On December 13, 2022, the US Internal Revenue Service (“IRS”) issued Revenue Procedure 2022-43, which provides the final qualified intermediary (“QI”) withholding agreement.1 The prior QI agreement2 (the “2017 QI Agreement”) expired on December 31, 2022. The new QI agreement (the “2023 QI Agreement”) came into effect on January 1, 2023, and is set to expire on December 31, 2028.
The 2023 QI Agreement includes significant changes as compared to the 2017 QI Agreement. First, and most notably, the 2023 QI Agreement largely adopts the changes proposed by the IRS earlier in 2022 in Notice 2022-23,3 which included proposed modifications relating to a QI’s ability to act in such capacity with respect to receiving certain amounts from interests in publicly traded partnerships (“PTPs”)4 and the QI’s withholding obligations under sections 1446(a) and 1446(f) of the Internal Revenue Code (the “Code”) (for further details, please see QI Agreement: US IRS Proposes Modifications to Rules for Distributions by PTPs and Transfers of PTP Interests). In addition, the 2023 QI Agreement incorporates prior IRS guidance, a significant portion of which was published in the form of Frequently Asked Questions (“FAQs”). For example, the 2023 QI Agreement includes additional guidance relating to the requirements for QIs acting as qualified derivatives dealers (“QDDs”) or as intermediaries with respect to dividend equivalent payments under Code section 871(m) of the Code, as well as modifications to a QI’s periodic certification requirements. Lastly, the 2023 QI Agreement incorporates new obligations of a QI. This Legal Update discusses many of the changes incorporated into the 2023 QI Agreement.
In addition, on December 21, 2022, the IRS released Notice 2023-08 (the “Notice”), which provides additional guidance for brokers to comply with certain section 1446 requirements that relate to withholding on the transfer of an interest in a PTP. The Notice provides that a QI applying the provisions of the 2023 QI Agreement may also rely on specified provisions of the Notice.5 This Legal Update also discusses the Notice.
A. The 2023 QI Agreement
“Best Efforts” Standard for Collecting US Taxpayer Identification Numbers for Purposes of Sections 1446(a)
In response to comments that QIs may face challenges to collect US taxpayer identification numbers (“TINs”) from non-US persons holding interests in PTPs, the 2023 QI Agreement adopts a “best efforts” approach to the collection of US TINs. With respect to account holders holding PTP interests receiving distributions or amounts realized, the 2023 QI Agreement provides solicitation requirements that QIs must apply for collecting US TINs. Specifically, a QI is treated as having applied its “best efforts” to obtain a US TIN when the QI makes a written solicitation (initial solicitation) for the account holder’s US TIN in 2023 or the calendar year in which an account holder acquires a PTP, and if an account holder’s US TIN is not provided based on the initial solicitation, QI is required to make an additional written solicitation for the account holder’s US TIN in the calendar year following the calendar year of the initial solicitation, and, if necessary, a further written solicitation in the calendar year following the year of the additional solicitation.6 The 2023 QI Agreement’s definition of “material failure” and “event of default” were similarly updated to take into account this “best efforts” standard with respect to the collection of US TINs for purposes of section 1446. QIs (and certain entities acting in an NQI capacity) should consider whether it is appropriate to update their policies and procedures to take into account these new US TIN solicitation requirements.
The ”best efforts” standard relates to documentation and not withholding; therefore, it is important to note that a QI is not permitted to apply a reduced rate of withholding under Code sections 1446(a) or (f) if the account holder fails to provide a US TIN for any calendar year in which a payment is made.
Requirements for Disclosing QIs
As previewed in the preamble to the final regulations for section 1446(f) and Notice 2022-23 (released earlier in 2022), the 2023 QI Agreement incorporates the concept of a “disclosing QI,” which is a QI that does not assume withholding responsibilities for purposes of sections 1446(a) and (f), and, instead, provides its custodian/broker with payee specific documentation (only IRS Forms W-8 and W-9; a disclosing QI cannot provide documentary evidence for its account holders), in addition to a recipient-specific withholding statement (that includes income and proceeds), as well as the requisite section 6031 nominee statement. The 2023 QI Agreement does not require a disclosing QI to provide the section 6031 nominee statement to the QI’s nominee if such nominee maintains fully segregated and disclosed accounts for the disclosing QI’s account holders that include the information necessary for the PTP (or its agent) to issue a Schedule K-1 to each beneficial owner of the PTP interest.
In addition, the 2023 QI Agreement incorporates the requirement of Notice 2022-23 that a QI must act as a disclosing QI for the entire amount of a PTP distribution or amount realized from the sale of a PTP interest, commonly referred to as the “all or nothing” approach. The 2023 QI Agreement, however, clarifies that a QI may act as disclosing QI even if the Form W-8 associated with the payee account holder does not include a US TIN. In other words, lack of a US TIN on a Form W-8 will no longer prevent a QI from acting as a disclosing QI for the entire amount of a payment made to multiple account holders due to any account holder failing to provide a US TIN. The QI must nevertheless use its best efforts, as set forth under the 2023 QI Agreement and described above, to obtain a US TIN for any such account holder.
In addition, the 2023 QI Agreement makes clear that a disclosing QI must disclose both its US and non-US account holders.
The 2023 QI Agreement retains the requirement that a disclosing QI provide a valid withholding certificate for each account holder (aside from the US TIN requirement, discussed above). A disclosing QI may wish to discuss this requirement with its custodian/broker so that there is an understanding between the parties to promptly remediate any withholding certificate or withholding statement that is considered to be invalid by the custodian/broker.
Certification Regarding Sections 1446(a) and (f)
The 2023 QI Agreement adds a new certification regarding a QI’s procedures for complying with sections 1446(a) and (f) and (more generally) that the QI has acted only to the extent permitted under the QI agreement. Thus, for example, a QI would not be able to make this certification if it represents its status as a QI with respect to an amount realized paid to an account holder for an interest in a partnership that is not a PTP.
To the extent an entity takes the decision to act as a QI with respect to sections 1446(a) and (f), it should carefully consider this new certification and ensure that it is not acting in a QI capacity with respect to an interest in a non-PTP. This may involve discussions with a QI’s custodian/broker to ensure PTPs and non-PTPs are not held in the same account and documented separately.
Collective Refund Procedure for Purposes of Sections 1446(a) and (f)
The 2023 QI Agreement provides that a QI is unable to apply the collective refund procedures for overwithholding under sections 1446(a) and (f). This is because account holders receiving payments subject to withholding under section 1446(a) or (f) are required to file US income tax returns to report these payments and should claim any associated credits or refunds of the withholding on such returns.
Qualified Derivative Dealers (“QDDs”) and Qualified Security Lenders (“QSLs”)
The 2023 QI Agreement also describes the requirements for QIs acting as QDDs and the requirements of QIs regarding payments of dividend equivalents they receive in an intermediary capacity for purposes of regulations issued under Code sections 871(m), 1441, 1461, and 1473.
The QDD provisions in the 2023 QI Agreement are generally retained from the 2017 QI Agreement, with some added guidance for QDDs that are partnerships or a branch of a partnership and incorporate portions of prior Frequently Asked Questions (“FAQs”) that supplement the 2017 QI Agreement, as well as certain transitional relief provided by Notice 2022-37.
Under the 2023 QI Agreement, a QDD must assume primary chapter 3 and chapter 4 withholding and reporting responsibility and primary Form 1099 reporting and backup withholding responsibility under Code section 3406 for payments made as a QDD regarding potential Code section 871(m) transactions.
A QI acting as a QDD generally remains liable for its QDD tax liability and must report that liability on the appropriate US tax returns. While a QDD is not required to perform a periodic review for calendar years 2023 and 2024 regarding its QDD activities, the 2023 QI Agreement requires a QDD to certify, as part of its periodic certification, that it made a good-faith effort to comply with section 871(m) regulations and the relevant provisions of the 2023 QI Agreement. The 2023 QI Agreement clarifies that in order to rely on the good-faith effort standard, a QI must provide the information previously specified by FAQ #19 – Certifications and Periodic Reviews for the 2017 QI Agreement.7
With respect to QSLs, the 2023 QI Agreement provides that a withholding agent may not act as a QSL for payments made after 2024. Until December 31, 2024, if a QI that is not acting as a QDD acts as a QSL, it must act as a QSL and assume primary withholding responsibility (including Form 1099 reporting) for all substitute dividends received and paid by the QI when acting as an intermediary or dealer regarding securities lending and similar transactions.
Validity Standards for Documentation
The 2023 QI Agreement incorporates FAQs# 1 and 2 – Provisions for 2017 QI Agreement, which provide additional guidance on the standard certain QIs must apply when treating documentation provided by a direct account holder as unreliable. First, the 2023 QI Agreement clarifies that a QI may treat a direct account holder’s claim of non-US status on a Form W-8 as unreliable only if the QI had a US mailing or permanent address for the account holder (as opposed to having a US mailing or permanent address in the account file). Second, with respect to a claim of treaty benefits, the 2023 QI Agreement provides that a QI is not required to redocument a direct account holder claiming treaty benefits if the QI had documented such account holder before January 1, 2018, in accordance with the prior applicable guidance. For those direct account holders documented on or after January 1, 2018, a QI should have a permanent residence address for the direct account holder in the jurisdiction associated with the documentation being relied upon. In addition, the 2023 QI Agreement added additional cross references to the specific provisions of the applicable Treasury Regulations and reorganizes section 5.10 of the 2023 QI Agreement with new subsections for easier reference. Section 5.10(A) of the 2023 QI Agreement also includes cross references to regulations addressing general validity standards applicable to documentation for purposes of Code sections 1446(a) and (f).
Curing Hold Mail Instructions
In 2020, the Treasury Department and the IRS published final regulations (TD 9890) that modified the hold mail rules, whereby a withholding agent may treat an account holder's address subject to a hold mail instruction as a permanent residence address if the withholding agent obtains documentary evidence that supports the person's claim of non-US status or claim of residence in a treaty country (as applicable). The 2023 QI Agreement includes the same requirements as the 2020 final regulations regarding when a QI may treat an address subject to a hold mail instruction as a permanent residence address.
Furnishing Recipient-Specific IRS Form 1042-S to the Account Holder
The 2023 QI Agreement limits the period of time that an account holder may request a recipient-specific Form 1042-S from the QI. Specifically, a non-US account holder is now required to make a written request for the form within two full calendar years following the year of the payment for which the form is requested. If, however, a QI files a Form 1042-S to report a payment subject to section 1446(a) or (f) withholding with respect to an account holder that requests a Form 1042-¬S for the same calendar year, the request must be made in writing within three calendar years of the year of the payment. In addition, a QI is permitted to deny any such requests for a recipient-specific Form 1042-S if the account holder does not provide the QI with its US TIN. That said, the 2023 QI Agreement does not address the timing for a QI to amend its pooled Form 1042-S reporting. QIs should be mindful of reporting mismatches in relation to unreconciled amounts.
Compliance Requirements and Periodic Reviews
With regards to a QI’s certification process, the 2023 QI Agreement broadly retained the review steps and compliance requirements provided under the current QI agreement and added requirements for purposes of a QI's responsibilities under Code sections 1446(a) and (f). That said, there are several additions/changes to the certification process and periodic review, some of which are highlighted below:
- New Appendix III. The 2023 QI Agreement includes a new Appendix III, which is intended to assist the IRS in determining whether Forms 1042 and 1042-S were filed accurately by a QI for the years of a certification period not covered by a periodic review (or all such years if a waiver of the periodic review is requested). This Appendix requires QIs to provide, for each applicable year, certain information reported on Form 1042 and Forms 1042-S (including amended forms), by box and line, reconcile certain information included on the Forms 1042-S issued to the QI to the Form 1042 and Forms 1042-S filed by the QI (and between the Form 1042 and Forms 1042-S filed by the QI) and provide explanations for any identified variances. QIs will be required to upload a completed copy of Appendix III as part of their periodic certifications using the attachment feature in the Qualified Intermediary Application and Account Management System (“QAAMS”).
- Submission of periodic review report. The 2023 QI Agreement requires QIs to submit a copy of their periodic review report with their periodic certification. (The 2017 QI Agreement does not require a QI to submit the periodic review report with its periodic certification absent an IRS request for the report.)
- Remediation plan. The 2023 QI Agreement requires a QI that submits a qualified certification to complete the remediation plan (as detailed in Part II.B.3 of Appendix I) and submit this information with the certification.
- Revisions to Appendix I. The 2023 QI Agreement adds certain information requests to Appendix I regarding a QI’s activities related to withholding under sections 1446(a) and (f). As previously mentioned, the 2023 QI Agreement adds a new certification regarding a QI’s procedures for complying with sections 1446(a) and (f) and (more generally) that the QI has acted only to the extent permitted under the QI agreement.
- Final certification and periodic review for terminating QIs. The 2017 QI Agreement requires a QI terminating its QI Agreement to submit a final certification within six months of the date of termination regardless of whether a periodic review has been completed for the portion of the certification period preceding termination. The 2023 QI Agreement provides that if a QI terminates its QI agreement in the final year of a certification period, the QI must submit a periodic review report covering one of the two years before the year of termination unless the QI is granted a waiver.
- Merger or acquisition and combined periodic review. For a case in which a QI (predecessor QI) merges into or is acquired by another QI that assumes the predecessor QI’s obligations relating to the predecessor QI’s QI agreement (successor QI), the 2017 QI Agreement provides that the successor QI must provide the predecessor QI’s final certification and include the predecessor QI in its periodic review following the merger. The 2023 QI Agreement provides that if a predecessor QI merges into or is acquired by a successor QI and the predecessor QI is required to submit a periodic review report due to its termination, the predecessor QI may satisfy this requirement through a combined periodic review. Under the 2023 QI Agreement, a combined periodic review is a review that covers one of the two years before the year of the predecessor QI’s termination and that includes accounts of both the predecessor QI and the successor QI for purposes of specified review procedures relating to documentation and withholding. Notwithstanding the performance of a combined periodic review, the predecessor QI and the successor QI must make separate certifications for the period covered by the combined periodic review. There is a process, however, for a predecessor QI to obtain a six-month extension from the deadline to submit its final certification, provided that the request for extension indicates that it is being made due to the combined periodic review and is delivered to the IRS before the deadline for the final certification.
Communications Under the 2023 QI Agreement
The 2023 QI Agreement allows written notices sent by QIs to the IRS to be either mailed via registered, first-class mail or e-mailed to the IRS at email@example.com. Furthermore, the 2023 QI Agreement specifically states that the IRS will send notices to a QI by secure e-mail to the QI's responsible officer and other contact persons designated by the QI. QIs should ensure their information on QAAMS, including the responsible officer and other contact persons, are current to avoid missing communications from the IRS.
Public List of QIs
As part of the application or renewal process of a QI agreement, every QI will be required to consent to have its name, status as a QI, and QI-EIN disclosed on a publicly available list of QIs to be published by the IRS on its website. This will ensure that entities do not misrepresent themselves as a QI when providing a W-8IMY to a withholding agent. While the IRS has not yet issued guidance (in the 2023 QI Agreement or elsewhere) addressing standards of knowledge and an entity’s claim of QI status, QIs (and other withholding agents) should consider whether it is appropriate to confirm an entity’s claim of QI status against the published list (similar to the GIIN verification process).
The IRS is in the process of transitioning QAAMS to a modernized sign-in system with applicable multi-factor authentication procedures. Beginning in the spring of 2023, all QAAMS users will be required to have completed the credentialing process with the applicable credential service provider and use the multi-factor authentication procedures to access QAAMS.
As mentioned above, the 2023 QI Agreement is generally effective from January 1, 2023. Existing QIs that desire to renew their QI agreement with an effective date of January 1, 2023, must do so through QAAMS between January 1, 2023, and March 31, 2023.
The effective date of the QI agreement for a new QI applicant will depend on when the QI submits its application and whether the QI has received any reportable payments before it submits its application. Beginning January 1, 2023, a prospective QI that applies for QI status on or before March 31 of a calendar year and is approved will have a QI agreement with an effective date of January 1 of that year. If a prospective QI applies for QI status after March 31 of a calendar year and has not received a reportable payment before the date it applies for QI status and is approved, it will have a QI agreement with an effective date of January 1 of that year. If a prospective QI applies for QI status after March 31 and has received a reportable payment before the date it applies and is approved, it will have a QI agreement with an effective date of the first of the month in which its QI application is approved and the prospective QI is issued a QI-EIN.
B. Notice 2023-08, Additional Guidance Related to Transfers of Publicly Traded Partnership Interests under Section 1446(f)
The Notice addresses specified major topics with respect to a broker’s withholding obligations for purposes of Code section 1446(f) (transfers of interests in PTP by non-US persons), including non-US traded PTP interests, reliance on late certifications, and short sales of PTP interests. In addition to its application to brokers, the Notice provides that a QI applying the provisions of the 2023 QI Agreement may also rely on specified provisions of the Notice.
Non-US Traded Entities
The Treasury regulations promulgated under section 1446(f) generally provide that withholding on the sale of a PTP interest is required unless such PTP issues a Qualified Notice that a withholding exception is applicable. In response to public comments regarding the challenges presented in identifying non-US entities that are PTPs, the Notice provides that the Treasury Department and the IRS intend to issue proposed regulations to provide withholding relief to brokers on the sale of an interest in an entity that is organized outside of the United States and that trades solely on a non-US established securities market or a non-US secondary market (“non-US-traded entity”). This proposed amendment would allow a broker that effects a sale of an interest in a non-US-traded entity to presume that the entity is not a PTP for US tax purposes unless the broker has actual knowledge otherwise. Where a broker has actual knowledge that a non-US-traded entity is a PTP for US tax purposes, such broker would be required to withhold under Code section 1446(f) (unless the broker has a Qualified Notice confirming that an exception applies or the PTP interest holder is eligible for a reduced rate of withholding).
Unlike the section 1441 and 1471 Treasury regulations, the Treasury regulations promulgated under section 1446(f) do not currently permit a broker to rely on late tax certifications (e.g., tax certifications received after the date of payment) with respect to the imposition of withholding tax. The Notice provides that the Treasury Department and the IRS intend to issue proposed regulations that permit brokers to rely on late certifications for purposes of withholding under sections 1446(a) and 1446(f) These late certification rules will generally coordinate with the late documentation rules under sections 1441 and 1471. The Notice does not define the term “certification” when discussing these intended proposed regulations. It is not entirely clear whether future proposed regulations will apply to both IRS Forms W-8 and W-9.
Short Sales of PTP Interests
The Notice provides that the Treasury Department and the IRS intend to issue proposed regulations to provide an exception to withholding under section 1446(f) on a PTP short sale. This PTP short sale exception would apply to a PTP short sale effected by a broker on behalf of a taxpayer that obtained the PTP interest from another party (including the broker or a customer of the broker) for sale to market. No withholding would be required on the sale to market of the PTP interest or on the later transfer by the taxpayer of an identical PTP interest to the original PTP interest owner.
However, the Notice provides that the PTP short sale exception will not apply in certain situations in which there may be gain arising from the PTP short sale that is subject to section 864(c)(8), including where, on the date that the sale to market is entered on the books of the broker, (i) the taxpayer holds substantially identical property in an account with the broker or (ii) the broker has actual knowledge that the taxpayer holds substantially identical property in an account with another broker. In such cases, the taxpayer may realize gain from delivery of such substantially identical property to the original PTP interest owner or from the constructive sale rules.
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For questions or legal advice in connection with the 2023 QI Agreement, Notice 2023-8, or FATCA generally please contact one of the authors listed above.
4 The term “publicly traded partnership interest” means “an interest in a publicly traded partnership if the interest is publicly traded on an established securities market or is readily tradable on a secondary market (or the substantial equivalent thereof).” Treas. Reg. § 1.1446(f) – 1(b)(5).
7 The FAQs referenced herein can be found at the following website: https://www.irs.gov/businesses/corporations/qualified-intermediary-general-faqs.