Since as long as I could remember, the penalty for failing to file a form 1099-MISC for a contractor resulted in a $50 total fine per non-filed 1099. On top of that, the only taxpayers I ever encountered who were subjected to the fine were already under review on another topic.
Along comes the rampant income tax refund fraud of the 2010s. The IRS has identified timely and accurate 1099 reporting as a key component of fighting this fraud. Penalties incrementally increased.
Without getting into any more history, let’s look at the situation for 2016 and forward:
- 1099s are due by January 31 of the following year to be provided to the contractor and filed with the IRS. You have one month.
- Penalties are: $260 failure to provide to contractor, $260 failure to file with IRS. Total filing penalties, $520 per 1099. If the payee did not declare the income on their taxes, the payor is also liable for 28% backup withholding, plus up to 25% failure to pay penalty, plus interest.
- That is: If a business owner pays a vendor $1,000, then fails to 1099 that vendor, the penalties would be:
$520 (filing penalties), plus 25% of backup withholding without regard to whether the payee reported ($1,000 X 28% X 25% = $70), plus interest (say $10), plus possible backup withholding ($1,000 X 28% = $280).
$520 + $70 + $10 + $280 = $880 in non-deductible penalties and interest.
- The good news is that the maximum penalty is only $3,000,000; only $1,500,000 if you correct the 1099s before August 1st.
- The bad news is many states will also assess their own penalties on top of the above.
The IRS and many states have hired specialist type examiners to review for certain types of issues. 1099 compliance has become an area for such examiners. Although there’s no way to tell who will be audited under this stepped up review initiative, it’s makes sense that the IRS and states would first review businesses who file no 1099s, particularly if those businesses have deductions for “Cleaning” or “Outside Services”, etc.
What can you do?
- First, take care of the 800 pound gorilla…start requiring W-9s from all vendors who are not incorporated before you pay them.
- The only affordable, electronic W-9 system I know of is at tax1099.com. The info from the W-9s are also automatically transferred to the 1099 system. Neat!
- Note that LLCs are NOT corporations per se. They should receive a 1099-MISC unless they file their taxes as corporations. If the LLC files as a corporation, they can check the box stating as such on the W-9.
- When a vendor does not complete a W-9, YOU are accepting the risk for not issuing 1099s.
- Hold payment until you receive W-9s.
- Consider paying via credit card. This shifts the 1099 reporting to the vendor’s credit card service, who will certainly issue a 1099 to the vendor.
- Start contacting vendors now as some may be reluctant to provide the required info when it’s crunch time.
- For anyone who refuses to provide an EIN/SSN, file a 1099 without that info. The IRS provides relief for any taxpayer who shows reasonable care in attempting to obtain that info.
- You may also be required to deduct backup withholdings. Lots of rules for that beyond the scope of this article.
- Consider a secure, online 1099 service such as 1099online.com or tax1099.com (which integrates with their W-9 system).
- Consider using the 1099 function in your accounting program, although it probably stinks. Don’t give it too much time considering the great online and specific software alternatives.