or a separate federal employer identification number as the taxpayer ID number. It’s better for you if the IC obtains an EIN. This helps show that the IC is running an independent business. Employees don’t have EINs. Encourage any sole proprietor IC you hire to obtain an EIN.
Obtaining one is easy and costs nothing. The IC simply files IRS Form SS-4 with the IRS center listed in the instructions on the form. You can find a copy of Form SS-4 in Appendix 4 and on the CD-ROM at the back of this article.
b. Backup withholding procedure
If you are unable to obtain an IC’s taxpayer ID number or the IRS informs you that the number the IC gave you is incorrect, you’ll have to do backup withholding. Backup withholding must begin after you pay an IC $600 or more during the year. You need not backup withhold on payments totaling less than $600.
For this procedure, you withhold 31% of the IC’s compensation and deposit it every quarter with your bank or other payroll tax depository. You must make these deposits separately from the payroll tax deposits you make for employees.
Report the amounts withheld on IRS Form 945, Annual Return of Withheld Federal Income Tax. This is an annual return you must file by January 31 of the following year. See the instructions to Form 945 for details.