On December 16, the IRS issued Notice 2020-2, which extends the phase-in of withholding under section 871(m). This is the latest in a series of such extensions.
Most importantly, under the notice, withholding on dividend equivalents applies only to delta-one transactions through 2022, and applies to other U.S. equity transactions beginning after 2022. A delta-one transaction tracks the underlying on a dollar-for-dollar basis.
In addition, the notice generally provides that:
- When enforcing section 871(m), the IRS will take into account the extent to which the taxpayer or withholding agent made a good faith effort to comply with section 871(m) for delta-one transactions through 2022 and for non-delta-one transactions in 2023.
- Until 2023, withholding agents will be required to combine transactions for purposes of determining whether the transactions are subject to withholding under section 871(m) only if the transactions are over-the-counter transactions and are priced, marketed, or sold in connection with each other. (This simplified standard applies only to withholding agents, and not to long parties. Thus, a long party may still owe substantive tax with respect to equity-linked derivatives that are entered into in connection with each other and, when combined, result in a delta-one transaction, even if the withholding agent does not withhold.)
A qualified derivatives dealer (QDD) (1) will not be subject to tax on dividends and dividend equivalents received in its equity derivatives dealer capacity until 2023; (2) will be required to compute its section 871(m) tax liability using a net delta approach beginning in 2023; and (3) will be required to perform certain periodic reviews with respect to its QDD activities beginning in 2023. Withholding agents can continue to use the qualified securities lending (QSL) rules for payments made until 2023.