CCA 1037027: Counsel advised on backup withholding after missing Form W-9 certifications

Plain-English summary

Chief Counsel advised that a payor may remain liable for backup withholding when it failed to obtain required Form W-9 certifications, even after the three-year retention period for those forms has passed. The advice distinguishes between forms that were received but later discarded and forms that were never obtained. A payor may avoid liability in the first situation by proving that the form was actually received, but the retention rule does not excuse failure to obtain a form in the first place. The advice also states that information-return penalties are based on the filer’s failures, not on whether recipients were sophisticated or likely to report their income.

Ruling snapshot

• Question: Can the Service assess backup withholding liabilities when required Forms W-9 were not retained or were never obtained?
• Outcome: Advice given
• Key authorities: IRC §§ 3402(d), 3403, 3406, 6042, 6045, 6049, 6721, 6722, and 6724; Treas. Reg. §§ 31.3406(d)-1, 31.3406(d)-2, 31.3406(e)-1, and 31.3406(h)-3

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       memorandum
       Number: 201037027
       Release Date: 9/17/2010
       CC:PA:02:TAGeier
       POSTF-114808-09

UILC: 3406.00-00

date: May 20, 2010

 to:   Associate Area Counsel (Manhattan, Group 2)
       (Large & Mid-Size Business)
       Attn: Jennifer A. Kassabian
             Philip R. Cleary

from: Nancy L. Rose
Senior Counsel
(Procedure & Administration)

subject: Form W-9 Retention Issues

       This Chief Counsel Advice responds to your request for assistance. This advice may
       not be used or cited as precedent.

       LEGEND

       taxpayer   =   ----------------------------------
       Date X     =   -------------------
       business   =   -------------------------
       records    =   ---------------------------------
       Date Y     =   -------

POSTF-114808-09 2

ISSUE

Can the Service assert backup withholding liabilities based on failure to obtain
certification on Forms W-9, where the taxpayer does not have the Forms W-9 or any
evidence of ever having received them, and the required three-year retention period for
the certificates has passed?

CONCLUSION

The Service may assert backup withholding liabilities based on failure to obtain
certification on Forms W-9, even if the three-year period for retaining those forms has
passed.

FACTS

Under the facts you provided, and as presented in the taxpayer correspondence to the
examining agent dated Date X, we understand that the taxpayer is a business that
discovered through a review of its records in Date Y that it did not have Forms W-9 with
respect to some of its accountholders. The taxpayer believes that with respect to some
accountholders, Forms W-9 were originally obtained but no longer retained; as to
others, the forms were never obtained. The taxpayer made reportable payments, as
defined in section 3406 of the Internal Revenue Code, to these accountholders. Our
understanding is that these were payments of interest, dividends, and/or amounts
subject to broker reporting (reportable under sections 6049, 6042, and 6045,
respectively). The taxpayer did not backup withhold on the reportable payments made
to accountholders for which there are no Forms W-9 on file.

Further, according to the taxpayer’s submission, the taxpayer failed to issue Forms
1099 to many of the accountholders for which it had not obtained or retained Forms W-
9.

After these discoveries, the taxpayer voluntarily disclosed the failures to the Service and
began remediation efforts and a review to ensure future compliance. The taxpayer,
while acknowledging the failures in past compliance, requested that the Service not
assert backup withholding liabilities due to its Form W-9 failures, arguing that (1) it had
most of the taxpayer identification numbers of its accountholders; (2) it believes most of
the TINs were obtained from Forms W-9 that were since lost or destroyed; (3) Form W-
9 need only be retained for three years; (4) in some cases it did not need to obtain a
Form W-9 for the account; and (5) with respect to failure to issue Forms 1099, the
Service was not harmed and did not incur lost revenue because substantially all of the
payees are sophisticated, compliant taxpayers, such as entities, that would not rely on
Forms 1099 to determine their income.

The taxpayer’s submission does not contain any specifics such as the number of
accounts involved, the percentage of its total accounts at issue, the years in which
those accounts were opened, or information about the types of “sophisticated” payees
POSTF-114808-09 3

involved. The representations made in the submission are general statements and
arguments not supported by specific facts, such as specific evidence that the
accountholders in issue paid their full tax due.

LAW AND ANALYSIS

Under section 3406(a)(1), a payor must backup withhold on certain reportable payments
if

   (A) the payee fails to furnish his TIN to the payor in the manner required,

   (B) the IRS notifies the payor that the TIN furnished by the payee is
   incorrect,

   (C) there has been a notified payee underreporting (with respect to interest and
   dividends); or

   (D) there has been a payee certification failure (the payee failed to certify that he
   is not subject to withholding under (C)).

A payee will be subject to backup withholding for failure to furnish his TIN under (A)
above if he does not provide the TIN under penalties of perjury, with respect to
payments of interest, dividends and amounts subject to broker reporting. The payee
must certify that the TIN furnished is the payee’s correct TIN. Certification is made on
Form W-9 or an acceptable substitute. See section 3406(e)(1); Treas. Reg.
§§ 31.3406(d)-1(b)(3), 31.3406(d)-1(c)(2), 31.3406(h)-3(a)(1)(i).

A payee of interest or dividends is also required under (D) above to certify that he is not
subject to backup withholding for notified payee underreporting. See section
3406(d)(1); Treas. Reg. § 31.3406(d)-2(a). Such certification is also made on Form
W-9. See Treas. Reg. § 31.3406(h)-3(a)(1)(ii).

Note that the above requirements refer to accounts that are post-1983 accounts. With
respect to pre-1984 accounts, no certification is required, and the payor need not
furnish a signed Form W-9. See section 3406(d)(3); Treas. Reg. §§ 31.3406(d)-1(b)(1)
and 31.3406(d)-2(b)(1).

With respect to post-1983 accounts, the taxpayer’s failure to obtain Forms W-9 means
that reportable interest, dividend, or broker payments to those accounts are subject to
backup withholding, regardless of whether the payees’ TINs were in fact received or
whether those TINs are correct.

The payor’s obligation to backup withhold on payments to a payee due to the payee’s
failure to furnish a TIN in the manner required applies to all payments during the period
in which the TIN has not been furnished in the manner required. See section
POSTF-114808-09 4

3406(e)(1); Treas. Reg. § 31.3406(e)-1(b). The payor only stops backup withholding
after he receives the payee’s TIN in the manner required.

If the backup withholding is required due to payee certification failure under section
3406(a)(1)(D), the payor must backup withhold on any reportable interest or dividend
payment made during the period that the certification has not been furnished. See
section 3406(e); Treas. Reg. § 31.3406(e)-1(e). The payor stops backup withholding
after the required certification is received.

Thus, if a payor does not obtain a Form W-9 for accounts that require certification on
Form W-9 pursuant to section 3406(a)(1)(A) or (D), the payor must continue backup
withholding on reportable payments until such certification is received from the payee.

If a payee failed to furnish the required certification, the Service can assess backup
withholding liabilities on all payments until the certification is furnished (unless barred by
the statute of limitations). Under section 3403, a payor is liable for the amount that
should have been withheld. The payor may avoid this liability by proving that the payee
paid the tax required to be withheld pursuant to section 3402(d).

The taxpayer admitted that it did not obtain Forms W-9 for some of its accounts. The
taxpayer also asserts that, in some cases, it may have obtained Forms W-9 but no
longer retains the forms. The taxpayer points to Treas. Reg. § 31.3406(h)-3(g), which
provides that Forms W-9 need only be retained by the taxpayer for three years from the
date the account is opened, as support for the argument that after three years the
Service can no longer assess backup withholding liabilities for failure to obtain Forms
W-9.

While the rationale for the three-year retention rule for certificates is not entirely clear, it
appears to be an attempt to lessen the burden on payors with respect to record
retention only, and does not impact the backup withholding obligation. Therefore, if
Form W-9 was furnished but more than three years have passed and the taxpayer no
longer retains the form, the taxpayer may avoid backup withholding liabilities by
showing that the form was in fact received.

The taxpayer’s reliance on the three-year retention rule is misplaced with respect to
accounts for which it never received Forms W-9. The retention rule applies to forms
that were received but are no longer retained. If the form was never received – which
the taxpayer admits is the case with respect to certain of its accounts – the retention
period is inapplicable.

The taxpayer also argues that while it did not file Forms 1099 for all payees as required,
these failures should not be penalized because there is no real harm to the government.
The taxpayer states that many of the accountholders are sophisticated taxpayers, in
some cases entities, who are on the accrual basis and would not rely on a Form 1099 to
determine their income. The taxpayer asserts that these accountholders are tax-
POSTF-114808-09 5

compliant and would have filed and paid their required income tax regardless of failing
to receive the Forms 1099.

Penalties under sections 6721 and 6722 may be assessed for failure to file and furnish
correct information returns, unless the taxpayer demonstrates reasonable cause for the
failures pursuant to section 6724 and the regulations thereunder. Information return
penalties are based on the filer’s failures and not the recipient’s sophistication or tax
compliance.

Because the taxpayer’s submission is general and lacks specific information as to the
number of accounts for which the taxpayer failed to obtain Forms W-9 or failed to file
Forms 1099, or as to the precise identity of the sophisticated entity accountholders, our
discussion of the issues is likewise general.

CASE DEVELOPMENT, HAZARDS AND OTHER CONSIDERATIONS

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We believe that the taxpayer’s arguments that the regulations prohibit backup
withholding assessments based on failure to obtain Forms W-9 after the three-year
retention period has passed, and that there is little or no harm to the government due to
the failure to backup withhold or file Forms 1099, are not persuasive.

With respect to accounts more than three years old for which the taxpayer did receive
Forms W-9, but no longer retains them, the taxpayer may avoid backup withholding
liabilities by showing that the form was in fact received. -----------------------------------------

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This writing may contain privileged information. Any unauthorized disclosure of this
writing may undermine our ability to protect the privileged information. If disclosure is
determined to be necessary, please contact this office for our views.

Please call (202) 622-4940 if you have any further questions.