Mar 2 2010
Two Things Are Sure in Life: Death and Taxes
If you are lucky enough to win, you will have to share your online gambling profits with Uncle Sam, and depending on how often you play, you might want to think about keeping a log of your yearly gambling history. Because if you lose a few rounds, there is a way you can turn those losses into a tax advantage when it comes time to file.
Let’s look at the federal tax forms you’ll need to share your good fortune with the Internal Revenue Service.
Winning Amounts Matter
Requirements and withholdings from a winning bet depend on the type of gambling, the amount won, and the ratio of winnings to the wager. When you pocket $600 or more (and that amount is 300 times your bet) at a horse track, win $1,200 at a slot machine, or take $1,500+ in keno winnings, the payer must get your Social Security Number and notify the IRS that you came into said extra income. And while poker fans argue that their card game isn’t technically gambling because it’s based on a game of skill, the IRS still wants details on how well you played Texas Hold ‘em.
The IRS now requires all poker tournament sponsors to report competitors’ winnings of more than $5,000. If you have won a decent jackpot, you are going to have to give the IRS your tax information and most often you are not going to walk away with all the cash you won. Also, in addition to telling Uncle Sam that you were a winner, the payer in these situations generally will reduce your payout by withholding federal taxes at a 25% rate. If you try to shortchange the IRS by refusing to furnish your Social Security Number, the payer could take as much as 28% of your winnings right off the top to send to the government.
Either way, you’ll get a W-2G Form disclosing the amount you won and, if applicable, how much in taxes you paid on it upfront. Even if you didn’t win enough to trigger W-2G filing, you must report your gambling winnings if you want to be a diligent taxpayer. It is ultimately the taxpayer’s responsibility to tell the IRS about his or her good fortune.
You report your winnings from the W-2G on Form 1040 on line 21, labeled “Other income.” Also with gambling proceeds, this is where you would report any prizes or awards (cash or the cash value of merchandise) you won. All this money goes towards your total income amount. You do not have to pay taxes on all your earnings, regardless of how you got them. You can reduce the amount of money the IRS will tax by reporting your losses as part of your overall itemized deductions. Check out line 28, “Other Miscellaneous Deductions,” on Schedule A. That is where you report any gambling losses. You can claim up to the total amount of winnings you entered on your 1040, effectively wiping out any taxable gambling income. Just make sure that this deduction, along with your other itemizations, is more than the standard amount. Always use the method that will give you the bigger deduction.
Even though technically you might be able to avoid taxes on the $3,000 you won by claiming $3,000 in bad bets, that is still less than the standard deduction of $5,700 allowed each single taxpayer on 2009 returns. If you have no other deductions to itemize, it does not make sense then to forfeit the standard deduction’s other $2,700 just because you can claim gambling losses. If, however, your wagering losses are large enough to help boost your already substantial itemized deductions, then do fill out Schedule A.
Write down your losses
When you do claim your gambling losses on your tax return, it is a good idea to keep a record of them. You do not have to send your loss data in with your return, but documentation could come in handy if Uncle Sam ever questions the claim. Acceptable gambling loss record keeping could include a written log detailing the date of your wagers, the location, amounts of bets, type of gambling, and wins and losses. Hang on to losing lottery tickets, too!
The good thing about deducting gambling losses is that, unlike some other deductions, you don’t have to meet a certain level before you can claim them. But then again, they are not completely unlimited. You can count as much in losses as you won. So if you spent $100 on lottery tickets and won $75, you can only deduct $75. The other $25 is just part of the price of playing the game.
Make Safe Investments with Your Winnings
Investing is when you put money aside for 10 years or more. The earlier you invest, the wealthier you become. The more you save, the earlier you get to retire or meet other financial goals such as buying a first or second home. Let’s look at some safe ways to invest your gambling wins…
ROTH-IRA: Investors put in after tax dollars that are never taxed again. When you retire, you take out all your money and whatever it has earned tax free. Those age 50 and above can make annual catch-up contributions of an additional $1,000 above and beyond the usual limit. Annual contribution limit is $5,000.
Traditional IRA: This works the opposite of a Roth-IRA. You get a current tax deduction in the year you put money in your IRA. However, every penny you have in your account is taxed when you spend it in retirement. Those age 50 and above can make annual catch-up contributions of an additional $1,000 above and beyond the usual limit. Annual contribution limit is $5,000.
SEP (Simplified Employee Pension): Available to people who own their own business, are independent contractors, or have side income from a 1099 form. It works like a traditional IRA with a current deduction but everything is taxed at retirement. SEPs are flexible, in that investors can put in $0 in a year or as much as $49,000, depending on how profitable the business is. SEPs allow you to bulk up your retirement savings in a hurry.
401 k or 403 b: These work provided retirement plans have the same tax deal as the traditional IRA. You get a deduction in the year you contribute, but everything is taxable in the year it is spent. These are great if there is an employer match, which is essentially free money. So be sure to contribute at least up to the employer match. If you have trouble with the discipline of putting money aside, there are great because the money is pulled out by your employer before you ever see your paycheck.
Index funds/mutual funds: Index funds buy hundreds or thousands of stocks, including small stocks, international stocks, and bonds. Index funds are inexpensive, they allow diversification, and, if they’re in a taxable account, there is almost no tax each year. Index funds are fine for all investments outside retirement accounts. Remember, there are two kinds of mutual funds: “load” and “no load.” Load funds have commissions and are sold by insurance sales people, financial planners, banks, and stock brokers. About 80% of people buy this kind. But when you buy no-load funds, all your money goes to work for you.
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