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I received an email notification today about a withdrawal from an investment account of mine that stated the following...

Account Alert

Fri Nov 16 00:13:59 2018

Backup Withholding Tax

Account: XXXXXXXXXXX

Your account was recently debited for backup tax withholding in the amount of $X.XX.

To avoid future backup withholding, you can certify your tax status by submitting the appropriate documentation. Certification information and forms can be found online at XXXX.com:

W-8BEN Certification (for non-US individuals)

W-8BEN-E Certification (for non-US entities)

W-9 Certification (for US individuals or US entities)

What exactly is the nature of this tax? What is being backed up exactly? What did the IRS protect against in designing this tax?

  • What is being backup up is the IRS getting tax money. If you had an account with no taxpayer identification, you could just take the money and run :-) Or assuming you'd used good enough firewalls between the account and your real-world ID, just not bother to report it. – jamesqf Nov 19 '18 at 17:36
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Backup withholding tax means that you had some investment income that might have been subject to tax. Your broker, however, didn't know your tax status. You might not be subject to this tax. Or you might. They don't know. So they withheld the amount the law requires them to withhold when they don't know your tax status.

When you file your taxes for this year, you'll pay the actual amount of tax due and receive a credit for the amount withheld. If too much was withheld, you'll get some back. If not enough was withheld, you'll owe some more.

You can avoid this happening in the future if you inform your broker of your correct tax status using one of the forms they suggested.

You can find a lot more information in the "Backup Withholding" section of the W-9 instructions:

What is backup withholding?

Persons making certain payments to you must under certain conditions withhold and pay to the IRS 24% of such payments. This is called “backup withholding.” Payments that may be subject to backup withholding include interest, tax-exempt interest, dividends, broker and barter exchange transactions, rents, royalties, nonemployee pay, payments made in settlement of payment card and third party network transactions, and certain payments from fishing boat operators. Real estate transactions are not subject to backup withholding.

You will not be subject to backup withholding on payments you receive if you give the requester your correct TIN, make the proper certifications, and report all your taxable interest and dividends on your tax return.

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