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Withholding for Flow-Through Entities

Revised December 27, 2013

Introduction

On January 1, 2012, changes to Michigan’s Income Tax Act created the Corporate Income Tax (CIT) as well as new withholding requirements for flow-through entities that have members, partners, or shareholders that are corporations or other flow-through entities.

The requirement under the Income Tax Act to withhold on nonresident individuals that are members, partners, and shareholders of a flow-through entity has also changed. Business income is now apportioned using only the sales factor. In addition, a fiscal year flow-through entity will now file its quarterly and annual returns based on its own fiscal quarters and fiscal year and not on the calendar quarters and year as was the case previously. See “Reporting and Payment Requirements” for additional changes.

Terms and Definitions

For purposes of the Flow-Through Withholding requirements, the following terms and definitions apply:

Flow-through entity(FTE) – an entity that, for that tax year, is an S corporation, a general partnership, a limited partnership, a limited liability partnership, or a limited liability company that is not taxed as a C corporation for federal income tax purposes for that tax year. FTE does not include a disregarded entity for federal income tax purposes.  MCL 206.701(d).

“Member” of a flow-through entity – a shareholder of an S corporation; a partner in a general partnership, limited partnership, or limited liability partnership; or a member of a limited liability company.

Corporation – any entity that is required to or has elected to file as a C corporation for federal income tax purposes for that tax year.  MCL 206.605(1).

Nonresident individual – means an individual who is not a resident of or domiciled in this state.  MCL 206.701(f).

Distributive Share – A member’s share of business income reported to the member on a federal K-1 form.

Business Income – For an FTE, business income includes payments and items of income and expense that are attributable to business activity of the FTE and separately reported to the members.

Tiered Structure – A structure where an FTE (source FTE) has one or more members that are also FTEs (intermediate FTE member).

Who is required to pay Flow-Through Withholding?

An FTE is required to withhold. In a tiered structure, the source FTE is required to withhold and in some cases the intermediate FTE member may also be required to withhold. Trusts are not FTEs for purposes of withholding and are not required to withhold on trust beneficiaries.

Withholding Requirements on Nonresident Individuals

Every FTE in Michigan must withhold on every member that is a nonresident individual. This withholding is done at the individual income tax rate on the distributive share, after allocation or apportionment to Michigan, which is reasonably expected to accrue to the nonresident individual. Withholding is not required on income protected by federal Public Law 86-272.

If an FTE receives no instructions from a nonresident individual regarding personal exemptions, the FTE should withhold at the individual income tax rate without regard to personal exemptions. Personal exemptions may be considered if the necessary W-4 information for members is provided.

For tax years ending in 2012, the individual income tax rate is 4.33%. For tax years ending in 2013, the individual income tax rate is 4.25%.

Withholding Requirements on Corporate Members

An FTE with business activity in Michigan that reasonably expects to accrue more than $200,000 in business income for the tax year, after allocation or apportionment to Michigan, must withhold on the distributive share of its members that are corporations. This withholding is done at the CIT rate of 6%.

The $200,000 threshold is determined at the FTE level and is not a “per member” threshold. The entire amount of the FTE’s apportioned business income is included for purposes of this threshold, regardless of whether it is allocated to members that are corporations, other FTEs, or individuals. To apportion its business income for determining this threshold, the FTE will use only its sales factor. The FTE’s sales factor is a fraction, the numerator of which is the total sales of the FTE in this state during the tax year and the denominator of which is the total sales of the FTE everywhere during the tax year.

Withholding Requirements on Intermediate Members in a Tiered Structure

An FTE (source FTE) with business activity in Michigan that reasonably expects to accrue more than $200,000 in business income for the tax year, after allocation or apportionment to Michigan, must withhold on the distributive share of its members that are other FTEs (intermediate FTE members).

The $200,000 threshold is determined at the FTE level and is not a “per member” threshold. The entire amount of the FTE’s apportioned business income is included for purposes of this threshold, regardless of whether it is allocated to members that are corporations, other FTEs, or individuals. To apportion its business income for determining this threshold, the FTE will use only its sales factor. The FTE’s sales factor is a fraction, the numerator of which is the total sales of the FTE in this state during the tax year and the denominator of which is the total sales of the FTE everywhere during the tax year.

Flow-Through Withholding on intermediate FTE members is not required if the annual business income of the source FTE, after allocation or apportionment to Michigan, is $200,000 or less. The source FTE, however, may still choose to withhold.

Withholding on intermediate FTE members generally must be done at the CIT rate of 6%. However, the source FTE may withhold at the individual income tax rate, instead of the CIT rate, if it knows the ultimate owner of the intermediate FTE member is a nonresident individual. The source FTE is not required to withhold if it knows the ultimate owner of the intermediate FTE member is a resident individual. For tax years ending in 2012, the individual income tax rate is 4.33%. For tax years ending in 2013, the individual income tax rate is 4.25%. The source FTE may also withhold directly on the corporate members of its intermediate FTE members.

In order for the source FTE to be able to withhold directly on the ultimate members of its intermediate FTE members, it must know the name and account number of the ultimate members and be able to calculate the amount of distributive business income that the ultimate members will receive.

The intermediate FTE member may be required to withhold if the source FTE made no withholding payments. This situation can arise in a tiered structure when the source FTE is below the $200,000 threshold and therefore has no obligation to withhold on its corporate members or intermediate FTE members. Although the source FTE may be free of an obligation to withhold on its members that are other FTEs, the intermediate FTE members are not excused from the withholding obligation if directly owned by nonresident individuals or if the intermediate members meet the $200,000 withholding threshold. In such case, the intermediate FTE member will be responsible for the full amount of the withholding on the distributive share that flows through to a direct owner.

An intermediate FTE member that has no business income sourced to Michigan, other than business income received from a source FTE, will be credited with any payments paid on its behalf by the source FTE. However, this intermediate FTE member must file a Form 4918, Annual Flow-Through Withholding Annual Reconciliation Return, to report this withholding to the State and to distribute this withholding to its members.

Registration Requirements

FTEs that are required to withhold must register with the Department for Flow-Through Withholding. FTEs that were previously registered for other Michigan taxes must submit a new Form 518 to register for Flow-Through Withholding. The Form 518 may be filed on-line or faxed or mailed to the Department using the fax number or mailing address printed on the bottom of the form. An FTE may not report and pay Flow-Through Withholding on the same form or return used to report and pay employee withholding tax. Employee withholding will be reported and paid to the State separately from Flow-Through Withholding. The FTE must use its FEIN when reporting and paying Flow-Through Withholding to the State, even if the FTE is also remitting withholding on employee compensation.

Reporting and Payment Requirements
(Note: The Department is reviewing the current reporting requirements. Check this section periodically for changes.)

Reporting and Payments to the Department

Effective January 1, 2012, payment for Flow-Through Withholding is required to be reported and paid on a quarterly basis using Form 4917, Flow-Through Withholding Quarterly Tax Return. These quarterly returns and payments are due April 15, July 15, and October 15 of the FTE's tax year and January 15 of the following year, or the appropriate corresponding due dates in a fiscal year FTE's tax year. FTEs will also file an annual reconciliation using Form 4918, Annual Flow-Through Withholding Reconciliation Return, due to the Department on February 28, or the last day of the second month following the end of the tax year for fiscal year FTEs. The first Annual Reconciliation for a fiscal year FTE with a tax year ending before December 31, 2012, will not be due to the Department until February 28, 2013.

Note:   Flow-Through Withholding should no longer be included with the taxes reported on Form 160, Combined Return for Michigan Taxes, or on Form 165, Annual Return For Sales, Use and Withholding Taxes. In addition, all Flow-Through Withholding should be remitted using the FTE’s FEIN. Account numbers previously assigned by the Department (ME numbers) may no longer be used.

Reporting to Members

Each FTE required to withhold must provide an annual statement to its members containing sufficient information for the members to accurately file either their Michigan CIT return or their Individual Income Tax return. The FTE must provide the statement to its members by the last date of the first month following the end of the FTE’s tax year, that being January 31 for calendar year FTEs. No specific form is required and in fact, Form 4119, Statement of Michigan Income Tax Withheld for Nonresidents from Flow-Through Entities, used prior to the 2012 tax year may no longer be used. Instead, the Department suggests conveying the following required information as supplemental information on the member’s federal Schedule K-1:

  1. The FTW paid on behalf of that member;
  2. That member's tentative distributive share of the FTE's business income;
  3. The FTE's sales sourced to Michigan; and
  4. The FTE's total sales.

If the FTE will be filing a Composite Individual Income Tax Return (Form 807), then it must instead report to members that participate in the composite filing the following information:

  1. The FTE's FEIN;
  2. The FTE's tax year;
  3. The tax paid by the FTE on behalf of the member;
  4. The member's tentative distributive share of the FTE's business income;
  5. The FTE's sales sourced to Michigan; and
  6. The FTE's total sales.

Any FTE required to withhold under the Income Tax Act holds the amount of tax withheld as a trustee of the State and is liable to pay this tax. Special provisions exist for an entity required to withhold that permanently ceases operations prior to the close of the calendar year.

EFT Payments

FTEs that are required to withhold may elect to make remittances by Electronic Funds Transfer (EFT). If payments are made using EFT, the requirement to file Form 4917 is waived. The EFT payment should be the same as the amount that would have been paid if Form 4917 had been used.

Note:   A debit transaction will be ineligible for EFT if the bank account used for the electronic debit is funded or otherwise associated with a foreign account to the extent that the payment transaction would qualify as an International ACH Transaction (IAT) under NACHA Rules. Before this method is chosen, the FTE should contact its financial institution for questions about the status of its account. Contact Treasury’s Electronic Funds Transfer Unit at (517) 636-6925 for more information on alternate payment methods.

FTEs previously required to remit withholding by EFT on a schedule other than quarterly will no longer be required to pay Flow-Through Withholding by EFT. If a FTE chooses to continue EFT payments, the FTE will need to register separately for quarterly Flow-Through Withholding EFT on either Form 2328 or Form 2248.

For Calculating Michigan Flow-Through Business Income, Allocation and Apportionment view Instructions For Flow-Through Withholding Quarterly Return (Form 4917)

Exemptions from the Flow-Through Withholding Requirements

FTEs that are Exempt

Publicly Traded Partnerships and disregarded entities are not required to withhold on their members under Flow-Through Withholding. For purposes of Flow-Through Withholding, “publicly traded partnerships” means that term as defined under section 7704 of the Internal Revenue Code. This exemption from the requirements of Flow-Through Withholding applies to publicly traded partnerships that are treated as corporations as well as those that are treated as partnerships under IRC 7704(c). An entity is disregarded for purposes of FTW if it is a disregarded entity for federal income tax purposes.

Non-Resident Individual Exemptions

An FTE is not required to withhold on a nonresident individual if:

  • The income available for distribution consists entirely of income exempt from the individual income tax; or
  • The aggregate income available for distribution of all nonresident individual members subject to withholding is less than $1,000 for any quarter.

MBT Election

An FTE is not required to withhold on a member that elects to file and pay the Michigan Business Tax for the tax year at issue under MCL 206.680 or MCL 208.1500.

Opt-Out Exemption

Members of an FTE may exempt an FTE from the FTW requirements by filing an exemption certificate with the FTE. Public Act 15 of 2013 extended this opt-out provision, which was previously limited to corporations, to all FTE members other than nonresident individuals. If an exemption certificate is received by the FTE, then it is exempt from the FTW requirements pertaining to that member for the entire tax year. For more information, see FAQs below.

Frequently Asked Questions

When are Flow-Through Withholding returns and payments due?

Flow-Through Withholding returns and payments are due to the Department on April 15, July 15, and October 15 of the flow-through entity's tax year and January 15 of the following year.  MCL 206.703(3), (4), and (5). If the flow-through entity is not a calendar year taxpayer then the flow-through entity will substitute the appropriate due dates in the flow-through entity's fiscal year that correspond to the to the due dates of a calendar year flow-through entity.  MCL 206.703(3), (4), and (5).

If the flow-through entity is required to withhold, then the flow-through entity must also file, in addition to the 4 quarterly returns, an Annual Reconciliation Return, Form 4118, due to the Department no later than February 28 for calendar year flow-through entities or the last day of the second month following the end of the flow-through entity's federal tax year for fiscal year flow-through entities.  MCL 206.711(1).

There are no extensions available for the Annual Reconciliation Return. However, fiscal year flow-through entities will be granted an administrative automatic extension to February 28, 2013 for their 2012 fiscal year Annual Reconciliation Return only. An extension of time to file does not extend payment due dates. If the flow-through entity owes a Flow-Through Withholding payment in addition to those submitted with its quarterly returns, it must remit that payment to the Department no later than the last day of the second month following the end of its federal fiscal tax year. The flow-through entity should remit this payment to the Department with a letter indicating its federal tax year and stating that this is an extension payment for the 2012 Annual Reconciliation Return. Quarterly returns and payments are still due on a quarterly basis as explained above.

May a member of a flow-through entity “opt out” of flow-through withholding? And if so, how does it do so?

Yes, MCL 206.703(16) permits a member of a flow-through entity, other than a nonresident individual, to exempt itself from flow-through withholding by a flow-through entity by filing an exemption certificate with the flow-through entity. The exemption is good for the member's entire tax year regardless of when the exemption certificate is provided to the flow-through entity as long as the flow-through entity receives it within its tax year.

Members, other than a nonresident individual, may use Form 4912 Michigan Certification of Exemption for Flow-Through Withholding Payments to opt out of flow-through withholding.

The member need not file a copy of the exemption certificate with the Department and the flow-through entity need not attach a copy of the exemption certificate to its Annual Reconciliation Return. However, both the flow-through entity and the member must retain a copy of the exemption certificate and provide it to the Department upon request.

The Department maintains the right to revoke an exemption certificate if it finds that the member is not abiding by the terms of the certificate or the exemption requirements as explained above. If the Department revokes the exemption certificate, it must notify the flow-through entity of its obligation to begin withholding 60 days after receipt of the notice of revocation.

This exemption is not available to members that are nonresident individuals.

Is a flow-through entity required to withhold on a member that makes the election to file and pay under the MBT in lieu of the CIT?

No.  A flow-through entity is not required to withhold on any member that elects to be an MBT taxpayer under MCL 206.680 or MCL 208.1500.  MCL 206.703(18). This exemption exempts the flow-through entity from withholding only for those members that make the MBT election.

If the flow-through entity elects to file and pay under the MBT but its unrelated C corporation members do not so elect, must the FTE withhold on the distributive shares paid to its corporate members?

Yes. If the FTE meets the withholding threshold, it's election to pay the MBT rather than CIT does not exempt it from withholding on its corporate members unless the corporate members themselves have elected to file and pay MBT rather than CIT.

Must a wholly owned FTE withhold on its owners?

Yes. If the FTE is owned by a non-resident individual or is owned by a C corporation or a flow-through entity and has more than $200,000 in business income allocated or apportioned to Michigan, then the flow-through entity must file and pay flow-through withholding.


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