Section 3405(a)(1) requires the payor of any periodic payment to withhold income tax from the payment. Under section 3405(a)(2), an individual generally may elect not to have section 3405(a)(1) apply with respect to periodic payments made to the individual. Section 3405(b)(1) requires the payor of any nonperiodic distribution to withhold income tax from the distribution. Under section 3405(b)(2), an individual generally may elect not to have section 3405(b)(1) apply with respect to any nonperiodic distribution.

Section 3405(e)(2) defines a periodic payment as a designated distribution that is an annuity or similar periodic payment. Section 3405(e)(3) defines a nonperiodic distribution as any designated distribution that is not a periodic payment. A designated distribution generally is defined in section 3405(e)(1) 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 3405(e)(1)(B) identifies certain amounts or payments that are not a “designated distribution” for purposes of section 3405 withholding. Under section 3405(e)(1)(B)(iii), 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 is not a designated distribution.

Section 3405(e)(13)(A) provides generally that, in the case of any periodic payment or nonperiodic distribution that is “to be delivered outside of the United States and any possession of the United States,” no election may be made under section 3405(a)(2) or (b)(2) with respect to such payment, with the result that withholding may not be waived. Section 3405(e)(13)(B) provides that section 3405(e)(13)(A) does not apply if the recipient certifies to the payor, in such manner as the Secretary of the Treasury may prescribe, that the recipient is not (i) a United States citizen or a resident alien of the United States, or (ii) an individual to whom section 877 applies. Section 877(h) provides that section 877 applies to certain nonresident alien individuals whose expatriation date, as defined in section 877A(g)(3), is before June 17, 2008.

Notice 87-7 (1987-1 C.B. 420), see §601.601(d)(2)(ii)(b), provides guidance under section 3405(e)(13)(A) to payors of designated distributions with respect to their duty to withhold income tax from such distributions. The notice addresses designated distributions to the following categories of payees: (1) Payees who have provided the payors with a residence address outside of the United States;¹ (2) Payees who have provided the payors with a residence address within the United States; and (3) Payees who have not provided the payors with a residence address.

Notice 87-7 specifies that, if a payee has provided the payor with a residence address outside of the United States, the payor is required to withhold income tax from designated distributions to the payee. If a payee has provided the payor with a residence address within the United States, the payor is required to withhold income tax from these distributions to the payee unless the payee has elected no withholding in accordance with the applicable provisions of section 3405. If a payee has not provided the payor with a residence address, the payor is required to withhold income tax from designated distributions; included within this category is a payee who has provided the payor with an address for the payee’s nominee, trustee, or agent without also providing the payee’s residence address.

The Department of the Treasury and the IRS have concluded that Notice 87-7 generally provides an administrable standard with respect to withholding under section 3405 that is consistent with the purposes of the statute. Thus, the proposed regulation is based on the guidance provided in Notice 87-7. However, stakeholders have requested clarification regarding the application of Notice 87-7 and section 3405(e)(13)(A) in the following situations:

The proposed regulation includes rules that would address these situations, and the regulation when finalized would supersede the guidance in Notice 87-7 for payors of designated distributions with respect to their duty to withhold under sections 3405(a)(1) or (b)(1).

This regulation is proposed to apply with respect to distributions on or after the applicability date of the final regulation. Taxpayers may continue to rely upon Notice 87-7 until this regulation is finalized. Upon publication of a final regulation, Notice 87-7 will be superseded. Notwithstanding the previous sentence, taxpayers may rely upon §31.3405(e)-1(b)(1) and (2) of the proposed regulation until the applicability date of the final regulation.

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 Department of the Treasury and the Office of Management and Budget regarding review of tax regulations. Because this regulation does not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Internal Revenue Code, this regulation has been submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

Before this proposed regulation is adopted as a final regulation, consideration will be given to any comments that are submitted timely to the IRS as prescribed in this preamble under the “ADDRESSES” heading. The Department of the Treasury and the IRS request comments on all aspects of the proposed rules, including any administrative concerns and how they should be addressed. All comments will be available at www.regulations.gov or upon request. A public hearing will be scheduled if requested in writing by any person who timely submits written comments. If a public hearing is scheduled, notice of the date, time, and place of the public hearing will be published in the Federal Register.

IRS revenue procedures, revenue rulings, notices and other guidance cited in this preamble are published in the Internal Revenue Bulletin (or Cumulative 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.

The principal author of this proposed regulation is Jeremy D. Lamb, IRS Office of Associate Chief Counsel (Employee Benefits, Exempt Organizations, and Employment Taxes). However, other personnel from the Department of the Treasury and the IRS participated in the development of the proposed regulation.

* * * * *

Accordingly, 26 CFR part 31 is proposed to be amended as follows:

PART 31—EMPLOYMENT TAXES AND COLLECTION OF INCOME AT THE SOURCE

Paragraph 1. The authority citation for part 31 continues to read in part as follows:

Authority: 26 U.S.C. 7805.

* * * * *

Par. 2. Section 31.3405(e)-1 is added to read as follows:

§31.3405(e)-1 Questions and answers relating to withholding on pensions, annuities, and certain other deferred income.

(a) The following questions and answers apply for purposes of determining whether a payor of a distribution described in section 3405(a) or (b) must withhold income tax under this section. For purposes of this section, references to the United States include possessions of the United States.

(b)(1) Q-1: Is an Army Post Office (APO), Fleet Post Office (FPO), or Diplomatic Post Office (DPO) address an address located within the United States for purposes of section 3405(e)(13)(A)?

(2) A-1: For purposes of section 3405(e)(13)(A), an APO, FPO, or DPO address is an address located within the United States.

(c)(1) Q-2: Is the payor required to withhold income tax from any distribution described in section 3405(a) or (b) if the payee’s residence address that is provided to the payor is located within the United States?

(2) A-2: If the payee’s residence address that is provided to the payor is located within the United States, the payor is required to withhold income tax from any distribution described in section 3405(a) or (b) unless the payee has made a valid election of no withholding in accordance with section 3405(a)(2) or (b)(2). Any election of no withholding with respect to a distribution under section 3405(a)(2) or (b)(2) is not valid if the payee instructs the payor to do one or more of the following in connection with the distribution:

(i) Send the distribution to a financial institution or other person located outside of the United States;

(ii) Send the distribution to a financial institution or other person located within the United States with further instructions (such as “for further credit to” instructions) directing that the funds be forwarded to a financial institution or other person located outside of the United States; or

(iii) Send the distribution to a financial institution or other person pursuant to payment instructions (including addenda information) that reference an International Automated Clearing House Transaction (IAT), International Bank Account Number (IBAN), or Society for Worldwide Interbank Financial Telecommunication (SWIFT) Business Identifier Code (BIC) linked to a financial institution or other person located outside of the United States.

(d)(1) Q-3: Is the payor required to withhold income tax from a distribution described in section 3405(a) or (b) if the payee’s residence address that is provided to the payor is located outside of the United States?

(2) A-3: Unless section 3405(e)(13)(B) (which provides an exception for certain nonresident aliens) applies, if the payee’s residence address that is provided to the payor is located outside of the United States, the payor is required to withhold income tax from a distribution described in section 3405(a) or (b), without regard to the delivery instructions and without regard to any request by the payee to elect no withholding. Withholding would be required, in this case, even if the payee has requested that the distribution be delivered to a financial institution or other person located within the United States.

(e)(1) Q-4: Is the payor required to withhold income tax from a distribution described in section 3405(a) or (b) if the payee has not provided the payor with the payee’s residence address?

(2) A-4: If a payee has not provided the payor with the payee’s residence address, the payor is required to withhold income tax from a distribution described in section 3405(a) or (b). A payee may not elect no withholding under section 3405(a)(2) or (b)(2) and any purported election of no withholding by such payee is not valid. For purposes of this section, a payee who has provided the payor with an address for the payee’s nominee, trustee, or agent without also providing the payee’s residence address has not provided a residence address.

(f)(1) Q-5: Do the withholding rules under section 3405(a) and (b) apply to a payee who is to receive a distribution that is subject to withholding under subchapter A of chapter 3 (or that would be so subject but for a tax treaty)?

(2) A-5: In accordance with section 3405(e)(1)(B)(iii), a designated distribution does not include a distribution of a United States-source payment that is subject to withholding under the rules of section 1441 and §1.1441-1(b)(1) of this chapter (or that would be so subject but for a tax treaty), such as a pension or other deferred compensation plan distribution to be made to a payee who is a nonresident alien (or other individual payee who is presumed to be a foreign person under the presumption rules of §1.1441-1(b)(3) of this chapter). Withholding under the rules of section 1441 and §1.1441-1(b)(1) of this chapter, rather than under the rules of section 3405(a) or (b), would apply to such a distribution.

(g)(1) Q-6: What is the effective date and applicability date of this section?

(2) A-6: This section is effective on the date of publication of the Treasury decision adopting these rules as a final regulation in the Federal Register. The regulation in this section applies with respect to distributions on or after the applicability date of the final regulation.

Kirsten Wielobob

Deputy Commissioner for Services and Enforcement

(Filed by the Office of the Federal Register on May 30, 2019, 8:45 a.m., and published in the issue of the Federal Register for May 31, 2019, 84 F.R. 25209)

¹For purposes of this preamble, references to the “United States” include any possession of the United States.

²Army Post Office (APO) is associated with Army or Air Force installations. Fleet Post Office (FPO) is associated with Navy installations and ships. APO/FPO addresses are utilized by Department of Defense personnel, their family members, and other authorized users. Diplomatic Post Office (DPO) provides global mail service to authorized personnel assigned to designated posts abroad.

³Effective July 7, 2004, the GAO's legal name was changed from the General Accounting Office to the Government Accountability Office.

⁴The committee report states that “it will be appropriate to require withholding with respect to pension payments to persons with foreign addresses absent a showing that withholding is not required.” S. Rep. No. 99–313, pt. 4, at 391 (1986).