On December 5, the IRS published in the Federal Register a notice of proposed rulemaking to implement the 3 percent withholding law enacted in 2005. Effective January 1, 2011, federal, state and local governments with annual expenditures of $100 million or more are required to withhold 3 percent from payments for goods and services, including payments made under government contracts with construction companies. The law was intended to reduce the so-called “tax gap” and tax evasion.
IRS’ proposed rule clarifies that payments for the construction of a building or other public works projects are subject to 3 percent withholding. Other key points of the proposed rule include:
- Only applies to payments over $10,000
- No flow down to subcontractors
- Political subdivisions: 2 prior fiscal years determine $100 million threshold
- Only impacts contracts entered into after 1/1/2011
- Credit can be taken against estimated income tax withholdings
- No credit against employment taxes (e.g., Medicare, Social Security)
- Government entities are liable even if money is not withheld