1099 Rules

The new 1099 rules for reporting payments to independent contractors.

Missing identification numbers?

Not filed 1099s?

Late filed 1099s?

What to do?

For Want of A Nail,  a Mother Goose nursery rhyme: 
• For want of a nail, the shoe was lost; 
• For want of the shoe, the horse was lost; 
• For want of the horse, the rider was lost; 
• For want of the rider, the battle was lost; 
• For want of the battle, the kingdom was lost, 
• And all for the want of a horseshoe nail.

The moral: little things left undone could undo you.

If you have independent contractors or workers to whom you pay more than $600 during the year, you must prepare IRS Form 1099-MISC for such payments. These forms should be mailed to the workers no later than January 31 and then to the IRS by February 28. These reporting rules are not new. You have received these 1099s yourself.

The rules: You obtain a taxpayer identification number (TIN or EIN) before paying them anything. You send them form W-9 requesting their TIN. If they refuse to provide a TIN, you are required to withhold 28% tax from any payments to the worker, and remit this to the IRS. This is called backup withholding.

But what if you did not follow the rules, and now find you need to report on form 1099 but do not have a TIN. Here is my suggestion:

  1. Write a letter to the worker requesting that they complete and mail back to you IRS Form W-9 within one week. Include a copy of the W-9 with instructions at the bottom of the form highlighted under the section entitled “Purpose of Form”.
  2. Send a second certified letter to the contractor if they do not respond within 1 week. Use stern working similar to the following: “If you do not provide a completed W-9 within one week, we will file the 1099-MISC by replacing what would be your TIN with the words “refused to provide”, which may lead to an audit of your records.” 
  3. If you have not received the W-9 by 2/28, file the Form 1099-MISC and in the box labeled for the recipient’s identification number write “refused to provide”. 
  4. Send the 1099-MISC to the IRS and the contractor and retain a copy for your records. 
  5. Retain all documentation in this process.

Now this 1099 that you filed with the IRS is incomplete, and it also may be late. The penalty for failure to file a correct or timely 1099 is broken down into three tiers: 
• $30 each if corrected info is filed within 30 days of 2/28; 
• $60 each if corrected more than 30 days but before 8/1; 
• $100 if not properly filed by 8/1. If you are not able to obtain an identification number, and thus not able to correct the filing, it will be a $100 penalty.

The penalty applies to each such 1099, for each year. IRS may waive this penalty.

You think to yourself, “what if I just tell my accountant not to file the form – let them catch me if they can”. Ok, then there is another set of penalties that apply to intentional disregard of rules. The penalty increases to the greater of $250 or 10% of the amount that should have been reported but was not. So, you decide not to send a friend a 1099 reporting $40,000. You would be subject to a $4,000 penalty (10% x $40,000) for willful failure to file of each such form. Do it for 10 years, and there is no statute of limitations on an unfiled return. $4,000 penalty for 10 years equals $40,000. But wait, it gets worse.

Back up in the first paragraph, I mentioned that you are required to withhold 28% backup withholding if you do not obtain an EIN from the contractor. Well guess what? The IRS can collect this 28% from you if you fail to collect it. And on top of that penalize you for not sending it in timely. $40,000 for 10 years, $400,000, times 28% equals $112,000, with penalties and interest to be added on top of that. You now start thinking about bankruptcy. Was he that good a friend?

OK, so I have one other way around this, you say. “What if I make up a TIN number and turn it in.” Well, the IRS computers are going to identify a mismatch in the numbers and send you a notice (CP2100) around September telling you it is a bad number and requiring more paperwork from you. If you disregard the paperwork or are contacted by the IRS for consecutive years for the same worker, they will probably look to impose the intentional disregard penalty and possibly add the 28% tax you should have withheld.

But how are they going to catch me? New for 2012 returns there are questions on a variety of personal and business income tax returns. Here are the questions:

  1. Did you make any payments in 2012 that would require you to file form(s) 1099? 
  2. If yes, did you or will you file all required form(s) 1099? 

Answer these questions truthfully, because you sign the return under penalties of perjury.

  • If you answer no to 1, I hope you at least enjoyed the humor. 
  • If you answer yes to 1 and no to 2, expect to hear from the IRS, and re-read the penalties above. 
  • Answer no to 1, but really should have answered yes, then re-read the penalties above.

File the forms, even if late and incomplete.  To do otherwise, the consequences might cost you the kingdom.

All for the want of a nail.