In some South American countries and in Italy and Thailand, under certain circumstances, you are required to withhold a certain percentage of the payments to specific suppliers. These are typically sole traders who supply services rather than goods.

Withholding tax is an amount you withhold when making payment to the supplier. You are then responsible for settling the withheld tax with the government on your supplier’s behalf. The rate at which withholding tax is calculated varies, depending on the nature of the product or service being paid for.

The purpose of withholding tax is to facilitate or accelerate collection, by collecting tax from the customers rather than a much greater number of suppliers, and by collecting tax from customers within the jurisdiction rather than suppliers who may be outside the jurisdiction. It may also be used to counteract tax evasion and tax avoidance.

Separate GL accounts are used for booking retained withholding tax amounts. The withholding tax liability is not created until an invoice that is subject to withholding tax is paid. At that point, withholding tax is retained from the total invoice amount and is credited to this separate account. If a partial payment is made, the system calculates the withholding tax liability based on the proportion of the invoice that is being paid.

The Withholding Tax account is then debited with the retained amount when the withholding tax is declared to the authorities. This is normally recorded using a manually entered GL transaction.

You can also configure a domain to post withholding tax when an invoice is created, rather than when the invoice is paid. If the payment bounces, then the withholding tax posting automatically reverses. This is also the case for payment selections that are unconfirmed.