The IRS has released proposed amendments (REG-112829-25) to regulations governing backup withholding, reflecting the reversion under the One Big Beautiful Bill Act (OBBBA) to the $20,000/200 transaction threshold under IRC Section 6050W. The proposed regulations under IRC Section 3406 clarify the reporting requirements for third-party settlement organizations (TPSOs) for payments made to settle third-party network transactions.

The new rules are retroactive to payments made in calendar years beginning after December 31, 2024.

Background

Generally, TPSOs are payment services or marketplaces that accept payments from buyers of goods and services and pass on those payments to the merchants, as well as meeting certain other requirements. The central organization on the network that is generally responsible for issuing Form 1099-K, Payment Card and Third Party Network Transactions, is the TPSO.

IRC Section 6050W requires TPSOs to report payments to payees if, in a calendar year, the payee received more than $20,000 and participated in more than 200 transactions. The American Rescue Plan Act of 2021 (ARPA) lowered this threshold to $600, regardless of the number of transactions.

The OBBBA retroactively reverted the reporting threshold to the pre-ARPA level effective as if included in the ARPA. Thus, reporting is now required only when payments exceed $20,000 and 200 transactions in a calendar year for 2025 and beyond. These payments are reported on Form 1099-K.

IRC Section 3406 governs backup withholding for reportable payments. The OBBBA added IRC Section 3406(b)(8) specifying that backup withholding for TPSOs must align with the reporting thresholds under IRC Section 6050W.

The IRS had released two notices granting transitional relief for the reporting requirements (see Tax Alerts 2023-0028 and 2023-1929). In Notice 2024-85, the IRS established a $5,000 threshold for reporting calendar-year 2024 transactions and a $2,500 threshold for calendar-year 2025 transactions (see Tax Alert 2024-2220), as well as a zero-dollar threshold for backup withholding, which would have required TPSOs to substantially alter the prevailing market practice and collect taxpayer identification numbers (TINs) almost immediately. These notices are now obsolete as they are inconsistent with the statutory revisions.

Proposed regulations

The regulations under IRC Section 6050W are not affected because they already reflect the reporting threshold under the OBBBA.

The proposed regulations would update the IRC Section 3406(b) regulations to reflect the OBBBA reversion of the reporting thresholds. TPSOs would be required to report payments on Form 1099-K only if the payee receives more than $20,000 and engages in more than 200 transactions within a calendar year. This adjustment would be retroactive to 2025.

Backup withholding would be mandated solely when both the reporting thresholds are met. Specifically, the entire amount of the transaction that causes the payee to surpass both the transaction and dollar threshold, along with any subsequent payments within the same calendar year, would be subject to withholding.

If a payee received reportable payments in the previous calendar year, all payments made to that payee in the current year would be subject to backup withholding, regardless of whether the thresholds are met.

Implications

The proposed rules would fill a long-standing gap in the backup withholding regulations, which should reduce the pressure to obtain TINs from small-dollar users of most TPSO services. Unfortunately, they also leave in place the zero-dollar backup withholding threshold of Notice 2024-85, which seems to be effective from its official publication in the Internal Revenue Bulletin on December 16, 2024, until December 31, 2024. Consequently, TPSOs would still be liable for backup withholding on any payments during that period.