Overview

Backup withholding is a tool the IRS uses to collect tax when a payee’s taxpayer identification number (TIN) is missing, incorrect, or when the IRS notifies a payer to begin withholding. The current backup withholding rate is 24% (IRS) and applies to payments such as interest, dividends, certain payments reported on 1099 series forms, and some broker and barter exchange transactions. The payer — not the payee — is responsible for withholding, depositing, and reporting these amounts.

When backup withholding applies

  • The payee did not furnish a TIN when required (for example, no Form W-9 on file). See our guide to Form W-9 for who must provide a TIN and how to request it: “Form W-9”.
  • The IRS issues a notice (for example, a CP2100/CP2100A or other B-Notice) telling the payer the TIN on file is incorrect.
  • The IRS notifies the payer to begin backup withholding on specific payees.

Key responsibilities for payers

  1. Collect TINs up front: Require a completed Form W-9 before making reportable payments. (See: “Form W-9”.)
  2. Start withholding when required: If a payee won’t provide a valid TIN or you receive an IRS notice, withhold at the backup rate.
  3. Deposit withheld amounts: Make federal tax deposits per IRS rules (use EFTPS) and follow the deposit schedule that applies to your business.
  4. File Form 945: Report total backup withholding annually on Form 945, ‘‘Annual Return of Withheld Federal Income Tax.’’ Form 945 reconciles withholding for payments other than wages and is filed with the IRS by the due date.

Filing Form 945: deadlines and format

  • Due date: File Form 945 by January 31 of the year after the tax year in which you withheld (if that date falls on a weekend or legal holiday, the due date is the next business day). See the Form 945 instructions on IRS.gov for updates.
  • Electronic filing: If you must file 250 or more information returns, you are generally required to file electronically; meanwhile, check the current IRS filing rules for Form 945 electronic filing requirements.
  • Reconciliation: Form 945 reports the total federal income tax withheld (including backup withholding) and reconciles those deposits with the reported amounts.

Practical examples

  • Broker dividends: If a broker does not have a customer’s valid TIN or the IRS directs withholding, the broker withholds 24% of dividend payments and reports the amounts on Form 945.
  • Vendor payments: A small business paying a contractor who refuses to provide a W-9 should begin backup withholding and report amounts on Form 945 at year-end.

Common mistakes and how to avoid them

  • Not collecting W-9s: Leaving TIN collection until year-end increases compliance risk. Adopt a policy to collect a W-9 before the first payment (see our Form W-9 article).
  • Ignoring IRS notices: CP2100/CP2100A and B-Notices must be responded to promptly; failure to follow notice instructions can trigger required withholding and penalties.
  • Skipping deposits: Even if you file Form 945 annually, you still must make timely deposits of withheld amounts as required by the IRS. Using EFTPS helps avoid late-payment penalties.

Stopping or correcting backup withholding

  • Stop withholding once you obtain a valid, certified TIN and the payee provides a corrected W-9 or the IRS issues a notice releasing the payee from withholding.
  • If backup withholding was mistakenly applied, the payee generally requests credit or refund on their federal income tax return (Form 1040). As a payer, you may need to issue corrected information returns (1099s). See our guide on filing corrected 1099s for best practices: “Best Practices for Filing Corrected Information Returns (1099s).”

Penalties and enforcement

Failing to withhold when required, failing to deposit withheld taxes, or filing Form 945 late can result in penalties and interest. The IRS may also assess penalties for failing to furnish correct payee statements or for filing incorrect information returns. Refer to the IRS backup withholding page and Form 945 instructions for penalty specifics and examples (IRS – Backup Withholding; Form 945 and instructions).

Professional tips (from practice)

  • Make W-9 collection a routine step of onboarding vendors and contractors; keep copies in a secure central folder.
  • Use a written workflow for handling CP2100/CP2100A notices so staff know how to respond and when to begin withholding.
  • Reconcile deposits monthly against accounts payable and your payroll/1099 reports to catch errors early.

Resources and next steps

Disclaimer

This article is educational and not a substitute for personalized tax advice. For specific situations, consult a CPA or tax attorney.

Author note

In my practice helping small businesses and brokers, the most effective prevention is a consistent W-9 collection policy and a clear response plan for IRS notices; those two steps prevent most backup withholding surprises.