Backup Withholding (IRC 3406): When and Why the IRS Withholds 24% From Your Payments

By Yarik Yarosh, CPA ·September 5, 2026 ·7 min read

Written by Yarik Yarosh, CPA (US & Canada) September 5, 2026 · FL CPA license AC61704 · CPA Ontario

Backup withholding is the IRS’s enforcement mechanism for ensuring that taxpayer identification numbers (TINs) are correct and that income reported on information returns (1099s) can be matched to the right taxpayer. Under IRC 3406, a payer must withhold 24% of certain reportable payments if any of the specified conditions are met. The most common scenario for small businesses: you hire an independent contractor, they give you an incorrect SSN or EIN on the W-9 (or refuse to provide one), and the IRS sends you a “B-notice” (CP2100 or CP2100A) telling you the name/TIN combination does not match IRS records. At that point, you’re legally required to begin backup withholding on future payments to that payee until they provide a corrected, validated TIN. Ignoring B-notices exposes your business to penalties of up to $310 per failure (2025) and potential liability for the tax you should have withheld.

✓Key takeaway

Backup withholding triggers (IRC 3406):

Trigger	What Happens
Payee fails to furnish TIN	Must begin backup withholding on all reportable payments
IRS notifies payer of incorrect TIN (B-notice)	Must solicit corrected W-9 within 15 business days, begin withholding if not corrected
Payee fails to certify exemption from backup withholding	Must withhold until certification received
IRS notifies of underreporting	Must withhold until IRS provides a stop notice
Payee provides obviously incorrect TIN	Must treat as missing TIN

Payments subject to backup withholding:

Payment Type	Form Reported On
Interest	1099-INT
Dividends	1099-DIV
Rents	1099-MISC
Royalties	1099-MISC
Non-employee compensation	1099-NEC
Broker proceeds	1099-B
Payment card/third-party network transactions	1099-K
Other 1099-reportable income	Various 1099 forms

Payments NOT subject to backup withholding:

Payment Type
Wages (already subject to regular withholding on W-2)
Real estate transactions (Form 1099-S)
Distributions from retirement plans (Form 1099-R)
Payments to tax-exempt organizations
Payments to corporations (with exceptions)

B-notice timeline:

Step	Deadline
Receive CP2100/CP2100A from IRS	Usually mailed in September-October for prior year filings
Send First B-notice (solicitation letter) to payee	Within 15 business days of receiving CP2100
Payee must respond with corrected W-9	Within 30 days of your solicitation
If no response: begin backup withholding	30 days after solicitation sent
Second B-notice (if same payee has incorrect TIN again)	Same 15 business day + 30 day timeline
Second B-notice requirement: payee must verify TIN with SSA/IRS	Corrected W-9 alone isn’t sufficient; payee must get TIN validation

What happens when you receive a B-notice?

Hypothetical example

Round numbers. A small business pays 50 independent contractors annually and receives a CP2100A notice from the IRS listing 5 contractors with name/TIN mismatches.

The B-notice process:

Day	Action Required
Day 0	Receive CP2100A from IRS (lists 5 contractors with incorrect TIN/name combinations)
Day 1-15	Send First B-notice letter to each of the 5 contractors requesting a corrected W-9
Day 15-45	Wait for contractor responses
Day 46	If contractor hasn’t responded: begin backup withholding at 24% on all future payments
Ongoing	Continue withholding until corrected W-9 received

Financial impact of backup withholding:

Contractor	Annual Payments	24% Backup Withholding	Net Payment to Contractor
Contractor A (no response to B-notice)	$50,000	$12,000	$38,000
Contractor B (provided corrected W-9 within 30 days)	$50,000	$0	$50,000
Contractor C (no response)	$30,000	$7,200	$22,800
Contractor D (provided corrected W-9)	$25,000	$0	$25,000
Contractor E (no response)	$40,000	$9,600	$30,400

Depositing backup withholding:

Schedule	Deposit Due
General rule	Semi-weekly or monthly (same rules as employment tax deposits)
Report on	Form 945 (Annual Return of Withheld Federal Income Tax)
Due date	January 31 of the following year

Penalties for failing to backup withhold when required:

Penalty	Amount
Failure to withhold (IRC 3406(h))	Payer is liable for the tax that should have been withheld
Failure to furnish correct payee statement	$310 per statement (2025), up to ~$3,783,000 total
Intentional disregard	Greater of $630 per statement or 10% of reportable amount

Example penalty calculation:

Scenario	Penalty
5 contractors with unresolved B-notices, business fails to withhold for the full year
Total payments not withheld	$120,000
Tax that should have been withheld (24%)	$28,800
Payer liability for unwitheld tax	$28,800
Failure to furnish correct statements ($310 x 5)	$1,550
Total exposure	$30,350

TIN matching (preventive measure):

Service	Details
IRS TIN Matching Program	Free online tool at IRS.gov; validate name/TIN combinations BEFORE filing 1099s
Eligibility	Must be enrolled in IRS e-Services
Timing	Match TINs when you receive the W-9, not at year-end
Batch matching	Can submit up to 25 TIN/name combinations per session (interactive) or up to 100,000 via bulk upload
Matching result	”Match” or “Mismatch” (does not tell you the correct TIN)
Limitation	Only validates SSN and EIN format/association; does not verify the person is who they claim to be

Best practices for W-9 collection:

Practice	Why It Matters
Collect W-9 BEFORE first payment	Avoids backup withholding on payment #1
Use IRS TIN Matching to validate	Catches mismatches before the IRS sends a B-notice
Keep W-9s on file (4 years minimum)	Required for audit defense
Don’t accept W-9s without a signature	Unsigned W-9 = no valid certification
Flag payments over $600	This is the reporting threshold for most 1099s
Use current W-9 form version	IRS updates the form periodically

Second B-notice procedures: If the same contractor has a TIN mismatch in TWO consecutive years, the Second B-notice requires a higher standard:

First B-Notice	Second B-Notice
Request corrected W-9 from contractor	Request contractor verify TIN directly with SSA (for SSN) or IRS (for EIN)
Corrected W-9 is sufficient to stop withholding	Corrected W-9 alone isn’t sufficient; need SSA/IRS validation letter
Contractor provides new W-9	Contractor provides W-9 plus SSA confirmation or IRS Letter 147C

What contractors should do when receiving a B-notice solicitation:

Step	Action
1	Check the name/TIN on the original W-9 for errors
2	Complete a new W-9 with the correct information
3	If second B-notice: visit SSA.gov or local SSA office to verify SSN, or call IRS at (800) 829-4933 for EIN verification
4	Return corrected W-9 (and SSA/IRS validation if second notice) to the payer within 30 days

Illustrative numbers only, not a real client and not advice for your facts.

What are the penalties for failing to file 1099s?

The penalty for failing to file a correct information return (including 1099-NEC and 1099-MISC) is $60 per return if filed within 30 days of the due date, $130 if filed after 30 days but by August 1, and $330 per return if filed after August 1 or not at all. Small businesses (average annual gross receipts of $5 million or less) pay reduced penalties. If the failure is due to intentional disregard of the filing requirement, the penalty increases to $660 per return with no maximum. You must also furnish the payee statement (the recipient’s copy) by January 31, and a separate penalty schedule applies for failure to do so. The backup withholding rules (IRC 3406) require you to withhold 24% from payments to any payee who fails to provide a valid TIN on Form W-9.

Related guides:

My bank closed my account because of FATCA. Now what?
W-9 for Canadians: Why You Probably Need a W-8BEN Instead
Independent Contractor Agreements: Tax Provisions Every Business Owner Should…

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Cite this page

Yarik Yarosh, CPA. "Backup Withholding (IRC 3406): When and Why the IRS Withholds 24% From Your Payments." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-backup-withholding-irc-3406-b-notice-compliance

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.