Backup Withholding

What is Backup Withholding?

Backup withholding is a type of tax that gets levied on investment Income that the investor withdraws, at a specific Tax Rate. For such payments that are not subjected to withholding, payers have to withhold the tax.

This concept helps to ensure that the government is able to collect income Taxes that the investors owe upon their Earnings. Generally, backup withholding is applied when the investor doesn’t meet the rules in terms of taxpayer-identification numbers (TIN).

During the time an investor withdraws the investments, the amount compulsory by this tax gets remitted to the government.

How Does Backup Withholding Work?

Capital gains, dividends, and interest payments are some of the income types that investors earn on their invested assets. While this income comes under the taxable category at the time of receiving, taxes that are owed on the calendar year’s investment income are only due once per year, during the tax season.

Therefore, there is a potential that investors may spend their investment income before the annual income tax due date. This can lead to an inability to pay taxes. In a way, this inability is the primary risk that allows the government to levy backup withholding taxes during the time of earning the investment income.

Specific Considerations

There are also certain special considerations when backup withholding can be applied. For instance, if a taxpayer doesn’t provide valid TIN or doesn’t report patronage dividend income, interest or dividend, they will have to pay this tax.

There are other payment types that are subjected to backup withholding, such as fees, commissions, profits, royalty (computer software also included), rents, and other payments that a person earns by providing independent services. Winning a gamble can also be subjected to backup withholding in certain cases.

While applying for the withholding tax on such payments, the taxpayer should consider all the aspects that have been amended till date, considering that the Finance Act, 2020 has altered some considerations for cinematographic films’ exhibition, distribution or sale.

Moreover, threshold limits differ from payment to payment. The taxpayer is only required to withhold their tax if the total payment within a year is more than the specified limit.