Clarification of the Initial Statement of Reasons Amendments to California Code of Regulations, Title 18, Sections 18662-0 Through 18662-6, And Section 18662-8, Relating to Nonresident and Real Estate Withholding

During its review of the proposed rulemaking, Franchise Tax Board ("FTB") staff discovered that certain places within the Initial Statement of Reasons ("ISOR") contained small inaccuracies in the description of several proposed amendments to the regulatory text, which could unintentionally misrepresent to whom withholding of tax at source is directed to, namely, that pass through entities (PTEs), as withholding agents, withhold tax at source on nonresident owners—not lower tier PTEs.  These inaccuracies are found at pages 14, 16 and 25 of the ISOR, as pertains to California Code of Regulations, Title 18 ("18 CCR"), Section 18662-4, subsection (d), Section 18662-4, subsection (j), and Section 18662-8, subsection (c)(2)(B) ("Regulations").  Accordingly, the FTB is hereby modifying the descriptions of each identified subsection of the Regulations as initially detailed in the ISOR.  These modifications to the descriptions are unrelated to the proposed modifications to the text of the Regulations set forth in the FTB's 15-day notice dated April 24, 2019.  The changes clarified by this document appear in underline and strikeout as follows (the changes are outlined below in a chronological order, followed by an explanation):

1. Section 18662-4, subsection (d) (ISOR, page 14)

  • Subsection (d) has been revised to reflect the creation of new FTB Form, 592-PTE, Pass-Through Entity Annual Withholding Return, to be used specifically by pass-through entities, which, as withholding agents, withhold tax at source on nonresident owners lower tier pass-through entities.  The creation of the new Annual Reconciliation Form (Form 592-PTE) is necessary to effectuate FTB's changing of its filing structure—from a quarterly filing withholding structure to an annual one—and which will be used specifically by domestic pass-through entities, who, as withholding agents, withhold tax at source on nonresident owners lower tier pass-through entities. Pass-through entities, and tiered structures in particular, have difficulty in timely filing Form 592 to allocate withholding to the ultimate owner, as it appears that an upper tier pass-through entity may not receive its withholding information from the lower tier pass-through entity (typically through Form 592-B) until after the Form 592 quarterly due date. This in turn can cause a second problem in which the ultimate individual owner is denied a claimed withholding credit due to the untimely filing of Form 592 and subsequent untimely allocation of withholding to that owner. To ameliorate this problem, the proposed amendments to the Withholding Regulations will create a new form (Form 592-PTE) that will apply only to domestic pass through entities to be filed on January 31 of the year following the year for which such withholding was required to be remitted to FTB.  This date is also the due date for federal Form W-2, Wage and Tax Statement, and Form 1099. Annual reporting in general allows the upper tier pass-through entity more time to receive withholding information from their lower tier pass-through entity, which then helps them timely file their withholding return. These changes may also help prevent the individual partners from having their claimed withholding credit denied when they file their income tax returns since there is now more time for the withholding credit to be allocated to the individual.

The ISOR description for this section of the Regulations has been modified to change "lower tier pass through entities" to "nonresident owners" in two places.  These changes are necessary because PTEs, as withholding agents, withhold tax at source on nonresident owners—not lower tier PTEs. An upper tier PTE will receive withholding information from its lower tier PTE. However, the PTE will withhold tax at source on nonresident owners—not lower tier PTEs.

2. Section 18662-4, subsection (j) (ISOR, page 16)

  • Subsection (j) has been revised to include information regarding a new Form, FTB Form 592-PTE, Pass-Through Entity Resident and Nonresident Annual Withholding Return.  Specifically, subsection (j)(3) has been revised to be  similar to its counterpart found in FTB Form 592, and to modify the check box to indicate the total withholding paid "at the end of the year" rather than one of four due dates for the tax withheld. Subsection (j)(5) has been added to include withholding agent information for lower tier pass-through entities. In addition, subsection (j)(9) has been proposed to be amended to be analogous to current subsection (j)(10), for foreign pass-through entity withholding distribution. As set forth in subsection (d) above, the creation of FTB Form 592-PTE is necessary to effectuate FTB's changing of its filing structure—from a quarterly filing withholding structure to an annual one—and which will be used specifically by domestic pass-through entities, who, as withholding agents, withhold tax at source on nonresident owners lower tier pass-through entities. As it currently stands, pass-through entities, and tiered structures in particular, have difficulty in timely filing Form 592 to allocate withholding to the ultimate owner, as it appears that an upper tier pass-through entity may not receive its withholding information from the lower tier pass-through entity (typically through Form 592-B) until after the Form 592 quarterly due date. This can cause issues in which the ultimate individual owner is denied a claimed withholding credit due to the untimely filing of Form 592 and subsequent untimely allocation of withholding to that owner. To ameliorate this problem, the proposed amendments will create a new form (Form 592-PTE) that will apply only to domestic pass through entities.  The proposed amendment to subsection (j)(3) is necessary to effectuate the change for domestic PTEs from a quarterly filing scheme to an annual one. The proposed amendment to subsection (j)(5) is necessary for domestic PTEs because it will allow the upper-tier pass through entity filing the FTB Form 592-PTE to properly account for the withholding to identify who the lower-tier pass-through entity is, or the original withholding agent was.  Finally, the proposed amendment to subsection (j)(9) is necessary because it will identify the amount that was withheld by the lower-tier pass-through entity.

The ISOR description for this section of the Regulations has been modified to change "lower tier pass through entities" to "nonresident owners" in one place  This change is necessary because PTEs, as withholding agents, withhold tax at source on nonresident owners—not lower tier PTEs. An upper tier PTE will receive withholding information from its lower tier PTE. However, the PTE will withhold tax at source on nonresident owners—not lower tier PTEs.

3. Section 18662-8, subsection (c)(2)(B) (ISOR, page 25)

    • Subsection (c)(2)(B) has been added to establish new/different reporting requirements for domestic PTEs. The proposed addition specifies that for domestic PTEs, FTB Form 592-Q shall be filed with the FTB with each quarterly withholding remittance, and these quarterly payments shall also be reported to the FTB pursuant to FTB Form 592-PTE on an annual basis no later than January 31st of the year following the year for which such withholding was required to be remitted to the FTB. This subsection clarifies that the FTB Form 592-PTE will be filed on a yearly basis, with the FTB Form 592-Q being filed on a quarterly basis to show each quarterly withholding remittance. This subsection also sets the due date for the filing of FTB Form 592-PTE as January 31st of the year following the year for which withholding was required to be remitted to the FTB. FTB Form 592-Q is largely based off of the FTB Form 592-V, with the primary difference being that FTB Form 592-V is used as a voucher for payments with respect to nonresident withholding, whereas FTB Form 592-Q is used as a voucher for domestic PTE withholding.  As set forth in the Withholding Regulations at Section 18662-4, subsection (d), and detailed above, the creation of FTB Form 592-PTE is necessary to effectuate FTB's changing of its filing structure—from a quarterly filing withholding structure to an annual one.  The form will be used specifically by domestic pass-through entities, who, as withholding agents, withhold tax at source on nonresident owners lower tier pass-through entities. Currently, pass-through entities, and tiered structures in particular, have difficulty in timely filing Form 592 to allocate withholding to the ultimate owner.  This may happen when an upper tier pass-through entity does not receive its withholding information from the lower tier pass-through entity (typically through Form 592-B) until after the Form 592 quarterly due date. This in turn can cause a second problem in which the ultimate individual owner is denied a claimed withholding credit due to the untimely filing of Form 592 and subsequent untimely allocation of withholding to that owner. To ameliorate this problem, the proposed amendments will create a new form (Form 592-PTE) that will apply only to domestic pass through entities.  This new form will be filed on January 31 of the year following the year for which such withholding was required to be remitted to FTB.  This date is also the due date for federal Form W-2, Wage and Tax Statement, and Form 1099 information returns. Annual reporting in general allows the upper tier pass-through entity more time to receive withholding information from their lower tier pass-through entity, which then helps them timely file their withholding return. This may also help prevent the individual partners from having their claimed withholding credit denied when they file their income tax returns since there is now more time for the withholding credit to be allocated to the individual.

The ISOR description for this section of the Regulations has been modified to change "lower tier pass through entities" to "nonresident owners" in one place, and to correct an omission of a particular subsection of the Regulations in the explanation.  The change with respect to PTEs is necessary because PTEs, as withholding agents, withhold tax at source on nonresident owners—not lower tier PTEs. An upper tier PTE will receive withholding information from its lower tier PTE. However, the PTE will withhold tax at source on nonresident owners—not lower tier PTEs. The change with respect to the specific Regulation section number is necessary because previously the ISOR inadvertently referenced "Withholding Regulations at Section 18662, subsection (d)" without reference to the specific subsection. The text has been modified to now state "Withholding Regulations at Section 18662-4, subsection (d)" to correctly identify the pertinent regulation section number.