Gambling — Income Tax Conundrum

Gambling is a recreational activity for many taxpayers, and as one might expect, the government gets a cut if you win. In fact, there are far more issues related to gambling than you might imagine, and they may be impacting your taxes more than you know. So here is a rundown on the many issues that can affect you. Gambling takes many forms – horse racing, lotto tickets and scratchers, casino games, etc. – but they are all subject to taxation rules.

Reporting Winnings – Many individuals believe that they only have to report the winnings for which they receive a Form W2-G. Unfortunately, the IRS has a different viewpoint. Although you may be able to offset your reported gains with gambling losses, the IRS anticipates that you will also have had gambling winnings that were under the W2-G reporting threshold and will raise this issue during an audit.

Gambling Losses – The good news is that you can deduct gambling losses if you itemize your deductions, but only to the extent of your gambling income. In other words, you can’t have a net gambling loss on your tax return. Bad news: if you don’t itemize your deductions, you will have to pay taxes on the entire winnings even if you have a net gambling loss, as is the case for most individuals.

Documenting Losses – The next logical question is: how are you going to document your gambling losses if audited? Don’t rush down to the track and start collecting discarded tickets, since they generally aren’t acceptable documentation because of their ready availability. The IRS has published guidelines on acceptable documentation to verify losses. They indicate that an accurate diary or similar record that is regularly maintained by the taxpayer, supplemented by verifiable documentation, will usually be acceptable evidence for substantiation of wagering winnings and losses. In general, this diary should contain at least the following information:

(1) The date and the type of specific wager or wagering activity,
(2) The name of the gambling establishment,
(3) The address or location of the gambling establishment,
(4) The names of other persons (if any) present with taxpayer at the gambling establishment, and
(5) The amounts won or lost.

Save all available documentation, including items such as losing lottery and keno tickets, checks, and casino credit slips. You should also save any related documentation such as hotel bills, plane tickets, entry tickets, and other items that would document your presence at a gambling location. If you are a member of a slot club, the casino may be able to provide a record of your electronic play. You might also obtain affidavits from responsible gambling officials at the gambling facility. With regard to specific wagering transactions, your winnings and losses might be further supported by:

  • Keno – Copies of keno tickets purchased by the taxpayer and validated by the gambling establishment.
  • Slot Machines – A record of all winnings by date and time that each machine was played.
  • Table Games – The number of the table at which the taxpayer was playing as well as casino credit card data indicating whether credit was issued in the pit or at the cashier’s cage.
  • Bingo – A record of the number of games played, the cost of tickets purchased, and the amounts collected on winning tickets.
  • Racing – A record of the races, entries, amounts of wagers, and amounts collected on winning tickets and lost on losing tickets. Supplemental records include unredeemed tickets and payment records from the racetrack.
  • Lotteries – A record of ticket purchase dates, winnings, and losses. Supplemental records include unredeemed tickets, payment slips, and winning statements.

Online Gambling – If you gamble online, there is a good chance that the account is with a casino operating out of a foreign country. In this case, you should be aware that all U.S. citizens and resident aliens with a financial interest in or signature authority over foreign accounts with an aggregate balance of over $10,000 any time during the prior calendar year must complete FinCEN Form 114 online reporting those accounts to the Treasury by April 15th of the subsequent year or face draconian penalties (a six-month extension is available).

Other Tax Side Effects of Gambling – Because gambling income is reported in full as income and the losses are an itemized deduction, gambling winnings increase a taxpayer’s adjusted gross income (AGI) for the year. An individual’s AGI is used to limit other tax benefits, and having gambling income can have an adverse impact on your taxes. For instance, when you itemize your deductions, your medical expenses are currently reduced by 10% of your AGI. If you are receiving Social Security benefits, those benefits can become more taxable when gambling winnings are included in your AGI. The same applies to the cost of your Medicare insurance premiums, which are based on your AGI from two years prior.

Another very noticeable side effect is the cost of a family’s health insurance through a government marketplace. Under the Affordable Care Act, lower-income individuals receive a tax credit that reduces the cost of their insurance. However, their AGI is used to determine the amount of their credit – the higher their income, the lower the credit, and the lower the credit, the higher their insurance premiums.

If you generally claim the dependent exemption for a qualified relative – say, your mother – and Mom happens to hit a jackpot at the local casino, you may end up being unable to claim her exemption for the year of the winnings if the gambling winnings pushed Mom’s income over the annual gross income limit for claiming her exemption, which for 2017 is $4,050.

If you have questions about how these issues will affect your specific tax situation, please give us a call.

Gambling and Tax Gotchas

Gambling is a recreational activity for many taxpayers, and as one might expect, the government takes a cut if you win and won’t allow you to claim a loss in excess of your winnings. In fact, there are far more tax issues related to gambling than you might expect, and they may be impacting your taxes in more ways than you might believe. So here is a rundown on the many issues, which I like to call “gotchas,” that can affect you.

Reporting Winnings – Taxpayers must report the full amount of their gambling winnings for the year as income on their 1040 return. Gambling income includes, but is not limited to, winnings from lotteries, raffles, lotto tickets and scratchers, horse and dog races, and casinos, as well as the fair market value of prizes such as cars, houses, trips, or other non-cash prizes. The full amount of the winnings must be reported, not the net after subtracting losses. The exception to the last statement is that the cost of the winning ticket or winning a spin on a slot machine is deductible from the gross winnings. For example, if you put $1 into a slot machine and win $500, you would include $499 as the amount of your gross winnings, even if you’d previously spent $50 feeding the machine.

Frequently, taxpayers with winnings only expect to report those winnings included on Form W-2G. However, that form is only issued for “Certain Gambling Winnings,” but the tax code requires all winnings to be reported. All winnings from gambling activities must be included when computing the deductible gambling losses, which is generally always an issue in a gambling loss audit.

GOTCHA #1 – Since you can’t net your winnings and losses, the full amount of your winnings ends up in your adjusted gross income (AGI). The AGI is used to limit other tax benefits as discussed later. So, the higher the AGI the more the tax benefits may be limited.

Reporting Losses – A taxpayer may deduct gambling losses suffered in the tax year as a miscellaneous itemized deduction (not subject to the 2% of AGI limitation), but only to the extent of that year’s gambling gains.

GOTCHA #2 – If you don’t itemize your deductions, you can’t deduct your losses. Thus, individuals taking the standard deduction will end up paying taxes on all of their winnings, even if they had a net loss.

Social Security Income – For taxpayers receiving Social Security benefits, whether those benefits are taxable depends upon the taxpayer’s income (AGI) for the year. The taxation threshold for Social Security benefits is $32,000 for married taxpayers filing jointly, $0 for married taxpayers filing separately, and $25,000 for all other filing statuses. If the sum of AGI (before including any SS income), interest income from municipal bonds, and one-half the amount of SS benefits received for the year exceeds the threshold amount, then 50–85% of the SS benefits is taxable.

GOTCHA #3 – So, if your gambling winnings push your AGI for the year over the threshold amount, your gambling winnings, even if you had a net loss, can cause some (up to 85%) of your Social Security benefits to be taxable.

Health Insurance Subsidies – Under Obamacare, lower income individuals who purchase their health insurance from a government marketplace are given a subsidy in the form of a tax credit to help pay the cost of their health insurance. That tax credit is based upon the AGIs of all members of the family, and the higher the family income, the lower the subsidy becomes.

GOTCHA #4 – Thus, the addition of gambling income to your family’s income can result in significant reductions in the insurance subsidy, requiring you to pay more for your family’s health insurance coverage for the year. Additionally, if your subsidy was based upon your estimated income for the year, if your premiums were reduced by applying the subsidy in advance, and if you subsequently had some gambling winnings, then you could get stuck with paying back some part of the subsidy when you file your return for the year.

Medicare B & D Premiums – If you are covered by Medicare, the amount you are required to pay (generally withheld from your Social Security benefits) for Medicare B premiums is normally between $109 and $134 per month and is based on your AGI two years prior. However, if that AGI is above $85,000 ($170,000 for married taxpayers filing jointly), the monthly premiums can increase to as much $428.60. If you also have prescription drug coverage through Medicare Part D, and if your AGI exceeds the $85,000/$170,000 threshold, your monthly surcharge for Part D coverage will range from $13.30 to $76.20 (2017 rates).

GOTCHA #5 – The addition of gambling winnings to your AGI can result in higher Medicare B & D premiums.

Online Gambling Accounts – If you have an online gambling account, there is a good chance that the account is with a foreign company. All U.S. persons with a financial interest or signature authority over foreign accounts with an aggregate balance of over $10,000 anytime during the prior calendar year must report those accounts to the Treasury by the April due date for filing individual tax returns or face draconian penalties.

GOTCHA #6 – Regardless of whether you are a winner or loser, if your online account was over $10,000, you will be required to file FinCEN Form 114 (Report of Foreign Bank and Financial Accounts), commonly referred to as the FBAR. For non-willful violations, civil penalties up to $10,000 may be imposed; the penalty for willful violations is the greater of $100,000 or 50% of the account’s balance at the time of the violation.

Other Limitations – The forgoing are the most significant “gotchas.” There are numerous other tax rules that limit tax benefits based on AGI, as discussed in gotcha #1. These include medical deductions, miscellaneous itemized deductions, casualty losses, overall itemized deductions, exemptions, child and dependent care credits, the child tax credit, and the earned income tax credit, just to name a few.

If you have questions related to gambling and taxes, please call us.