One of FTB’s tax gap strategies - nonresident withholding audits

As part of our comprehensive campaign to reduce the tax gap, FTB is conducting compliance audits of nonresident withholding. Individuals and business entities are required to withhold on payments to nonresident independent contractors[¹] for services performed in California (R&TC Section 18662(d)). We are assessing the required 7 percent nonresident withholding liability, and also assessing $100 for each FTB Form 592-B (Nonresident Withholding Tax Statement) informational return not filed (R&TC Section 19183).

In conducting these withholding audits, we have identified the following common errors:

• Inadequate record keeping.
• Cash payments to both residents and nonresidents. The cash payments are made to individuals or business entities categorized as independent contractors, and generally, payers are not withholding or preparing the required IRS Forms 1099-MISC or FTB Forms 592-B.
• To avoid employment taxes, cash payments to part-time or full-time employees are also frequently categorized as independent contractors. Payers are not preparing IRS Forms 1099–MISC or W-2.

After completing withholding compliance audits, we may refer these individuals or business entities to the IRS and California's Employment Development Department (EDD) for audit.

Requirements for payers

• Before paying independent contractors, require them to:
  • Complete IRS Form W-9, Request for Taxpayer Identification Number and Certification.
  • Complete FTB Form 590, Withholding Exemption Certificate, if applicable (to be valid, a physical address in California and a tax ID are required).
• Withhold at the maximum rate, 7 percent, unless:
  • The independent contractor is exempt based upon a properly completed Form 590.
  • The FTB has notified the payer that a waiver or reduced withholding is approved. We will approve the waiver or reduced withholding after we receive and process the payee’s request. The payee may submit Form 588, Nonresident Withholding Waiver Request, or FTB Form 589, Nonresident Reduced Withholding Request, to apply for a waiver or reduced withholding, respectively. 
• Issue FTB Forms 592-B, Nonresident Withholding Tax Statement, informational returns, by the required due dates.
• Issue IRS Forms 1099-MISC, Miscellaneous Income, to independent contractors, if required, whenever payments reach $600 in the calendar year.
• Issue IRS Forms W-2, Wage and Tax Statement, to employees.

Recommendation for payers

• Properly categorize independent contractors and employees.

More information on nonresident withholding

• Publications:
  • FTB Publication 1017, Resident and Nonresident Withholding Guidelines
  • FTB Publication 1031, 2007 Guidelines for Determining Resident Status
  • IRS Publication 15-A, Employer's Supplemental Tax Guide (for "Who Are Employees?" and "Employee or Independent Contractor?")
  • IRS Publication 583, Starting A Business and Keeping Records

• Websites:
  • FTB: ftb.ca.gov (see our nonresident withholding decision table)
  • EDD: edd.ca.gov
  • IRS: irs.gov

Telephone

Call our Withholding Services & Compliance staff for assistance:  Toll free 888.792.4900

[¹] Nonresident independent contractors are defined as nonresident payees receiving compensation for personal services, sales commissions, professional fees, contracted services, etc., performed in California (R&TC Section 18662(d)).

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