ARTICLES

New Minnesota Income Tax Withholding Requirements for Individual Construction Contractors

Effective January 1, 2009, Minnesota law requires construction contractors to withhold and deduct two percent (2%) of fees paid to individual construction contractors for all collective amounts in excess of $600.00 in a single calendar year. This represents a significant departure from historical independent contractor relationships in which no withholding was required and further exemplifies the Minnesota Department of Revenue's continued restriction and regulation of independent contractor activities in the construction trades.

Pursuant to the new requirements, a construction contractor (the payor) is any individual or business entity involved in the various construction trades. The definition of "construction trades" is broadly construed and includes, but is not limited to, residential and commercial building construction, residential remodeling, framing and finish carpentry, masonry, roofing and siding, electrical contracting, plumbing and HVAC contracting, drywall and insulation, painting and wall covering, flooring and various other specialty trades. An individual construction contractor (the payee) is any individual operating as a sole proprietorship involved in the construction trades. Hence, this new requirement does not apply to independent contractors that operate through a business entity such as an S-corporation or a limited liability company, even if that entity only has one owner.

In addition to the new withholding requirements, construction contractors are now required to retain the following information for each individual construction contractor they retain and pay: (1) the individual’s name; (2) the individual's address; (3) the individual's social security and Federal Employer Identification Number ("FEIN"); (4) the amount paid to each individual; (5) the amount withheld for each individual; and (5) an IRS Form W-9 for each individual. Please note that a W-9 allows an individual to supply a FEIN in lieu of a social security number, but for the purposes of Minnesota law, the individual must also supply a social security number.

Despite the new requirements, construction contractors will still issue individual construction contractors a 1099-MISC, not a W-2. However, construction contractors must enter "2 percent (0.02)" in the box labeled "State Tax Withheld" on the 1099-MISC. Furthermore, all construction contractors required to withhold tax in these situations are required to register for a Minnesota Tax Identification Number, even if they are a single-member limited liability company and disregarded by the IRS for income tax purposes.

The new withholding requirement also applies regardless of whether an individual has obtained the new Independent Contractor Exemption Certificate that sole proprietor independent contractors involved in the construction trades are required to obtain in Minnesota effective January 1, 2009. Nonetheless, all matters involving the Certificates and the new withholding requirements can be avoided if an independent contractor involved in the construction trades operates through a business entity, which in addition to the ability to avoid these requirements, provides the contractor with the necessary liability protection to protect personal interests from business interests.