2011 IRPAC Report: Emerging Compliance Issues Subgroup
A. IRC § 6050W and Form 1099-K Reporting
On September 9, 2011, the IRS released a new draft of Form 1099-K, Merchant Card and Third Party Network Payments. This version of the form requires payment settlement entities to provide a Merchant Category Code (MCC) for each participating payee. IRPAC is troubled by this late draft which contains a significant modification. Due to the lateness of the current draft form IRPAC recommends that reporting on Form 1099-K be optional for payment card transactions that occur in 2011. Delayed reporting is warranted because:
1. Not all payment settlement entities use the MCC system. The MCC system is almost if not exclusive to Visa and MasterCard but not used by all types of PSEs (payment settlement entities).
2. Only one code is used per merchant. Very large vendors may have multiple MCCs the form is asking for the primary code (see Pub 1220, Specifications for Filing Forms 1097-BTC, 1098, 1099, 3921, 3922, 5498, 8935, and W-2G Electronically, Form 1099-K beginning on Pg 291).
3. The MCC system is merchant specific and not transaction related so transactions should not be compared to MCC.
4. The code may exist but not all have access to the code (non-VISA & MasterCard, third party network organizations etc.)
5. Adding the MCC is a significant form change that is too late to be implemented into the current technology being used to produce Form 1099-K.
In addition to the issues highlighted by the late draft form outlined above, IRPAC makes a number of additional recommendations related to IRC § 6050W and Form 1099-K. Most of the recommendations relate to the need for additional guidance. These recommendations are set forth below as numbered items.
1. IRPAC recommends that the IRS provide additional official guidance (e.g., revenue rulings, notices, revised regulations) to further address open questions regarding IRC § 6050W. Official guidance is necessary to address open questions regarding the meaning and scope of the terms in the statute and Treasury Regulations.
2. IRPAC urges Treasury and the IRS to make reporting on Form 1099-K optional for 2011. Due to the substantial open and unresolved questions not yet addressed by the IRS regarding the scope and application of the law and, as a consequence, the lack of sufficient time for reporting organizations to establish systems and controls to comply, implementation of reporting under IRC § 6050W for 2011 should not be required until at least 2012 or later, depending upon when the IRS’s issues essential guidance in a format that can reasonably be relied upon (e.g., regulations, notices, revenue rulings) by those responsible for investing substantial financial resources in the systems necessary to carry out these rules. Late changes are also evidently being made to the draft 2011 Form 1099-K related to MCCs. It is not possible for reporting organizations to report data that they have not previously been instructed to collect and compile, particularly not at the end of the reporting year. Moreover, as we explained in our 2011-2012 Guidance Plan IRPAC Comment Letter ( See Appendix A), programming changes take many months for reporting organizations to effectuate, and the IRS needs to build additional time into the process to allow reporting organizations to collect information and make necessary changes. Thus, with the tremendous uncertainty and upheaval related to the 2011 Form 1099-K and related uncertainty regarding the rules, IRPAC strongly recommends that 1099-K reporting be made optional for 2011.
3. Key terms integral to the meaning of “third party payment network” must be defined in official guidance in order for reporting organizations to reasonably apply the rules. These terms include “central organization,” “guarantee,” and “substantial number of providers of goods or services.” IRPAC’s detailed recommendations related to the definition of these terms can be found in its March 28, 2011, comment letter in Appendix D.
4. The definition of “third party payment network” can be interpreted broadly to include transactions not apparently considered by Congress when it drafted the statute. Guidance should be issued to clearly set forth the IRS’s understanding of the scope of the statutory and regulatory language to various arrangements that involve three parties but may not constitute a “third party payment network.” For example, guidance should address whether certain common three-party arrangements involving the transfer of accounts receivable constitute third party payment networks for purposes of Form 1099-K reporting.
5. IRPAC believes that certain three party transactions should remain reportable under IRC § 6041. These include transactions in which payments are made on behalf of another person under Treas. Reg. § 1.6041-1(e), such as arrangements involving certain self-funded health plans and accounts payable processing arrangements (both related-party shared-services arrangements and third-party total-outsourcing arrangements). The final IRC § 6050W regulations provide that in all instances in which transactions are otherwise subject to reporting under both IRC § 6041 and IRC § 6050W, the transaction must be reported under IRC § 6050W and not IRC § 6041. IRPAC recommends that Treasury and the IRS grant certain limited exceptions to this rule. See IRPAC’s March 28, 2011, comment letter in Appendix D.
6. Guidance is necessary to address how the transaction-based reporting approach applicable in the payment card context applies to arrangements involving third party payment networks. The narrow scenarios applicable in the payment card context are not easily or readily applied to the varying scenarios that can arise in the context of third party network transactions. Guidance is needed to address reporting in this area, particularly in cases such as payments for medical services where amounts invoiced by physicians often bear little, if any, relationship to the amounts ultimately received in satisfaction of the invoice.
7. The documentation requirements for U.S. payers to foreign merchants should be relaxed to conform to the requirements for non-U.S. payers.
8. Additional time to report on Form 1099-K should be permitted for the deemed participating payee under aggregated payee arrangements because the date on which reporting is required by the deemed participating payee to related aggregated payees is the same date as the date on which the Form 1099-K is due to the deemed participating payee from the payment settlement entity.
9. Guidance is needed to identify the entity deemed to be the payment settlement entity when there are multiple payment settlement entities. There is tension between the language of the preamble under “payment settlement entity” and the language in Treas. Reg. § 1.6050W-1(a)(4)(ii). In particular, the last sentence of the second paragraph of the preamble provides, “[t]he final regulations clarify that the entity that makes a payment in settlement of a reportable payment transaction is the entity that actually submits the instruction to transfer funds to the account of the participating payee to settle the reportable payment transaction” whereas Treas. Reg. § 1.6050W-1(a)(4)(ii) provides “[i]f two or more persons qualify as payment settlement entities . . . with respect to a reportable payment transaction, then only the payment settlement entity that in fact makes payment in settlement of the reportable payment transaction must file the information return required by paragraph (a)(1) of this section.” Stated differently, the preamble emphasizes “submitting the instruction to transfer funds” while the actual regulation emphasizes “in fact makes payment.” This has caused confusion in certain arrangements in which the instruction to transfer funds and the actual transfer of the funds are performed by separate entities.
10. Guidance is needed to clarify whether an electronic payment facilitator can also be a payment settlement entity. Clarification is necessary because questions regarding which party is liable for reporting failures are arising when electronic payment facilitators are involved in processing transactions. There seems to be overlap related to the rules regarding multiple payment settlement entities and electronic payment facilitators. Clarification regarding how these roles interact is necessary to address questions of liability related to proper reporting of transactions.
11. The final regulations contain an address rule for U.S. payers with pre-existing contracts with participating payees with non-U.S. addresses. The regulations permit a payment settlement entity that is a U.S. payer to treat accounts as non-U.S. (not subject to reporting or withholding) if a contract was entered into on or before December 31, 2010. As a result, U.S. payers and non-U.S. payers are not required to obtain proof of the account’s non-U.S. status (Forms W-8BEN, Beneficial Owner's Certificate of Foreign Status for U.S. Tax Withholding, etc.). The regulations require U.S. payers to obtain proof of the account’s non-U.S. status if there is a material modification to the contract. A mere renewal is not considered a material modification. Many payment settlement entities frequently renew or modify the terms of payment card arrangements. For example, the interest rate or the frequency of payment can change several times in a year. IRPAC recommends that the IRS provide guidance related to what constitutes a material modification. This guidance should provide a definition of the term “material modification,” together with illustrative examples.
IRC § 6050W and the related Treasury Regulations require the reporting of two significant classes of transactions, payment card transactions and third party network transactions, on newly created Form 1099-K. Payment card transactions are any transactions in which a payment card (or any account number or other indicia associated with a payment card) is accepted as payment. Payment cards include credit cards and stored value cards, which are cards with a prepaid value including gift cards. Third party network transactions are any transactions settled through a third party payment network. A third party payment network is any agreement or arrangement that (a) involves the establishment of accounts with a central organization by a substantial number of providers of goods or services who are unrelated to the organization and who have agreed to settle transactions for the provision of the goods or services to purchasers according to the terms of the agreement or arrangement; (b) provides standards and mechanisms for settling the transactions; and (c) guarantees payment to the persons providing goods or services in settlement of transactions with purchasers pursuant to the agreement or arrangement.
Final Treasury Regulations under section 6050W were issued on August 16, 2010, and the reporting rules became effective on January 1, 2011. See T.D. 9246. Backup withholding in connection with transactions under IRC § 6050W becomes effective on January 1, 2012. In contrast to information reporting returns that have existed for many years (e.g., Forms 1099-MISC, Miscellaneous Income etc.), the Form 1099-K requires a monthly breakdown of the amounts required to be reported and the reported amounts seem to be based upon a transactional approach rather than upon actual payments.
The transition to reporting rules under IRC § 6050W is an exceptionally challenging one for both the IRS and reporting organizations. The drafters of the Treasury Regulations had to address an overwhelming number of challenging policy and drafting issues, including very broad statutory language regarding third party networks. IRPAC believes that the drafters at IRS and Treasury did a commendable job in discharging their responsibilities and developing a foundation from which IRC § 6050W reporting can ultimately be launched. Nevertheless, IRPAC believes that additional guidance is urgently needed before the rules under IRC § 6050W become mandatory for reporting organizations. It cannot be emphasized enough that reporting under IRC § 6050W constitutes a sea change for reporting organizations, and many reporting organizations are not only struggling to understand the rules as written, but whether they are even subject to the rules in the first place. Accordingly, IRPAC urges Treasury and the IRS to make reporting under IRC § 6050W optional for 2011 and to issue additional formal guidance as soon as possible in order to facilitate a smooth transition to IRC § 6050W reporting.
A critical element to any successful information reporting system and effective tax administration is clarity -- clarity with respect to the scope of transactions for which reporting is required, clarity as to who is required to report, and clarity regarding the information and data that must be reported. Without clear rules, reporting organizations cannot implement necessary controls and procedures -- which in today’s business environment involve the use of expensive computer systems and even more expensive enterprise software -- to effectuate the information reporting returns required by the government. Unfortunately, despite the ongoing work of the IRS and IRPAC, there remain significant components of the 1099-K reporting rules that lack this level of clarity. And, with more than eight months following the effective date of the regulations, little has been accomplished to remove the confusion and uncertainty related to these rules and the reporting form has not be finalized. Accordingly, IRPAC strongly believes that the IRS must act quickly to address these concerns and provide the needed clarifications and implementation lead-time, starting with making the 2011 reporting optional and providing good faith transitional relief for reporting penalties.
B. Information Regarding IRC § 3402(t) 3% Withholding
IRC § 3402(t)(1) provides that the Government of the United States, every State, every political subdivision thereof, and every instrumentality of the foregoing (including multi-State agencies) making any payment to any person providing any property or services (including any payment made in connection with a government voucher or certificate program which functions as a payment for property or services) shall deduct and withhold from such payment a tax in an amount equal to 3% of such payment.
IRPAC supports the decision in IRS Notice 2010-91 to not apply withholding and related reporting requirements under IRC § 3402(t) to payments made by payment card until further guidance is issued. Prior to issuance of such guidance, IRPAC recommends a public comment period and hearing for proposed regulations on the issue of payment card reporting.
IRPAC recommends exclusion from withholding under IRC § 3402(t) for contractual arrangements where service providers manage financial operations and remit a payment net of fees for services to government entities as no payment is made by a government entity in these situations. In many of these arrangements service providers would remit the withholding amount to the government entity to be deposited with the IRS and would provide the government entity with the related income amount to be reported to the IRS. Application of IRC § 3402(t) withholding rules to these contractual arrangements is impractical.
IRPAC recommends clarification that payments for medical services made by insurance companies that provide administrative services for a self-funded health plan or a non-insurance third party administrator that performs substantially the same services are not subject to withholding under IRC §3402(t).
IRPAC recommends a withholding exemption that allows a proportionate pass through of an exemption to government and tax-exempt entities that have an ownership interest in a service provider that fails to meet the 80% ownership test. If this cannot be devised, then there will need to be a rapid relief refund process developed that will appropriately re-divert withheld funds back to a project where it was intended to be deployed.
Implementation of withholding under IRC § 3402(t) will require significant additional resources from governmental information technology (IT) departments. The IT market has not produced a nationwide software package leaving governmental entities to create their own. Accordingly, IRPAC requests that the good faith exception in Treasury Regulation § 31.3402(t)-7 be extended until after calendar year 2015 and, in addition to waiving interest and penalties, waive the withholding requirement if the government entity can establish in good faith its inability to comply due to IT limitations.
IRC § 3402(t) of the Code was added by section 511 of the Tax Increase Prevention and Reconciliation Act of 2005, Public Law 109-222 (TIPRA), 120 Stat. 345, which was enacted into law on May 17, 2006. IRC § 3402(t)(1) provides that the Government of the United States, every State, every political subdivision thereof, and every instrumentality of the foregoing (including multi-State agencies) making any payment to any person providing any property or services (including any payment made in connection with a government voucher or certificate program which functions as a payment for property or services) shall deduct and withhold from such payment a tax in an amount equal to 3 percent of such payment. IRC § 3402(t)(2) provides exceptions to withholding under IRC § 3402(t).
Proposed regulations under IRC § 3402(t) of the Code were published in the Federal Register on December 5, 2008. After the issuance of the proposed regulations, section 1511 of the American Recovery and Reinvestment Act of 2009, Public Law 111-5 (ARRA), 123 Stat. 115, 355, extended the effective date of section 3402(t) withholding to payments made after December 31, 2011. Notice 2010-91, 2010-52 IRB 915, provided interim guidance on the application of IRC § 3402(t) to payments by debit cards, credit cards, stored value cards, and other payment cards.
Final regulations under IRC § 3402(t) of the Code were filed with the Federal Register on May 6, 2011 providing an additional one-year extension from the revised statutory effective date of payments made after December 31, 2011. Thus, under final regulations, IRC § 3402(t) withholding and reporting requirements apply to payments made after December 31, 2012, subject to an exception for payments made under contracts existing on December 31, 2012, that are not materially modified (proposed regulations issued at the same time as the final regulations provide that the exception for payments made under existing contracts will not apply to payments made on or after January 1, 2014).
C. Central Withholding Agreements: Addressing Needs of Venues and Foreign Artists Through a Mini-CWA Program and Problems Encountered by Foreign Artists when Applying for U.S. Social Security Numbers (SSNs).
In 2010 IRPAC made the following recommendations in our public report:
1. A smaller version of the Central Withholding Agreement (CWA) is needed to support single and limited venues. IRPAC recommends that the IRS develop a mini-CWA program that would apply to performers with annualized fees of $50,000 or lower. The program should allow the performer to apply directly for a lower withholding rate or a waiver from withholding based on disclosed fees and known expenses.
2. Allow the CWA Program to issue Individual Taxpayer Identification Numbers (ITINs) to performers who have applied for relief in the CWA Program so that the agreement can be finalized where the SSN has not yet been acquired or a denial letter received.
In 2011, IRPAC has worked diligently with representatives of LB&I in their efforts to develop a mini-CWA process, and to address the missing SSN/ITIN concern.
The IRS response to these recommendations has been very positive. In 2011, IRPAC worked with the IRS on the structure of a new simplified CWA for entertainers, which will ultimately become part of a revenue procedure currently being revised. The mini-CWA changes outlined above would require a change to Revenue Procedure 89-47 and is currently under review and discussion with the Office of Chief Counsel, International. However, there is no designated target date for its completion. The proposed structure is to provide for three levels of the new CWA program:
• Gross Receipts of $20,000 or less where you can request a CWA and no reporting agent needed,
• Gross Receipt totals $50,000 for the year, where a similar application would be allowed, but the entertainer would have to submit a budget, and
• Gross Receipts over $50,000 where the entertainer will need a reporting agent.
IRPAC will continue to support this endeavor.
The remaining issue is the challenge a Foreign Artist has receiving either an SSN or an ITIN depending upon the action of the Social Security Administration (SSA) in a timely manner to allow the CWA to be finalized. Individual artists frequently encounter problems in applying for SSNs while they are here in the U.S. The problems performers face include:
• Artists apply for SSNs but never receive a number OR receive a rejection letter from SSA;
• Personnel at SSA offices around the country sometimes do not allow individual artists to apply for numbers on the basis that the artist is not eligible. This may result from the fact that the artist is in the country for too few days to qualify, or for other – erroneous – reasons, such as lack of work authorization, even when the artist IS work authorized;
• Sometimes artists are booked so tightly during their U.S. tour that it simply is not possible for them to get into a SSA office to apply for a SSN.
IRPAC understands that the CWA Program frequently runs into this concern and the final agreement is held up until an SSN is assigned or the rejection letter received that allows for an ITIN to be issued. Ideally, if an ITIN or an SSN as applicable were easier to obtain, these problems could be alleviated. Except for the cases involving scholarships and certain honorariums paid in academics, a nonresident would have to get a SSN rejection letter from SSA in order to apply for an ITIN. The reject letter would need to be attached to the W-7, Application for IRS Individual Taxpayer Identification Number, in order for the IRS to proceed. Currently, the SSA is inconsistent in its approach to the SSN application process and the IRS has indicated its hands are tied. IRPAC will continue to work toward a solution.
At the SSA in Las Vegas, a foreign artist can apply for an SSN and they will mail a reject letter. If you apply for an SSN at the SSA Denver Office, the office mandates that applicants appear in person to receive the denial letter after 21 days have passed. It was noted that an applicant must wait 10 days in the U.S. before they can apply for an SSN, and another 21 days before they can pick up the denial letter, collectively the 30+ day stay may go beyond many I-94 stay periods (usually 30 days or less) and the whole process becomes impossible for the artist. In these cases, the use of the CWA process is blocked until the SSN/ITIN matter is resolved. The subcommittee asked whether the IRS has discretion to remove the requirement of the SSN denial letter from the ITIN application process in these cases and was informed for many reasons that it could not be done.
D. Withholding and Reporting on Payments for Freight, Shipping, and Other Transportation Expenses under IRC § 1441 and 1442 Recommendations
The following recommendations are included to supplement the recommendations included in pages 12 and 61-68 related to this issue in the 2010 IRPAC Report. A more abbreviated synopsis of this issue, however, is included in the discussion section below:
1. The Form W-8BEN, Beneficial Owner's Certificate of Foreign Status for U.S. Tax Withholding should be revised to allow foreign corporations engaging in international shipping or air transportation to identify that they are either subject to the excise tax under IRC § 887(a) or qualify for the exclusions described under IRC §§ 883(a)(1) or (2) and Treas. Reg. § 1.883-1. Specifically, Part III of the Form W-8BEN should be retitled “Miscellaneous” and include a line 12 providing a check box with the following language: “The above identified corporation, whose U.S. taxpayer identification number is stated on line 6, is either (a) subject to the 4% excise tax for U.S. Gross Transportation Income ("USGTI") or (b) qualifies for the exclusion of income from the international operation of ships or aircraft provided under IRC § 883(a)(1) or (2).”
2. Form 1042-S, Foreign Person's U.S. Source Income Subject to Withholding, should be revised to add a specific income code for U.S. source income from international shipping or air transportation.
3. The current description of this issue within Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities, should be revised to reflect these changes and discussion of the law herein.
The interplay of IRC §§ 871, 881, 882, 883, and 887 are confusing as they relate to the taxation of USGTI and international transportation provided by ship or aircraft. Accordingly, we provide herein a brief recap of the salient statutory provisions regarding USGTI and a foreign corporation’s eligibility for exemption from withholding for transportation by ship or aircraft under IRC §§ 1441 and 1442.
IRC §§ 1441 et seq. provide the mechanism for withholding and reporting items of income subject to the gross-basis tax set forth in IRC §§ 871 and 881. In general, a 30% withholding tax is imposed on the U.S. source fixed and determinable annual or periodical (FDAP) income of a nonresident alien individual or foreign corporation. FDAP income is broadly defined and includes income from the performance of services. Income from ship and air transportation and income from transportation over road or rail are services included within the meaning of FDAP income.
IRC § 887(a) imposes a 4% excise tax on USGTI. This 4% excise tax is self assessed by a foreign corporation that engages in shipping or air transportation. USGTI includes income from the international operation of ships and aircraft by foreign corporations. IRC § 887(a)(1); IRC § 883(a)(1) and (2). When the 4% excise tax imposed on USGTI applies, the gross-basis withholding tax imposed under IRC §§ 871 and 881 and carried out through IRC §§ 1441 and 1442 does not apply. Conversely, when the 4% excise tax under IRC § 887(a) does not apply, the ship or air transportation income of a foreign corporation is subject to 30% withholding under IRC §§ 881, 1441 and 1442.
An exclusion from income from the international operation of ships or aircraft is also provided under IRC § 883(a)(1) and (2) and Treas. Reg. § 1.883-1. In general this exclusion applies for qualifying income derived by a qualified foreign corporation from its international operation of ships or aircraft only if the foreign country grants an equivalent exemption from taxation for the international operation of ships or aircraft by corporations organized in the United States. IRC § 883(a)(1) and (2); Treas. Reg. § 1.883-1(h). This exclusion from gross income applies for purposes of both USGTI taxed under the 4% excise tax of IRC § 887(a) and the 30% withholding tax under IRC §§ 882, 1441, and 1442. Thus, the critical issues to be addressed by the IRS are as follows:
1. What documentation does a withholding agent need to obtain from a foreign corporation engaged in international transportation by ship or aircraft in order to establish that withholding under IRC §§ 1441 and 1442 does not apply?
2. What income code should be used to report U.S. source income to a foreign corporation engaged in international transportation by ship or aircraft on Form 1042-S?
IRPAC believes that this issue is easily resolved by a modest change to the Form W-8BEN, and the IRS should act as soon as possible to address this issue. Further, the burden on withholding agents need not be complicated. IRPAC recommends that withholding agents should only be required to obtain a properly completed and executed Form W-8ECI, Foreign Person's Claim of Income Effectively Connected with the Conduct of a Trade or Business in US, or Form W-8BEN to establish that no withholding is required under IRC §§ 1441 and 1442. The Form W-8ECI is currently functional for this purpose because it establishes that the beneficial owner has effectively connected income and is subject to U.S. tax, but the Form W-8BEN is not functional in its current form. Accordingly, the Form W-8BEN must be revised to allow foreign corporations engaging in international shipping or air transportation to identify that they are either subject to the excise tax under IRC § 887(a) or qualify for the exclusions described under IRC §§ 883(a)(1) or (2) and Treas. Reg. § 1.883-1.
A change to the Form W-8BEN does not need to be significant to address this issue. IRPAC recommends that the IRS retitle Part III of the Form W-8BEN “Miscellaneous” and add a line 12 that provides a check box with the following language: “The above identified corporation, whose U.S. taxpayer identification number is stated on line 6, is either (a) subject to the 4% excise tax for U.S. Gross Transportation Income or (b) qualifies for the exclusion from income for the international operation of ships or aircraft provided under IRC § 883(a)(1) or (2).” By taking this simple approach, the IRS will enable withholding agents to clearly determine whether they need to withhold on payments of US-source income to foreign vendors that engage in transportation by ship or aircraft.
With respect to the reporting of payments of transportation income by ship or aircraft, IRPAC recommends that the IRS identify a specific income code on Form 1042-S for such income. Further, the current description of this issue within Publication 515 should be revised to clarify this issue, as the current language is insufficient and may be misleading.
E. Information Regarding Form 1098-T Reporting of VA/GI Bill Benefits
IRPAC requested clarification in Form 1098-T, Tuition Statement, instructions regarding proper reporting of VA/GI bill benefits and supports IRS plans to revise the 2012 instructions for Form 1098-T.
IRPAC recommends that the IRS revise the 2012 instructions for Form 1098-T in order to clarify that VA/GI bill benefits should be reported as a scholarship/grant in box 5 of the Form 1098-T.
There has been widespread confusion and a lack of clarity in the higher education community about how VA/GI bill benefits should be reported on the Form 1098-T. The enabling statute, 20 USC §1087v v, specifies that for purposes of awarded student financial aid, VA benefits should not be considered as income or a scholarship to the recipient. Many institutions have interpreted this to mean that they must not include VA benefits in box 5 of the 1098-T (where grants, scholarships, and tuition reduction amounts are to appear).
IRS Publication 970, Tax Benefits for Education, indirectly addresses the issue as it instructs taxpayers that amounts of GI bill benefits earmarked for tuition and fees received do not count as qualified payments against the federal education tax credits, therefore for tax purposes treating the VA benefits as scholarships, grant aid, and tuition reductions.
For student aid purposes, institutions cannot include the amount of VA tuition benefits as a resource in their calculation of need; however, for tax reporting purposes those amounts should be reported in box 5 of the Form 1098-T, in addition to any other grants, scholarships, or tuition reductions administered by the institution (amounts that generally may not be claimed against the credit).
F. Information Regarding Non-Resident Alien Taxation and Tax Reporting
Over the last two years, IRPAC has recommended that the IRS publish information as web based content on irs.gov to assist taxpayers in the following areas of nonresident alien taxation and reporting:
Tax residency rules
Income tax rules
Withholding tax rules (including employment tax)
Tax treaty rules
Special tax information for alien categories
In response, the IRS LB&I Operating Division worked with IRPAC to develop extensive web-based content in a new section titled “Taxation of Aliens by Visa Type and Immigration Status”. IRPAC made the following recommendations in the context of clarifying a withholding agent's responsibilities in using this information:
• IRPAC suggested IRS adopt a few paragraphs for the landing page specifically regarding payer responsibilities that focus on the receipt of forms in the W-8 series and Form 8233, Exemption from Withholding on Compensation for Independent (& Certain Dependent) Personal Service of a Nonresident Alien Individual, which would clarify a payer’s due diligence requirements. IRPAC stressed the key to the landing page is focusing on the payers accountability.
• IRPAC noted when the payer cannot determine tax residency the payer needs to understand the reason to doubt rules based on the information they received on the certification.
For the most part, payers are allowed to rely on payee representations made on a Form W-9 if the payee is a U.S. citizen or tax resident, or representations from a non-resident payee made on one of the forms in the W-8 series (or in cases of treaty claims for personal services made on Form 8233 once filed with the IRS and the appropriate waiting period met without IRS denial of the application). These forms serve as the basis for determining whether the payee is to receive Forms 1099 or is covered under the rules for withholding at source under IRC §1441 and Form 1042 -S reporting. Payees have the burden to inform payers of any changes in status and pursuant to certification instructions have 30 days from the event to notify payers of any changes by providing new forms.
Where there is actual knowledge or reason to know that information on a submitted certification, such as a Form W-8BEN or Form 8233 is incorrect, reliance placed on the certification is lost. Where treaty claims on Forms W-8BEN or 8233 are submitted to payers, the claims need to be reviewed and confirmed that the treaty rate claimed is correct and treaty terms are satisfied to the best of a payer's knowledge. (See Reg. §§1.1441-1(e)(2)(ii), -1(e)(4)(viii), -6(b), -7(b)). The details in the newly proposed web pages provide a level of knowledge to enable a payer to perform the due diligence required by these provisions. The landing page proposed by IRPAC is intended to explain these payers’ responsibilities in the use of the provided materials.
Currently, the landing page has two sections, withholding requirements and a discussion of tax residency rules, but fails to address the payer's responsibilities regarding receipt of related certifications. The IRS is willing to create a separate page to accommodate the suggested information and provide a link to a much shorter version of the IRPAC suggested cover page to which IRPAC agreed. The work on the NRA Website that the IRS has done is very complex. It will include immigration law, income tax rules, withholding tax rules, and tax treaties. The landing page will have 25 links to 25 different visas. The subheading will have different categories, i.e., green card, refugees, etc. The taxpayer would click on information and be directed to five different options, residency, tax treaty, etc. Completed pages have been submitted by LB&I for approval by Counsel and to various branches. The approval process is lengthy and it will be awhile before the material is actually posted on the IRS website. IRPAC and the IRS will continue to work on this project in 2012.
G. Identity Theft and Information Reporting
IRPAC has previously recommended and continues to recommend that the IRS provide clear guidance on whether or not Forms 1099 should be filed with the IRS and recipient copies furnished to the named payees of fraudulent accounts. IRPAC recommends that the IRS reconsider the potential burdens to the victims of identity theft when forms are issued to them as well as when forms are not issued to them. IRPAC also recommends that the IRS reconsider the confusion existing in the payer community by the current situation. Assuming that clarifications can be made to the current requirement for the continued issuance of Forms 1099 to identity theft victims, IRPAC requests that the IRS consider the potential burdens on payers by such clarifications, particularly if they would require system modifications.
Sometime in early to mid 2009, IRPAC became aware of situations where payments were being made to accounts that were fraudulently opened with the name and social security number of an identity theft victim. In cases where the payer has knowledge before the Form 1099 filing deadline that payments were made to a fraudulent account, there is a lack of clarity as to whether a Form 1099 should be issued to the identity theft victim for that account. The current rules and regulations do not provide clear guidance on what a payer should do in cases of identity theft. IRPAC met twice this year with IRS staff from W&I to discuss whether or not reporting could be addressed more clearly in these situations in order to eliminate meaningless reporting to the IRS and the identity theft victim and minimize the burden on the payer community.
IRPAC has explained that if Forms 1099 were issued in the name and social security number of the identity theft victim, the IRS would expect the payments to be reported on the identity theft victim’s Form 1040. The victim might not include the payment amounts on his or her return either because (s)he knows that the income did not belong to her/him or (s)he is unaware of the identity theft (where, for example, the form was not sent to the victim’s current address). This may result in the IRS sending unreported income notices to the victim and following through on its normal processes that are likely to be burdensome on the victim and the IRS without any benefit to the government.
IRPAC has made specific suggestions for handling information reporting in situations involving identity theft. Specifically, IRPAC has requested that the IRS provide something specific in the instructions to Forms 1099 to eliminate the need for such reporting to the victim in a situation involving known identity theft. IRPAC noted that the current instructions to Form 1099-C, Cancellation of Debt, indicate that the form should not be issued in a known identity theft situation and suggested expanding this instruction to other Forms 1099. Alternatively, IRPAC suggested that, in known identity theft situations, Forms 1099 could be issued to “unknown payee.” IRPAC noted that reporting to “unknown payee” is permitted in the case of Form 1042-S reporting under Treas. Reg. § 1.1461-1(c)(4)(ii). Permitting similar reporting on Form 1099 in identity theft situations would allow the payer to comply with the requirement to issue the forms and also to reconcile any backup withholding, but would also not result in the IRS generating a B Notice or penalty notice.
IRPAC understands from meetings with the IRS that it views the current instructions for Form 1099-C eliminating the reporting requirement in the case of identity theft as unique to the debt forgiveness situation since, in that case, there was no debt owed by the victim to be forgiven. When payments are made or credited to fraudulent accounts, the IRS characterizes the payments as actually having been made or credited to the account of the identity theft victim, who presumably could have accessed those payments.
However, in fact, the victim was not aware of the existence of the fraudulent account and, therefore, although it was theoretically possible that the victim could have accessed the payments, it was a realistic impossibility. Moreover, legally, it is unclear whether the theft victim even has an ownership interest in the property that would allow such access. The IRS asserts that it has no authority to add anything to the instructions to Forms 1099 because the payments were actually made or credited to some taxpayer. IRPAC agrees that the payments were made to someone, i.e., the identity thief, but the identity of the thief is unknown to the payer. Consequently, permitting the payer to report to “unknown payee” not only accurately characterizes the payment recipient, it also eliminates meaningless reporting to both the IRS and the identity theft victim and minimizes the burden on the payer community.
With respect to the suggestion of reporting to “unknown recipient,” the IRS contends that it has no authority to permit such reporting unless it is authorized in the Regulations. Consequently, the IRS suggested to IRPAC that the solution to eliminating reporting on Form 1099 with respect to identity theft accounts would be a change in the regulations to allow for reporting to “unknown payee,” similar to what is permitted in the regulations under IRC §1441. The IRS also suggested that IRPAC reconnect with the IRS Identity Protection Specialized Unit for support of this undertaking.
H. Changes to Pub. 3908, Gaming Tax Law and Bank Secrecy Act Issues for Indian Tribal Governments
IRPAC drafted paragraphs to replace last paragraph on page 27 and top paragraph of page 28, IRS Publication 3908, to answer: How do you verify if the winner is a nonresident alien subject to Form 1042-S reporting and withholding at 30%? In the draft, IRPAC covered:
• Why W-8BENs are needed
• How and when they should be completed by the non-resident
• Withholding and 1042-S reporting instructions on receipt of the W-8BEN
• Some discussion on legal documentation presented by the winner and the conflicts they present for tax purposes
It was brought to the attention of IRPAC by LB&I that gaming operations were experiencing a high incidence of misfiled Forms 1042-S. Many were being filed without proper permanent foreign addresses and with other concerns. In exploring causes, IRPAC further learned that operators were having a difficult time identifying non-resident alien (NRA) winners for withholding purposes, much less the details they need for Form 1042-S completion.
IRS Publication 3908 provides Indian gaming operations with the latest tax law and Bank Secrecy Act information (Title 31) applicable to gaming operations for gaming activities and is widely followed by gaming operators around the country. Upon review of Publication 3908, IRPAC discovered that although the publication did address the Title 31 standards for foreign players, it did not address the use of Form W-8BEN as a source for identifying NRAs. Form W-8BEN requires a permanent foreign address and other information that can be used for 1042-S filing purposes. Receipt of this form from NRA winners would result in better identifying NRAs and have the end result of improving the integrity of the 1042-S forms filed.
Usually gaming winners, who are NRAs, are visitors from other countries or temporarily residing on a short term basis in the U.S. Identifying NRAs can be difficult even where payers have a long-term payment relationship, but where they are gaming winners little is comparatively known about the individuals in the very short period of time they are playing in the facility. In some cases, the winner might not even have a passport, such as a Canadian tourist who may only have his or her Canadian driver's license. A driver's license works for Title 31, but not for making the tax status determination. To add to the confusion, many U.S. tax residents carry government documentation that even contain the word "alien", but such documentation has no bearing on the individual's true U.S. tax status. For an example of the struggles gaming houses are experiencing, see Sang J. Park v. Commissioner., U.S. Tax Court, 136 T.C. No. 28, (Jun. 13, 2011) where an NRA with an L-1 visa status provided a tribal gaming house with fraudulent tax certifications. Absent clear guidance, it is very difficult for gaming operators to know when 30% withholding and Form 1042-S reporting is required.
The ECI Subgroup offered language to the Service (TEGE and LB&I) and to Indian Tribal Governments (ITG) to enhance Publication 3908 and to assist gaming operations in correctly NRA winners for withholding and reporting purposes. The Service agreed to the changes based on the language submitted and ITG agreed to insert the revised language in Publication 3908 the next time the publication is revised. Meanwhile, ITG is addressing the concern in an article on the W-8 BEN in the next gaming newsletter and developing a supplement to the publication.