New Section 6050W of the Internal Revenue Code, which was added by Section 3091(a) of the Housing Assistance Tax Act of 2008 (the “Act”), requires all credit card processors (such as LawPay, First Data and TSYS) and third-party payment aggregators (such as PayPal and Square) to file with the IRS and send to the participating merchant an information return on new Form 1099-K for each calendar year reporting all payment card transactions and third party network transactions with the participating merchant occurring in such calendar year. This amount reported on Form 1099-K is the gross dollar amount of all credit card transactions during the calendar year without regard to any adjustments for credits, cash equivalents, discount amounts, fees, refunded amounts, or any other amounts. Payments made in settlement of third party network transactions, however, are required to be reported only if the amount paid exceeds $20,000 and the aggregate number of transactions exceeds 200 with respect to any payee within a calendar year.
The purpose of the Form 1099-K is to give the IRS an idea of the gross amount of credit card payments that were processed for a merchant. There is no clear indication at present that if the gross amount reported on Form 1099-K does not correspond with a merchant’s reported sales the IRS will require the taxpayer to provide a reconciliation. Note, however, that Line 1a of Form 1120 (U.S. Corporation Income Tax Return) asks for “Merchant card and third-party payments.” The instructions to Form 1120 for tax year 2011 state that the amount on Line 1a is “0” for all taxpayers but presumably that will not be the case in future years. Thus, it will be an easy matter for an IRS computer to match Line 1a against Form 1099-K and if the latter exceeds the former by a certain amount (allowing for credits and refunds, etc.), it could trigger an audit or at least a letter from the IRS asking for an explanation.
An issue of more near-term concern is that Section 6050W also requires card processors to verify and match the payee’s federal tax ID number and its legal name to IRS records. The name and the EIN on Form 1099-K must exactly match what the IRS has on file. If it is not an exact match, then beginning in January 2013 the IRS will impose a 28% withholding penalty on all credit card transactions handled on behalf of the payee. Presumably, this amount withheld can subsequently be recovered by the taxpayer if the legal name and EIN are corrected to correspond to IRS records, but the current regulations do not say how such a refund could be obtained, and, in any case, it is never a simple matter to put an egg back together after the IRS breaks it.
This issue of name and EIN matching is not as simple as it might sound. Most Visa and MasterCard processors use merchant statements that are limited to only 25-35 characters. Consequently, many long-name merchants have either abbreviated their name or used an acronym for their merchant account. If these case, the merchant will need to ensure that its legal name on the Form 1099-K exactly matches the legal name on file with the IRS (in this regard, it is important to remember to notify the IRS by letter whenever a legal entity changes its name).
Card processors that meet the threshold mentioned above should have already sent out 1099-Ks for tax year 2011 but the IRS considers this a “trial run” and will not impose the 28% penalty until next year. Therefore, the 1099-K for 2011 is a good opportunity to see what name and EIN the processor is using. If a merchant does not receive a 1099-K for 2011 it should ask the processor for one simply to check this information.