IRS proposes rules on backup withholding threshold for payment companies

The Treasury Department and the Internal Revenue Service issued proposed regulations Thursday to revise the threshold for when third-party settlement organizations need to perform backup withholding to comply with changes under the One Big Beautiful Bill Act.

The OBBBA changed the threshold for when taxpayers need to file a Form 1099-K when they've received payments through companies such as eBay, PayPal, Venmo, Etsy, Airbnb, Stubhub and others. The OBBBA revived the old threshold for reporting such payments, raising it to $20,000 and over 200 transactions.

The threshold had been lowered by the American Rescue Plan Act of 2021 to $600 and any number of transactions, but implementation of that new threshold was repeatedly delayed and phased in by the IRS due to concerns about the additional paperwork and heavy compliance burden. However, the OBBBA did not change the backup withholding requirements for the third-party organizations handling the payments, leaving a discrepancy that the new proposed regulations attempt to address.

The proposed rules aim to provide greater clarity on backup withholding and say third party settlement organizations generally are not required to backup withhold on payments settled through third party payment networks unless the gross amount of reportable payment transactions to a payee exceeds $20,000 and the number of transactions exceeds 200. 

The Treasury and the IRS are asking for comments on the proposed regulations from interested parties. Commenters can use regulations.gov to provide their input. 

The IRS reminded businesses that under the changes enacted in the OBBBA, the threshold for filing Form 1099-K reverted to the reporting threshold in effect prior to the enactment of the American Rescue Plan Act, and that reporting on payments settled through third party payment networks is only required where the gross amount of reportable payment transactions to a payee exceeds $20,000 and the number of transactions exceeds 200. 

The IRS is also reminding taxpayers that backup withholding and reporting thresholds do not affect whether the income they receive is taxable. In other words, even if they don't receive a Form 1099-K from a third party, that doesn't mean they don't owe taxes on the income they've earned.

There are some additional complexities as well in the proposed rules. "For tax professionals advising TPSOs or participating payees, these proposed regulations represent a significant technical shift from the existing regulatory framework," wrote Ed Zollars of Thomas, Zollars & Lynch in his Current Federal Tax Developments blog. "Specifically, they modify the determination of 'reportable payments' subject to backup withholding by incorporating the de minimis thresholds found in section 6050W(e). … The core conflict addressed by REG-112829-25 lies in the discrepancy between the thresholds for informational reporting (Form 1099-K) and the thresholds for backup withholding under current regulations."

The proposed regulations would apply to payments in 2025 and later. Zollars recommends tax practitioners should review their clients' backup withholding systems to make sure they're able to track both the current-year aggregate thresholds and the preceding-year reporting status of payees.