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.
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.