Government Contractors Get Delay in 3 Percent Withholding

May 25, 2011

Businesses that are government contractors received a temporary reprieve from a law that requires federal, state and local governments to withhold 3 percent on payments made to the contractors.  The AICPA believes the one-year delay granted recently by the Internal Revenue Service is a positive step, but continues to strongly support repeal as the best way of eliminating the compliance burdens associated with the law.

The AICPA wrote Congress earlier this year to urge lawmakers to repeal the law.  “We strongly support repeal of the 3 percent withholding law because compliance will likely prove extremely burdensome for state and local governments, government contractors, medical service providers, farmers, and others concerned," the AICPA letter said.  "We also support repeal of 3 percent withholding because of the potentially harmful impact that the law will have on businesses engaged in government contracting.”

An example of the harmful effect would be a company that has 3 percent withholding imposed on the services it provides as a government prime contractor.  “The company might find it extremely difficult to adjust subcontractor arrangements to pass the timing and cost of withholding on to its subcontractors. This issue alone represents the potential for notable impact on contractor cash flows and financing and administrative costs. The impact of the withholding law could be even more pronounced for a government contractor with low profit margins, potentially threatening their operations through a tightening of its cash flow,” the letter said.

Because of the delay granted by the IRS on May 10, the withholding requirement will not take effect until Jan. 1, 2013. 

For more information read the May 11 Journal of Accountancy article.