[Federal Register Volume 85, Number 102 (Wednesday, May 27, 2020)]
[Proposed Rules]
[Pages 31714-31718]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-10679]


-----------------------------------------------------------------------

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 31 and 35

[REG-100320-20]
RIN 1545-BP69


Income Tax Withholding on Certain Periodic Retirement and Annuity 
Payments Under Section 3405(a)

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

-----------------------------------------------------------------------

SUMMARY: This document sets forth a proposed regulation that provides 
rules for Federal income tax withholding on certain periodic retirement 
and annuity payments to implement an amendment made by the Tax Cuts and 
Jobs Act. This proposed regulation would affect payors of certain 
periodic payments, plan administrators that are required to withhold on 
such payments, and payees who receive such payments.

DATES: Written or electronic comments and requests for a public hearing 
must be received by July 27, 2020. Requests for a public hearing must 
be submitted as prescribed in the ``Comments and Requests for a Public 
Hearing'' section.

ADDRESSES: Commenters are strongly encouraged to submit public comments 
electronically. Submit electronic submissions via the Federal 
eRulemaking Portal at www.regulations.gov (indicate IRS and REG-100320-
20) by following the online instructions for submitting comments. Once 
submitted to the Federal eRulemaking Portal, comments cannot be edited 
or withdrawn. The IRS expects to have limited personnel available to 
process public comments that are submitted on paper through mail. Until 
further notice, any comments submitted on paper will be considered to 
the extent practicable. The Department of the Treasury (Treasury 
Department) and the IRS will publish for public availability any 
comment submitted electronically, and to the extent practicable on 
paper, to its public docket.
    Send paper submissions to: CC:PA:LPD:PR (REG-100320-20), Room 5203, 
Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulation, 
Kara M. Soderstrom of the Office of Associate Chief Counsel (Employee 
Benefits, Exempt Organizations, and Employment Taxes) at (202) 317-
5234; concerning submissions of comments and/or requests for a public 
hearing, Regina Johnson, (202) 317-5177 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

    This document sets forth a proposed amendment to the Employment Tax 
Regulations (26 CFR parts 31 and 35) under section 3405 of the Internal 
Revenue Code (Code). This proposed regulation would update certain 
provisions of Sec.  35.3405-1T to conform to a change to section 
3405(a)(4) made by section 11041(c)(2)(G) of the Tax Cuts and Jobs Act, 
Public Law 115-97,

[[Page 31715]]

131 Stat. 2054 (2017) (TCJA). Prior to amendment by TCJA, section 
3405(a)(4) provided that, in the case of any periodic payment for which 
a withholding certificate is not in effect, the amount withheld from 
the periodic payment (the default rate of withholding) is determined by 
treating the payee as a married individual claiming three withholding 
exemptions. As amended by TCJA, section 3405(a)(4) provides that the 
default rate of withholding on periodic payments is determined under 
rules prescribed by the Secretary. Section 35.3405-1T reflects the rule 
under section 3405(a)(4) prior to amendment by TCJA.

1. Statutory and Regulatory Framework

    Section 3405 provides Federal income tax withholding rules for 
payments of pensions, annuities, and certain other deferred income 
(retirement and annuity payments). Retirement and annuity payments that 
are subject to withholding under section 3405 include periodic 
payments, nonperiodic distributions, and eligible rollover 
distributions.
    The Treasury Department and the IRS have issued several sets of 
regulations under section 3405 that provide guidance regarding 
withholding on periodic payments, nonperiodic distributions, and 
eligible rollover distributions. On October 14, 1982, the Treasury 
Department and the IRS issued Sec.  35.3405-1T (TD 7839) (47 FR 45868), 
which provides general rules addressing withholding requirements and 
specific rules addressing withholding on periodic payments and 
nonperiodic distributions (other than eligible rollover distributions), 
notice and election procedures, and reporting and recordkeeping 
requirements. On September 22, 1995, the Treasury Department and the 
IRS issued Sec.  31.3405(c)-1 (TD 8619) (60 FR 49215), which provides 
rules for withholding on eligible rollover distributions, as defined in 
section 402(f)(2)(A) (generally referring to distributions from plans 
qualified under section 401(a), section 403(a) plans, section 403(b) 
tax-sheltered annuity plans, or section 457(b) plans maintained by a 
governmental employer that are eligible to be rolled over to an IRA (an 
individual retirement account or individual retirement annuity) or 
another eligible retirement plan). On February 8, 2000, the Treasury 
Department and the IRS issued Sec.  35.3405-1 (TD 8873) (65 FR 6007), 
which provides rules regarding the medium through which notices 
required under section 3405 may be provided. On May 31, 2019, proposed 
Sec.  31.3405(e)-1 was published in the Federal Register (84 FR 25209) 
to propose rules applicable to periodic payments and nonperiodic 
distributions (other than eligible rollover distributions) that are to 
be delivered outside the United States and its possessions.

2. Definition of Periodic Payment

    While the guidance described in Section 1 of this Background 
relates to all types of payments and distributions subject to 
withholding under section 3405, this proposed regulation addresses only 
the change made by section 11041(c)(2)(G) of TCJA to section 
3405(a)(4), and therefore applies only to certain periodic payments.
    A periodic payment is defined in section 3405(e)(2) as ``a 
designated distribution which is an annuity or similar periodic 
payment.'' Subject to certain exceptions,\1\ a designated distribution 
generally is defined in section 3405(e)(1)(A) as any distribution or 
payment from or under an employer deferred compensation plan, an 
individual retirement plan (as defined in section 7701(a)(37)), or a 
commercial annuity. For this purpose, an employer deferred compensation 
plan is defined in section 3405(e)(5) as any pension, annuity, profit-
sharing, or stock bonus plan or other plan deferring the receipt of 
compensation, and a commercial annuity is defined in section 3405(e)(6) 
as an annuity, endowment, or life insurance contract issued by an 
insurance company licensed to do business under the laws of any State. 
Section 35.3405-1T, Q&A a-9, provides that a periodic payment includes 
an annuity or similar periodic payment, whether paid by a licensed life 
insurance company, a financial institution, or a plan, and that an 
``annuity'' is a series of payments payable over a period greater than 
one year and taxable under section 72 as amounts received as an 
annuity, whether or not the payments are variable in amount.
---------------------------------------------------------------------------

    \1\ Under section 3405(e)(1)(B), a designated distribution does 
not include any amount that is wages without regard to section 3405; 
the portion of a distribution or payment (excluding any distribution 
or payment from or under an individual retirement plan, other than a 
Roth IRA) which it is reasonable to believe is not includible in 
gross income; any amount that is subject to withholding under 
subchapter A of chapter 3 (relating to withholding of tax on 
nonresident aliens and foreign corporations) by the person paying 
such amount or which would be so subject but for a tax treaty; or 
any distribution described in section 404(k)(2) (relating to 
distributions of ``applicable dividends'' by an employee stock 
ownership plan).
---------------------------------------------------------------------------

3. Withholding on Periodic Payments

    Section 3405(a) requires the payor of any periodic payment to 
withhold from the payment as if the payment were wages paid by an 
employer to an employee, unless an individual has elected under section 
3405(a)(2) not to have withholding apply, subject to the following 
exceptions. First, section 3405(c)(1)(A) provides that section 3405(a) 
does not apply in the case of any designated distribution that is an 
eligible rollover distribution (as defined in section 402(f)(2)(A)). 
Second, section 3405(e)(12) provides that no election under section 
3405(a)(2) will be treated as in effect (and the provisions of section 
3405(a)(4) for determining the default rate of withholding will not 
apply) if a payee fails to furnish the payee's Taxpayer Identification 
Number (TIN) to the payor in the manner required by the Secretary or 
the Secretary notifies the payor before any payment or distribution 
that the TIN furnished by the payee is incorrect. Third, under section 
3405(e)(13), no election under section 3405(a)(2) may be made with 
respect to certain periodic payments to be delivered outside of the 
United States and its possessions.

4. Default Rate of Withholding on Periodic Payments and TCJA Amendment

    Before amendment by TCJA, section 3405(a)(4) provided that, in the 
case of any periodic payment with respect to which a withholding 
certificate is not in effect, the amount withheld from the periodic 
payment is ``determined by treating the payee as a married individual 
claiming 3 withholding exemptions.'' TCJA amended section 3405(a)(4) to 
eliminate the requirement that the payee be treated as a married 
individual claiming three withholding exemptions and to provide instead 
that, in the case of any periodic payment with respect to which a 
withholding certificate is not in effect, the amount withheld from the 
periodic payment will be ``determined under rules prescribed by the 
Secretary.''

5. Guidance Regarding the Default Rate of Withholding on Periodic 
Payments

    Following enactment of TCJA, the Treasury Department and the IRS 
issued guidance addressing the change to section 3405(a)(4). Section V 
of Notice 2018-14, 2018-7 I.R.B. 353, and section 10 of Notice 2018-92, 
2018-51 I.R.B. 1038, provided that, for 2018 and 2019, respectively, 
the rules for withholding when no withholding certificate is furnished 
with respect to periodic payments under section 3405(a) would

[[Page 31716]]

parallel the rules for prior years and would be based on treating the 
payee as a married individual claiming three withholding allowances. 
Similarly, section IV of Notice 2020-3, 2020-3 I.R.B. 330, provides 
that, for 2020, the default rate of withholding from periodic payments 
under section 3405(a) is based on treating the payee as a married 
individual claiming three withholding allowances and applying that 
status when referring to the applicable withholding tables and related 
computational procedures in the 2020 Publication 15-T, ``Federal Income 
Tax Withholding Methods.'' \2\
---------------------------------------------------------------------------

    \2\ Notice 2020-3 also provides that the Treasury Department and 
the IRS are considering whether the default rate of withholding from 
periodic payments that is in effect for 2020 will continue to be 
appropriate for calendar years after 2020, and requests comments on 
whether the adoption of a new default rate of withholding on 
periodic payments that applies prospectively would present any 
administrative challenges. One comment was received on this issue 
(available at: https://www.regulations.gov/document?D=IRS-2019-0051-0004). The commenter provides suggestions regarding the effective 
date and prospective application of any change to the default rate 
of withholding on periodic payments and suggestions regarding the 
applicable withholding tables for periodic payments for calendar 
years after 2020.
---------------------------------------------------------------------------

Explanation of Provisions

1. Default Rate of Withholding on Periodic Payments

    As indicated in the Background section of the preamble, certain 
provisions of Sec.  35.3405-1T reflect the rule under section 
3405(a)(4) prior to amendment by TCJA.\3\ Specifically, Q&As a-10, b-3, 
and b-4 of Sec.  35.3405-1T each provide that the default rate of 
withholding on periodic payments is determined by treating the payee as 
married and claiming three withholding allowances. The proposed 
regulation would remove these three Q&As from Sec.  35.3405-1T because 
they prescribe the substantive default rate of withholding rule under 
section 3405(a)(4) prior to amendment by TCJA. The proposed regulation 
would not remove other Q&As in Sec.  35.3405-1T that reference the pre-
TCJA rule under section 3405(a)(4) but do not require payors to 
withhold based upon that pre-TCJA rule (for example, the sample notice 
in Sec.  35.3405-1T, Q&A d-21).\4\ The proposed regulation would update 
and replace the provisions of Q&As a-10, b-3, and b-4 in new Sec.  
31.3405(a)-1, which provides that the default rate of withholding on 
periodic payments is determined in the manner described in the 
applicable forms, instructions, publications, and other guidance 
prescribed by the Commissioner.
---------------------------------------------------------------------------

    \3\ In addition to the amendment made by section 11041(c)(2)(G) 
of TCJA, described in the Background section of the preamble, 
section 11041(c)(2)(F) of TCJA amended section 3405(a)(3) and (4) 
(and the heading for paragraph (4)) to replace each reference to 
``exemption'' with ``allowance,'' effectively replacing references 
to ``withholding exemption certificate'' with ``withholding 
allowance certificate.'' However, the Treasury Department and the 
IRS have determined that no updates to Sec.  35.3405-1T are required 
to implement section 11041(c)(2)(F) of TCJA because Sec.  35.3405-1T 
refers to a ``withholding certificate.''
    \4\ As described in Section 2 of this Explanation of Provisions, 
the Treasury Department and the IRS intend to update other Q&As in 
Sec.  35.3405-1T in the future.
---------------------------------------------------------------------------

    This proposed Sec.  31.3405(a)-1 provides a flexible and 
administrable rule that leaves the communication and mechanical details 
of the default rate of withholding on periodic payments to be provided 
in applicable forms, instructions, publications, and other guidance. 
These materials can be updated quickly as needed (for legislative 
changes or other reasons) to provide payors and plan administrators 
processing payments adequate time to program their systems to withhold 
the proper amount of income tax. Currently, withholding on periodic 
payments, including the default rate of withholding, is explained in 
the instructions to the 2020 Form W-4P, ``Withholding Certificate for 
Pension or Annuity Payments,'' the 2020 Publication 15-T, and related 
publications. The 2020 Publication 15-T also provides the tables that 
payors use to calculate withholding on periodic payments (and the 
tables that employers use to calculate withholding on taxable wages).
    Proposed Sec.  31.3405(a)-1 would also generally update Q&As a-10, 
b-3, and b-4 of Sec.  35.3405-1T to reflect relevant statutory changes 
and provide clarifications. Notably, in accordance with section 
3405(a)(3), proposed Sec.  31.3405(a)-1 would update the rules for 
determining the effective date of a payee's Form W-4P by referencing 
the rules under section 3402(f)(3) and the applicable forms, 
instructions, publications, and other guidance prescribed by the 
Commissioner.\5\ Section 3402(f)(3) provides different withholding 
certificate effective date rules for cases in which there is no 
previous withholding certificate in effect and cases in which a 
previous withholding certificate is in effect. Form W-4P effective date 
information is provided in the 2019 Publication 505, ``Tax Withholding 
and Estimated Tax.''
---------------------------------------------------------------------------

    \5\ Thus, proposed Sec.  31.3405(a)-1 addresses the amendment of 
section 3402(f)(3)(B) by section 10302(a) of the Omnibus Budget 
Reconciliation Act of 1987, Public Law No. 100-203, 101 Stat. 1330 
(1987). The amendment to section 3402(f)(3)(B) affected the rules in 
Q&A b-3 of Sec.  35.3405-1T for determining the effective date of a 
payee's Form W-4P.
---------------------------------------------------------------------------

2. Other Provisions of Sec.  35.3405-1T

    Proposed Sec.  31.3405(a)-1 refers taxpayers to Sec.  35.3405-1T, 
among other regulations under section 3405, for additional guidance 
regarding Federal income tax withholding on periodic payments, and is 
intended to be read in conjunction with those other regulations. For 
example, proposed Sec.  31.3405(a)-1(b) provides general guidance 
regarding Federal income tax withholding on periodic payments, but an 
election of no withholding under section 3405(a)(2) may be available as 
described in Sec.  35.3405-1T, Q&A d-1.
    While this proposed regulation would update certain Q&As in Sec.  
35.3405-1T, it would not update all of the Q&As, including several Q&As 
that do not reflect legislative changes that became effective after the 
publication of Sec.  35.3405-1T. For example, the description in Sec.  
35.3405-1T, Q&A d-1, of an election of no withholding has not been 
updated to reflect that an election may not be available due to the 
restrictions set forth in section 3405(e)(12) (failure to provide 
correct TIN) or 3405(e)(13) (certain payments to be delivered outside 
of the United States and its possessions). The current priority of the 
Treasury Department and the IRS is to address the provisions of Sec.  
35.3405-1T that were impacted by TCJA. In the future, the Treasury 
Department and the IRS intend to update the provisions of Sec.  
35.3405-1T to reflect all statutory changes since the initial 
promulgation of the temporary regulation.

Proposed Applicability Date

    This regulation is proposed to apply to periodic payments made 
after December 31, 2020. Notwithstanding Sec.  35.3405-1T, taxpayers 
may rely on the rules set forth in this notice of proposed rulemaking, 
in their entirety, until the date of publication of a Treasury Decision 
adopting this proposed rule as a final regulation.

Special Analyses

1. Regulatory Planning and Review

    This regulation is not subject to review under section 6(b) of 
Executive Order 12866 pursuant to the Memorandum of Agreement (April 
11, 2018) between the Treasury Department and the Office of Management 
and Budget regarding review of tax regulations.

2. Paperwork Reduction Act

    Any collection of information associated with this notice of 
proposed

[[Page 31717]]

rulemaking has been submitted to the Office of Management and Budget 
for review under OMB control number 1545-0074 in accordance with the 
Paperwork Reduction Act of 1995 (44 U.S.C. 3507(d)). In general, the 
collection of information is required under section 3405 of the Code. 
The Treasury Department and the IRS request comments on all aspects of 
information collection burdens related to this proposed regulation, 
including estimates for how much time it would take to comply with the 
paperwork burdens described in OMB control number 1545-0074 and ways 
for the IRS to minimize the paperwork burden. An agency may not conduct 
or sponsor and a person is not required to respond to a collection of 
information unless it displays a valid OMB control number.

3. Regulatory Flexibility Act

    Under the Regulatory Flexibility Act (RFA) (5 U.S.C. chapter 6), it 
is hereby certified that this proposed regulation, if adopted, would 
not have a significant economic impact on a substantial number of small 
entities that are directly affected by the proposed regulation. The 
proposed regulation will apply to all payors of periodic payments, 
including small entities, and is likely to affect a substantial number 
of small entities. The economic impact, however, will not be 
significant. The primary change is to effect a TCJA legislative 
amendment to remove the reference in section 3405(a)(4) to a married 
individual claiming three exemptions as the default withholding rate 
and to provide, in its place, that the amount to be withheld is 
determined in the applicable forms, instructions, publications, and 
other guidance prescribed by the Commissioner. Accordingly, this rule 
would conform the current regulation to the statute and will not have a 
significant economic impact on a substantial number of small entities. 
Notwithstanding this certification, the Treasury Department and the IRS 
invite comments on any impact this rule would have on small entities.
    Pursuant to section 7805(f), this notice of proposed rulemaking has 
been submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on its impact on small business.

Statement of Availability of IRS Documents

    IRS Notices cited in this preamble are published in the Internal 
Revenue Bulletin and are available from the Superintendent of 
Documents, U.S. Government Publishing Office, Washington, DC 20402, or 
by visiting the IRS website at http://www.irs.gov.

Comments and Requests for a Public Hearing

    Before this proposed amendment to the regulations is adopted as a 
final regulation, consideration will be given to comments that are 
submitted timely to the IRS as prescribed in the preamble under the 
ADDRESSES section. The Treasury Department and the IRS request comments 
on all aspects of the proposed regulation. Any electronic comments 
submitted, and to the extent practicable any paper comments submitted, 
will be made available at www.regulations.gov or upon request.
    A public hearing will be scheduled if requested in writing by any 
person who timely submits electronic or written comments. Requests for 
a public hearing are also encouraged to be made electronically. If a 
public hearing is scheduled, notice of the date and time for the public 
hearing will be published in the Federal Register. Announcement 2020-4, 
2020-17 IRB 1, provides that until further notice, public hearings 
conducted by the IRS will be held telephonically. Any telephonic 
hearing will be made accessible to people with disabilities.

Drafting Information

    The principal author of these proposed regulations is Kara M. 
Soderstrom, Office of Associate Chief Counsel (Employee Benefits, 
Exempt Organizations, and Employment Taxes). However, other personnel 
from the Treasury Department and the IRS participated in the 
development of these proposed regulations.

List of Subjects

26 CFR Part 31

    Employment taxes, Fishing vessels, Gambling, Income taxes, 
Penalties, Pensions, Railroad retirement, Reporting and recordkeeping 
requirements, Social security, Unemployment compensation.

26 CFR Part 35

    Employment taxes, Income taxes, Pensions, Reporting and 
recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR parts 31 and 35 are proposed to be amended as 
follows:

PART 31--EMPLOYMENT TAXES AND COLLECTION OF INCOME TAX AT SOURCE

0
Paragraph 1. The authority citation for part 31 is amended by adding an 
entry for Sec.  31.3405(a)-1 in numerical order to read in part as 
follows:

    Authority: 26 U.S.C. 7805.
* * * * *
    Section 31.3405(a)-1 also issued under 26 U.S.C. 3405(a)(4).
* * * * *
0
Par. 2. Section 31.3405(a)-1 is added to read as follows:


Sec.  31.3405(a)-1  Questions and answers relating to Federal income 
tax withholding on periodic retirement and annuity payments.

    (a) The following questions and answers relate to Federal income 
tax withholding on periodic payments under section 3405(a), as amended 
by section 11041(c)(2)(G) of the Tax Cuts and Jobs Act (Pub. L. 115-97, 
131 Stat. 2054 (2017)). The withholding rules of section 3405(a) do not 
apply to periodic payments that are eligible rollover distributions (as 
defined in section 402(f)(2)(A)). See generally section 3405(c) and 
Sec.  31.3405(c)-1 for Federal income tax withholding rules applicable 
to eligible rollover distributions. See section 3405(e)(13) for 
additional rules applicable to certain periodic payments under section 
3405(a) and nonperiodic distributions under section 3405(b) that are to 
be delivered outside the United States and its possessions. For 
additional guidance regarding periodic payments, see Sec. Sec.  
35.3405-1 and 35.3405-1T of this chapter.
    (b)(1) Q-1: How will Federal income tax be withheld from a periodic 
payment?
    (2) A-1: In the case of a periodic payment that is subject to 
withholding under section 3405(a), amounts are withheld as if the 
payment were a payment of wages by an employer to the employee for the 
appropriate payroll period. If the payee has not furnished a 
withholding certificate, the amount to be withheld is determined in the 
manner described in the applicable forms, instructions, publications, 
and other guidance prescribed by the Commissioner. The rules for 
withholding when the payee has not furnished a withholding certificate 
apply regardless of whether the payor is aware of the payee's actual 
marital status or actual Federal income tax filing status.
    (c)(1) Q-2: Do rules similar to those for wage withholding apply to 
the furnishing of a withholding certificate for periodic payments?
    (2) A-2: Yes. Unless the rules of section 3405 specifically 
conflict with the rules of section 3402, the rules for withholding on 
periodic payments that are not eligible rollover distributions will 
parallel the rules for wage

[[Page 31718]]

withholding. Thus, if a withholding certificate is furnished by a 
payee, it will generally take effect in accordance with section 
3402(f)(3) and as provided in applicable forms, instructions, 
publications, and other guidance prescribed by the Commissioner. If no 
withholding certificate is furnished, the amount withheld must be 
determined in the manner described in the applicable forms, 
instructions, publications, and other guidance prescribed by the 
Commissioner for withholding on periodic payments when no withholding 
certificate is furnished.
    (d)(1) Q-3: What is the applicability date of this section?
    (2) A-3: This section applies with respect to periodic payments 
made after December 31, 2020.

PART 35--EMPLOYMENT TAX AND COLLECTION OF INCOME TAX AT SOURCE 
REGULATIONS UNDER THE TAX EQUITY AND FISCAL RESPONSIBILITY ACT OF 
1982

0
Par. 3. The authority citation for part 35 continues to read in part as 
follows:

    Authority: 26 U.S.C. 6047(e), 7805; 68A Stat. 917; 96 Stat. 625; 
Public Law 97-248 (96 Stat. 623) * * *


Sec.  35.3405-1T  [Amended]

0
Par. 4. Section 35.3405-1T is amended by removing and reserving Q&A a-
10, Q&A b-3, and Q&A b-4.

Sunita Lough,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2020-10679 Filed 5-26-20; 8:45 am]
BILLING CODE 4830-01-P