If your business pays independent contractors, foreign vendors, or other non-employee suppliers, you may have to hold back a portion of the payment and send it to the IRS instead of paying the supplier in full. Withholding tax for suppliers runs on two separate tracks: a 24% backup withholding rate that applies to domestic suppliers only when a specific trigger fires, and a 30% default rate that applies to most U.S.-source payments to foreign suppliers from the very first dollar. Getting the documentation right at onboarding is what keeps you out of both systems, or at least keeps them running cleanly.
When You Have to Withhold From a Domestic Supplier
Backup withholding under Section 3406 of the Internal Revenue Code is not automatic. It activates only when one of four conditions exists.1Office of the Law Revision Counsel. 26 U.S. Code 3406 – Backup Withholding
- The supplier fails to give you a Taxpayer Identification Number. This is the most common trigger and it happens whenever a vendor ignores your W-9 request.
- The IRS sends you a “B” notice telling you the name and TIN combination the supplier provided does not match its records.
- The IRS notifies you that the supplier has a history of underreporting interest or dividend income and is currently subject to mandatory backup withholding.
- The supplier fails to certify on the W-9 that they are not subject to backup withholding.
Until one of those triggers fires, you pay domestic suppliers in full. Collecting a properly completed W-9 before the first payment is the single most effective way to avoid the whole process.
Which Payments and Suppliers Are Covered
Withholding rules attach to payments that would normally be reported on a Form 1099: independent contractor fees on Form 1099-NEC, rent and royalty payments on Form 1099-MISC, interest and dividends, broker transactions, payment card and third-party network settlements on Form 1099-K, and certain government payments.2Internal Revenue Service. Topic No. 307, Backup Withholding Payments for merchandise, real estate transactions, and canceled debts are excluded.3Internal Revenue Service. Backup Withholding
Starting with tax year 2026, the minimum threshold that triggers a reporting obligation on Forms 1099-MISC and 1099-NEC increased from $600 to $2,000, and the threshold will be adjusted for inflation beginning in 2027.4Internal Revenue Service. Publication 1099 (2026), General Instructions for Certain Information Returns If cumulative payments to a supplier stay below $2,000 for the year, you generally have no reporting obligation and no backup withholding to worry about. Once payments cross that line and a trigger exists, the 24% rate applies.
Exempt Payees
Not every supplier is subject to backup withholding even when a trigger exists. The IRS recognizes 13 categories of exempt payees. The ones most relevant to ordinary business-to-business payments are corporations, tax-exempt organizations under Section 501(a), federal, state, and local government entities, and financial institutions such as banks, securities dealers, real estate investment trusts, and registered investment companies. Suppliers claim exempt status by entering the appropriate exempt payee code on Form W-9.5Internal Revenue Service. Instructions for the Requester of Form W-9
One boundary matters here: corporations are not exempt when you pay them for medical or health care services, attorneys’ fees, or certain federal executive agency payments. A law firm organized as a corporation still gets a 1099, and backup withholding still applies if a trigger fires. Do not skip the W-9 just because a vendor tells you it is incorporated.
The Documentation That Governs Everything
Domestic Suppliers: Form W-9
Every domestic supplier should provide a completed Form W-9 before you issue the first payment. The form captures the supplier’s legal name, tax classification, TIN, and a certification that the number is correct and that they are not currently subject to backup withholding.3Internal Revenue Service. Backup Withholding There is no expiration date on a domestic W-9, but you should request a new one whenever a supplier’s information changes.
Foreign Suppliers: The W-8 Series
Foreign suppliers require different documentation. Instead of a W-9, you collect the appropriate form from the W-8 series: Form W-8BEN for foreign individuals or Form W-8BEN-E for foreign entities. These forms establish the supplier’s foreign status, identify their country of residence, and let them claim a reduced withholding rate under a tax treaty if one applies.6Internal Revenue Service. NRA Withholding
Unlike W-9s, W-8 forms expire. A W-8BEN or W-8BEN-E is generally valid for three years from the date of signing. You need to collect an updated form before it lapses, or start withholding at the full 30% default rate.
The Rates
24% for Domestic Backup Withholding
When a backup withholding trigger applies to a domestic supplier, you withhold 24% of the gross payment.1Office of the Law Revision Counsel. 26 U.S. Code 3406 – Backup Withholding The rate does not vary with the supplier’s income or the type of service. The 24% figure has been in effect since the Tax Cuts and Jobs Act of 2017.
30% for Foreign Suppliers
Payments of U.S.-source income to foreign suppliers carry a default withholding rate of 30% under Section 1441 of the Internal Revenue Code.7Office of the Law Revision Counsel. 26 USC 1441 – Withholding of Tax on Nonresident Aliens This is not backup withholding. It applies as the default rule on all covered payments to nonresident aliens and foreign entities from the first dollar, and it drops only if the supplier’s home country has a tax treaty with the United States and the supplier provides proper W-8 documentation claiming the treaty benefit. The reduced rate depends on the specific treaty and the type of income.
A Separate 30% FATCA Layer
Under the Foreign Account Tax Compliance Act, a separate 30% withholding layer applies to payments to foreign financial institutions that have not agreed to report U.S. account holders, and to passive foreign entities that fail to identify their substantial U.S. owners.8Internal Revenue Service. Tax Withholding Types FATCA and Chapter 3 withholding can overlap, though you generally do not withhold twice on the same payment. The W-8 forms include the FATCA certifications needed to establish the supplier’s Chapter 4 status.
Depositing and Reporting
Withheld amounts must be deposited through the Electronic Federal Tax Payment System (EFTPS), the free system operated by the Treasury.9Internal Revenue Service. EFTPS: The Electronic Federal Tax Payment System Registration can take up to two weeks, so set up the account before withholding is triggered, not after.
Your deposit schedule depends on total tax liability during the lookback period. Report $50,000 or less and you deposit monthly, by the 15th of the following month. Report more than $50,000 and you follow a semiweekly schedule tied to your paydays.10Internal Revenue Service. Topic No. 757, Forms 941 and 944 – Deposit Requirements Late deposits are penalized under Section 6656 on an escalating scale: 2% up to five days late, 5% between six and fifteen days, 10% after that, and 15% if you still have not deposited within ten days of an IRS delinquency notice.11Office of the Law Revision Counsel. 26 U.S. Code 6656 – Failure to Make Deposit of Taxes
Three reporting streams follow the deposit:
- All backup withholding from domestic suppliers is reported annually on Form 945, the Annual Return of Withheld Federal Income Tax. It is due January 31 of the following year, with an extra 10 days if you deposited all taxes on time throughout the year.12Internal Revenue Service. Instructions for Form 945 (2025) – Annual Return of Withheld Federal Income Tax
- The withheld amount also appears on the supplier’s information return, such as Box 4 of Form 1099-NEC for contractor payments. That is how the supplier claims credit for the withholding on their own return.
- Withholding on foreign suppliers is reported on Form 1042 (annual return) and Form 1042-S (per supplier), covering both Chapter 3 and FATCA withholding. Both are due March 15 of the following year.13Internal Revenue Service. About Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons14Internal Revenue Service. Instructions for Form 1042-S (2026)
How to Stop Backup Withholding Once It Has Started
Backup withholding is not permanent, and the fix depends on the trigger. If withholding started because the supplier never provided a TIN, they simply give you a properly completed and signed Form W-9 with a valid TIN, and you stop withholding on future payments.15Internal Revenue Service. Backup Withholding “B” Program
For incorrect TIN cases, a first “B” notice can be resolved with a corrected W-9. After a second “B” notice, a W-9 alone is not enough. The supplier must provide either a copy of their Social Security card or a Letter 147C from the IRS verifying their correct name and Employer Identification Number.15Internal Revenue Service. Backup Withholding “B” Program When the IRS itself directed you to withhold because of underreporting, you keep withholding until the IRS sends you a notice to stop. The supplier resolves that one directly with the IRS.
What It Costs to Get It Wrong
If you were required to withhold and did not, the IRS can hold you personally liable for the full amount you should have withheld, plus interest and penalties.8Internal Revenue Service. Tax Withholding Types The fact that the supplier may eventually pay their own tax does not eliminate your exposure. For foreign supplier withholding under Chapter 3, if the foreign person later pays the tax themselves, the IRS will not double-collect the tax amount from you, but you remain liable for all penalties and interest that accrued.
Most businesses stumble into this liability through sloppy onboarding: a new vendor starts work, invoices arrive, payments go out, and nobody collects a W-9 until tax season. By then, you may already have been obligated to withhold for months. Building W-9 and W-8 collection into vendor setup before the first purchase order is the cheapest compliance investment available.