Also see: February 1 Deadline Looms for Forms W-2 and 1099-MISC, and New Form 1099-NEC.

CPA Sample Client Letter: Requirement to File Forms 1099.

(Parker Tax Publishing January 2021)

Dear [Client],

The IRS focuses heavily on taxpayer compliance with information reporting laws. Penalties for compliance failures have steadily increased over the years mainly because Congress sees such penalties as an easy revenue generator.

Generally, any person, including a corporation, partnership, individual, estate, and trust, who engages in reportable transactions during the calendar year must file information returns to report those transactions to the IRS. Persons required to file information returns to the IRS must also furnish statements to the recipients of the income by January 31 (or the next business day if January 31 falls on a weekend).

Penalties for failure to file correct information returns may apply if you: (1) don't file a correct information return by the due date and a reasonable cause is not shown; (2) file on paper when you were required to file electronically; (3) fail to report a taxpayer identification number (TIN); (4) report an incorrect TIN; or (5) fail to file paper forms that are machine readable.

Penalties for failure to furnish correct payee statements may apply if: (1) you don't provide a correct payee statement by the applicable date and a reasonable cause isn't shown; (2) all required information isn't shown on the statement; or (3) incorrect information is included on the statement. The penalty rates for failure to file correct information returns and/or to furnish correct payee statements depend on how late the correct Form 1099 is filed. A higher per-failure penalty applies for a taxpayer who intentionally disregards the filing requirements for information returns and payee statements.

To properly report the information required on Form 1099, you need to have the provider's taxpayer identification number (TIN). You can request that the provider fill out and give you a Form W-9, Request for Taxpayer Identification Number and Certification, before work is done or payments are made. If a provider does not supply you with a taxpayer identification number, you are generally required to "backup withhold" 24 percent from any "reportable payments."

There are several variations of Form 1099. The version of Form 1099 you are required to use depends on the type of payment you are reporting. Outside of the financial services industry, the two most common variations are Form 1099-NEC, Nonemployee Compensation, and Form 1099-MISC, Miscellaneous Information. The former is new for the 2020 tax year. Many businesses which have reported payments on Form 1099-MISC in the past will be required to use Form 1099-NEC beginning with the 2020 tax year.

Form 1099-NEC

Form 1099-NEC is for reporting payments made in the course of your business of at least $600 to someone who is not your employee. Specifically, you will need to file a Form 1099-NEC for each person to whom you paid at least $600 was paid during the year for:

(1) services performed by someone who is not your employee (including amounts paid for parts and materials);

(2) cash payments for fish (or other aquatic life) you purchased from anyone engaged in the trade or business of catching fish; or

(3) payments to an attorney (other than gross proceeds).

As with the Form 1099-MISC, payments must be reported on a Form 1099-NEC only when they are made in the course of your trade or business; personal payments are not reportable. You must also file Form 1099-NEC for each person from whom you have withheld any federal income tax under the backup withholding rules, regardless of the amount of the payment.

Some payments that may be taxable to the recipient are not required to be reported on Form 1099-NEC, including:

(1) generally, payments to a corporation (including an LLC that is treated as a C or S corporation);

(2) payments of rent to real estate agents or property managers (however, the real estate agent or property manager must use Form 1099-MISC to report the rent paid over to the property owner);

(3) business travel allowances paid to employees and employee business expense reimbursements; and

(4) cancelled debts under Code Sec. 6050P (cancelled debts must be reported on Form 1099-C, Cancellation of Debt).

Although payments to corporations generally are not reportable on Form 1099-NEC, attorney fee payments made to corporations generally are required to be reported on Form 1099-NEC.

Forms 1099-NEC must be furnished to the recipients and filed with the IRS by January 31 (or the next business day if January 31 falls on a weekend).

Form 1099-MISC

You must file Form 1099-MISC for each person (subject to the exceptions listed below) to whom you paid during the year:

(1) at least $10 in royalties or broker payments in lieu of dividends or tax-exempt interest;

(2) at least $600 in rents, prizes and awards, other income payments, medical and health care payments, crop insurance proceeds, or, generally, the cash paid from a notional principal contract to an individual, partnership, or estate;

(3) any fishing boat proceeds; or

(4) gross proceeds of $600 or more paid to an attorney.

In addition, you may use either Form 1099-MISC or Form 1099-NEC to report direct sales of at least $5,000 of consumer products made to a buyer for resale anywhere other than a permanent retail establishment. Form 1099-MISC must also be filed for each person from whom you may have withheld any federal income tax under the backup withholding rules, regardless of the amount of the payment.

You must report payments on Form 1099-MISC only when the payments are made in the course of your trade or business; personal payments are not reportable. You are engaged in a trade or business if you operate for gain or profit. For this purpose, nonprofit organizations are considered to be engaged in a trade or business and are subject to these reporting requirements.

Some payments are not required to be reported on Form 1099-MISC, although they may be taxable to the recipient. Payments for which you are not required to file a Form 1099-MISC include:

(1) generally, payments to a corporation (including a limited liability corporation (LLC) that is treated as a C or s corporation);

(2) payments for merchandise, telegrams, telephone, freight, storage, and similar items;

(3) wages paid to employees (these must be reported on Form W-2, Wage and Tax Statement);

(4) military differential wage payments made to employees while they are on active duty in the Armed Forces or other uniformed services (these also must be reported on Form W-2);

(5) business travel allowances paid to employees (may be reportable on Form W-2);

(6) cost of current life insurance protection (must be reported on Form W-2 or Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.);

(7) payments to a tax-exempt organization, including tax-exempt trusts (IRAs, HSAs, Archer MSAs, and Coverdell ESAs), the United States, a state, the District of Columbia, a U.S. possession, or a foreign government;

(8) payments made to or for homeowners from the HFA Hardest Hit Fund or similar state program (reportable on Form 1098-MA);

(9) compensation for injuries or sickness by the Department of Justice as a public safety officer disability or survivor's benefit, or under a state program that provides benefits for surviving dependents of a public safety officer who has died as the direct and proximate result of a personal injury sustained in the line of duty; and

(10) compensation for wrongful incarceration for any criminal offense for which there was a conviction under federal or state law.

Forms 1099-MISC must be furnished to the recipients by January 31 (or the next business day if January 31 falls on a weekend). Forms must be filed with the IRS by February 28 if filed on paper, or by March 31 if filed electronically.

Concluding Thoughts

Unless you specifically engage me to prepare your Form 1099s, you are responsible for preparing and filing Forms 1099. If you are audited, the IRS will want documentation of expenses and will look at whether Form 1099s were filed. Any wage and labor amounts to be deducted on your return will be separately classified and will not be hidden or bundled with other expenses, since there are specific lines on the returns for wages and labor.

There are many other types of information returns that you may be required to file depending on the types of activities in which your business engages in. Please call me at your earliest convenience with any questions.

Sincerely,

[Your Name, Your Firm]

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