Backup Withholding refers to the practice of withholding a portion of payments made to certain individuals or entities to ensure tax compliance. This occurs when a payee fails to provide a correct taxpayer identification number (TIN) or is subject to withholding due to noncompliance with IRS regulations.
Under the Internal Revenue Service (IRS) guidelines, payers are required to withhold a specified percentage of payments—typically 24%—from payments such as interest, dividends, and non-employee compensation if the payee has not provided a valid TIN or if they are notified by the IRS that the payee is underreporting income.
For example, if a freelance contractor does not provide their TIN, the company hiring them may be required to withhold 24% of the payment for services rendered and remit that amount to the IRS as backup withholding. This ensures that the IRS collects taxes on income even when taxpayers do not comply with reporting requirements.
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