IRS postpones 3 percent withholding tax on contractors

The Internal Revenue Service has postponed the starting date for a regulation to require the government to withhold 3 percent of nearly all payments made to contractors.

As it stands now, the withholding tax affects contracts awarded after Dec. 31, 2012, according to a Federal Register notice from May 9. Read the regulation.

The effective date was initially set for Jan.1, 2011 by Section 511 of the Tax Increase Prevention and Reconciliation Act of 2005. It was delayed a year to Jan. 1, 2012 by the economic stimulus law of 2009.

A one-year extension is not enough though, two House members said May 9.

Business groups hold onto hope for contractor tax repeal

“The primary goal of this Congress should be removing barriers for job creation by restoring fiscal discipline, lowering taxes and removing burdensome regulations. Getting rid of this unnecessary withholding requirement is in line with those objectives,” said Rep. Sam Graves (R-Mo.), chairman of the Small Business Committee.

Two bills in the Senate and one in the House, which has 101 sponsors, propose repealing the withholding tax. However, no committees have moved on the measures.

Meanwhile, the House Small Business Committee's Contracting and Workforce Subcommittee will hold a hearing on the issue in late May. Rep. Mick Mulvaney (R-S.C.), the subcommittee's chairman, said he will look closely at the the requirement, which he said would hurt both the private and public sectors by imposing unnecessary financial burdens on them.

IRS officials said they received numerous comments on the proposed regulation, which would affect federal, state and local governments. Overall, comments generally expressed concerns about the administrative burdens of compliance and the effects on companies' revenue. 

Some respondents noted that agencies would need more time after the final regulations were adopted to set up the systems and processes necessary to comply. Others argued that the regulation was too subjective and would lead to conflicts between the government and contractors.

“The final regulations are intended to balance the legislative intent to construct a withholding and reporting regime for payments by government entities … with the goal of alleviating administrative burdens” on both sectors, officials wrote in their notice.

Although many business groups and a few lawmakers disagree with the 3 percent withholding tax, they have not been able to erase it from the books. They have only pushed back the day it takes effect.

“Simply delaying the implementation ignores the fact that the requirement itself is bad policy and that full repeal is what is really needed,” said Roger Jordan, vice president of government relations at the Professional Services Council.

PSC was one of more than 110 companies in the Government Withholding Relief Coalition, which has testified before a congressional committee and written letters to governors and lawmakers on Capitol Hill.