In 2006, the federal government enacted a 3 percent withholding tax on public construction contracts. The good news is that the enactment date is still pending — it won’t go into effect until 2012. The bad news is that it was a bad idea in the first place.

The good news is that the Mechanical Contractors Association of America (MCAA) has been working on this one for a while. MCAA board member, Adam Snavely, president and CEO of Poole & Kent Corp., Baltimore, testified at an IRS public hearing to discuss the problems with the new law. So far, the IRS has published a regulation that says prime contractors can’t pass the 3 percent withholding through to subcontractors. That is also good news. However, the bad news is that the law has not yet been overturned, and IRS regulations come and go.

The Tax Increase Prevention and Reconciliation Act of 2005, Section 511 mandates that city, state, and federal governments withhold 3 percent from payments for goods and services. The main reason for this extra tax withholding is because a lot of contractors have gotten into trouble with Uncle Sam for not paying their taxes on time — or not paying their taxes at all. The good news is that Uncle Sam really does need the money, what with the big deficit spending binge of late.

The bad news for large contractors is that they will be faced with the additional burden of tracking thousands of payments every year. The bad news for small contractors is that it amounts to a tax burden with no clear answer as to how or if that money ever comes back. A few percent could mean really bad cash flow resulting from a bad project. It is already a fairly complicated task to conduct business with governments. Adding another 3 percent of withholding to the mix is not good news.