One of the biggest issues I come across with my clients is unreported income. A major form of income that is left off tax filings is gambling winnings. Be it purposefully or just sometimes people forget and do not receive the form from the casino reporting this income. It can turn into major tax debts.
While there are still ways to fix it after the fact to possibly reduce the debt the IRS is saying that you owe or even sometimes eliminate it, with the correct knowledge and tax planning throughout the year you can save yourself a lot of money and avoid getting yourself on the radar of the IRS.
If you have won a large sum, it is always smart to contact a true tax professional. A CPA or an enrolled agent would be the person with the knowledge and education to advise you. Today I am going to provide you with a lot of knowledge that can help you if you have winnings from gambling.
When Are Gambling Winnings Considered Income?
It is always great to win big on a scratch ticket or pick the right horse at the races, but you always must make sure to report all winnings on your tax return. Whether you win $5 or $5000 you are required to report this as income.
Even if you win a non-cash prize like a car or a truck you are required to report its fair market value as income. Now the IRS is not chasing anybody down for not reporting a $5 win but if not reported it is still considered tax evasion.
How Does the IRS Know About Your Winnings?
When gambling with actual business and winnings are at least $600 and the payout is at least 300 times the amount of your wager you will receive an IRS form W-2G. For slots or bingo, the amount is $1200, for Keno $1500 and $5000 from poker tournaments. These forms are sometimes given to you right on the spot or mailed out to you by January 31st of the following year. This income needs to be added on a tax return under “other income” Schedule 1 on your Form 1040.
This W-2G is also sent to the IRS so they will be aware of the income. If this income is left off it is very rarely missed and typically the IRS will do your return through audit or examination a few years later. At this point, you are subject to penalties for nonpayment and underreporting of income as well as interest backdated to the original filing deadline. So, it is especially important that all gambling winnings are reported on your tax return yearly.
Another reason why it’s so important to make sure you file correctly is that typically when a W2G form is submitted by the payer, they withhold a standard 24% for taxes. Filing the amount withheld on line 25c on your tax return will make sure that you get credit for these taxes already being paid. If you have not received this form and have no withholdings you are still required to file, the income.
Unfortunately, the excuse of not receiving the form in the mail will not work because all income received throughout the year must be reported. On large winnings, the 24% withheld typically covers the taxes owed. The marginal tax rate on high-income earners is 37% so even though you had withholdings you need to set aside funds and expect to owe once taxes are filed.
Gambling and Tax Deductions
Another benefit of filing can be the possible use of deductions reducing your taxable income. Some people are just incredibly lucky, and they gamble once and win big. For others, it can be a hobby or for some, it is their actual business. A lot of the time when this is a hobby or a business there a lot of losses and money spent before you get that big win. These losses are considered expenses and help reduce the taxable income which would reduce the amount owed. There are some catches with this though.
Unless you are a professional gambler and actually operating as a business then it may not benefit you to use expenses. Since the 2017 tax changes the standard deduction per person has basically doubled so it typically does not make sense to itemize deductions on a Schedule A anymore because if you do you lose the standard deduction. The standard deduction is $12,200 for single filers, $18,800 for those who qualify as head of household, and $24,400 for those who are married and file joint returns in 2021.
Also, when itemizing your losses, they cannot be more than the actual gambling winnings and be carried over towards other income. So, unless you have won more than the $12,200 standard and have more than $12,200 in losses it would not make sense to lose the standard deduction.
Now if you are a professional gambler and operating as a business it would benefit you to write off expenses. You can write off these expenses on a Schedule C without having to itemize. The net income after these losses is what will become taxable. Doing it like this can help you reduce the net income but remember net income for the self-employed will be subject to not only federal taxes but also self-employment taxes as well.
Use caution when you can operate as a business, or your gambling is just a hobby. A professional gambler only qualifies as a business if your primary purpose is to make a profit and you are continually and regularly involved in it. If the gambling is inconsistent or sporadic then it is considered a hobby.
Keep Good Records
With gambling winnings, it is especially important to keep particularly good records. The IRS recommends keeping a diary or similar record of all your gambling activities. Gambling income is highly auditable. The IRS receives the W-2G as well, so they are always looking for people who fail to report the income on their tax filings. They also scrutinize people that are claiming losses on a Schedule A or C.
Also, when people are utilizing the Schedule C the IRS is always looking for supposed “business activities” that are really hobbies. With all of this said it is especially important to be prepared for an audit. Your records should include specific dates and types of wagers, names, and addresses of the locations of each casino or racetrack that you visited, witnesses or people with you at the time and the amounts won and lost.
Also keep items of proof of winnings and losses such as wagering tickets, canceled checks, credit records, bank withdrawals, and statements of winnings or payslips. With some of these situations when winnings are high, and things seem to be done intentionally to avoid paying taxes there can be charges of tax evasion which can be criminal charges.
Remember even if the amounts do not meet the thresholds of being reported by a casino or if it is just betting where cash is received this income can still be tracked through audits. This would be the same type of situation as someone mowing a lawn for cash income. There is a general expectation that this income is reported.
The IRS Does Go After Violators
Just last month a Connecticut business owner, Guy Smith was sentenced to 14 months of imprisonment for not reporting gambling winnings. He provided his tax preparer with income and expenses for his business for his filings but failed to provide reports of the income from the poker tournaments he was winning. Smith is a professional poker player and has participated in poker tournaments in Connecticut and throughout the US. Smith had failed to report over $1 million in gambling winnings. The judge also ordered that pay $821,415 in federal income tax owed with the penalties and interest.
Be Safe Rather Than Sorry
In conclusion, you need to know each year what information to turn over to your tax professional for filing purposes. Making them aware of all income either reported or not reported and allowing them to make the determination of what should go onto the tax return. It can cause you a lot of money if any of this income is missed on a filing and caught by the IRS. Doing it correctly the first time is the cheapest way to pay back your tax obligations.
I know there are all the stories of most people getting away with it. At this point, everything with the IRS is automated through ACS. This is the Automated Collection System so most likely especially with reported income being left off of a return it will be flagged by the IRS. When this happens as I had mentioned earlier it isn’t always just the IRS’ way or the highway there a lot of things, they can still be done to limit your exposure to the tax debt. At this point contact either an enrolled agent or CPA to make sure things are done correctly and worst case, you don’t overpay the IRS from this point on.
