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[[I'm having a hard time getting firm info on how one ends up forced into "backup withholding". I am
a fulltime investor that lives exclusively on capital gains. My tax man advises that my quarterly
estimated taxes aren't a "big deal" if underpaid. That the penalty isn't large and that the penalty is the
worst that can happen. However...I have read about "backup withholding" and that "problem
payers" can be forced into having 31% withheld by the brokerage on every trade. Needless to say,
I'd be out of business and the IRS would soon have all my working capital till filing. Does accurate
payment of estimated taxes effect a "problem payer" status? What criteria does the IRS use to force
backup withholding? Is this a matter of tax code or policy? Any help would be greatly appreciated.]]

I don't know if I would totally agree with your tax man. Why pay the penalties if you don't have to? Seems silly to me. And while s/he may not think the penalties are that great, try running 9% compounded daily into your computer to see what your REAL APR rate happens to be.

Nevertheless, A payor (such as your broker)must deduct and withhold 31% of any reportable payment if:

(1) the payee (you) has failed to furnish his taxpayer identification number (TIN) to the payor in the required manner; or
(2) IRS has notified the payor that the TIN furnished by the payee is incorrect; or
(3) there has been a notified payee underreporting; or
(4) the payee has failed to make the certification on Form W-9.

But none of these requirements deal with the payment of underpayment penalties. If you file your taxes on a timely basis, and report all of your income and dividends, you should not have any problems with backup withholdin...even if you elect to pay the underpayment penalties.

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