How can we review our books and records to determine if there were any reporting and/or withholding responsibilities?

To review your books and records to determine if there were any reporting and/or withholding responsibilities, follow these steps:

1. Detailed Analysis of Accounts Payable:
   • Conduct a thorough analysis of your accounts payable or similar systems to identify payments made to vendors that may be subject to Nonresident Alien (NRA) withholding and/or reporting.
2. Identify Total Amounts Paid to Foreign Persons:
   • Determine the total amounts paid to foreign persons (foreign vendors). This can be done through a computer analysis of all payments to all vendors. Look for indicators such as:
     • Address fields indicating a foreign country, non-U.S. state, foreign city, or non-U.S. zip code.
     • Foreign Employee Identification Numbers (EINs) starting with 98.
     • Foreign Individual Taxpayer Identification Numbers (ITINs) starting with 999 and the fourth digit being a 7 or 8.
     • Foreign vendor numbers or other identifiers in your internal accounting system.
3. Determine FDAP Income:
   • From the total amounts identified, determine which portions qualify as Fixed or Determinable, Annual or Periodic (FDAP) income to the foreign vendor. Common items of FDAP income include interest, dividends, rents, royalties, and nonemployee compensation.
4. Source Determination:
   • Determine if the FDAP income is U.S. sourced. Review all applicable documentation, such as invoices, engagement letters, and contracts, to ascertain whether any services were performed in the U.S. If the source of an amount cannot be determined at the time of payment, it will be treated as U.S. sourced (Treas. Reg. 1.1441-2(a)).
5. Classification of Vendors:
   • Classify all vendors as U.S. or foreign. Ensure that all existing foreign vendors submit the applicable Forms W-8 as soon as possible. If a valid Form W-8 is not received, apply the presumption rules for withholding agents to determine the status of payees for withholding purposes (Treas. Reg. 1.1441-1(b)(3)).
6. Documentation and Validation:
   • Ensure that all required documentation, such as Forms W-8, is obtained and validated. This includes:
     • Reviewing written procedures and training manuals related to withholding tax functions.
     • Ensuring proper validation procedures for Form W-8.
     • Applying presumption rules to undocumented accounts if necessary.
7. Reconciliation and Reporting:
   • Reconcile the gross income, net tax liability, and withholding reported on Form 1042 with the amounts from all Forms 1042-S filed. Obtain reconciliation workpapers and compare Form 1042 with aggregate amounts from Forms 1042-S.
   • Ensure that deposits were made timely by reviewing the taxpayer’s payments and deposits records.
8. Functional Review of Procedures:
   • Perform a functional review of the withholding tax-related operating procedures for capturing and validating payments subject to withholding and client-related information relevant to withholding or reporting.
9. Review of Form 1042 and Form 1042-S:
   • Verify the correctness of items such as gross income, tax withheld, income code, tax rate, exemption code, recipient status code, and recipient’s account number on Forms 1042-S.
10. Due Diligence and Standards of Knowledge:
    • Ensure that the withholding agent has applied the due diligence standards set forth in Treas. Reg. 1.1441-7(b)(1) in its determination of the correct reporting and withholding to be applied.

By following these steps, you can systematically review your books and records to identify any reporting and/or withholding responsibilities, ensuring compliance with IRS regulations.

Sources:
Publication 15 (2024)
Publication 15-A (2024)
IRM Part 4. Examining Process. Chapter 10. Examination of Returns. Section 21. U.S. Withholding Agent Examinations - Form 1042
IRM Part 4. Examining Process. Chapter 23. Employment Tax. Section 8. Determining Employment Tax Liability
Rev. Proc. 2017-15
CCA 201037027