The IRS on Tuesday proposed to amend its regulations so that taxpayers that are subject to withholding under Secs. 1441 through 1443 (chapter 3 of the Code, imposing withholding tax on nonresident aliens, foreign corporations, and foreign exempt organizations) or Secs. 1471 and 1472 (chapter 4 of the Code or FATCA) and that make claims for refunds or credits of the withheld tax are prevented from obtaining them where a withholding agent failed to deposit the amounts required under Sec. 6302 (Notice 2015-10).
If the IRS allows a refund or credit for an amount that has not been deposited, it may find it difficult to recover that amount because the taxpayer and sometimes the withholding agent may be outside the United States. The current practice of allowing refunds or credits based on the amount reported as withheld on Form 1042-S, Foreign Person’s U.S. Source Income Subject to Withholding, presents the risk that refunds or credits may be improperly granted for fictitious withholding or amounts that have not been deposited.
In response, the IRS intends to amend Regs. Secs. 1.1464-1(a) and 1.1474-5(a)(1) to allow a refund or credit to a taxpayer for an overpayment only to the extent the withholding agent has deposited (or otherwise paid over) the amount withheld and the amount exceeds the taxpayer’s tax liability, except as otherwise provided by Sec. 6401(b)(2). Also, the IRS will issue regulations under Sec. 33 and amend Regs. Secs. 1.1462-1(a) and 1.1474-3(a) to provide that a credit is available to a taxpayer only to the extent that the withholding agent has deposited (or otherwise paid) the amount withheld.
The IRS will also issue rules for allocating partial payments among taxpayers, as described in the notice. The IRS stated it considered permitting the use of a tracing or specific identification method for partial payments, but rejected it as too burdensome. It requested comments on that issue as well as whether there should be exceptions to the proposed rules, for example for a de minimis amount or where a withholding agent has a history of complying with the withholding rules.
These regulations are intended to apply to claims for refund or credit for amounts withheld for the 2015 calendar year and later.