Three Percent Withholding Rules Include One-Year Postponement

May 6, 2011

The Internal Revenue Service has issued rules implementing the requirement for public institutions to withhold 3 percent of payments they make for the purchase of goods and services. The final regulations postpone the effective date of the measure until January 1, 2013. Enacted as part of the 2005 Tax Increase Prevention and Reconciliation Act, the provision was aimed at preventing tax debt or tax avoidance by individuals and companies receiving payments from government purchasers. The law requires federal, state, and local governments – including public colleges and universities – with more than $100 million in annual expenditures to withhold 3 percent of payments made for the purchase of goods and services in excess of $10,000.

The new system is intended to work similarly to the withholding process for individual salaries and wages. Public colleges and universities would need to set aside 3 percent of the gross payments due to the provider of goods or services and transmit the information and funds to the IRS. At the end of the year, the amount withheld would be credited toward taxes owed by the provider of goods and services.

Highlights of the rules that may be of interest to colleges and universities include:

IRS adopted a $10,000 threshold for payments that need to be reported.
Payments to non-resident aliens and foreign corporations are generally excluded from the new withholding;
Payments for real property and leasing of real property are excluded (but not payments for development/construction).
Generally, payments made from government grants will be excluded.
IRS and Treasury have not determined whether to apply the requirement to payment card (p-card) transactions (if they decide to do so, compliance date will be at least 18 months following additional guidance specifically related to p-cards).

In April 2008, NACUBO submitted comments to IRS proposed rules voicing support for legislative repeal of the provision, while also responding with a number of recommendations related to implementation of it.

NACUBO continues to seek legislative repeal. Senators Scott Brown (R-MA) and David Vitter (R-LA) have introduced separate bills to repeal the provision. Rep. Wally Herger (D-CA) has sponsored a House version which has bipartisan support and 98 co-sponsors.