Do I Have to Report This Income?

by Daniel Packer on 14 March 2011 24 comments

Today we're going to play a game called "Do I Have to Report This Income?" It will teach us a little about tax filing requirements and present some interesting situations about what income is taxable and what can be left off a tax return.

When doing taxes, there are a ton of ways to get around reporting income. How can the IRS track cash transactions? Nobody will report a few items you sell online, right?

While it may be easy to hide some money from the government, there can be serious repercussions. If caught, it could cost you a lot more in the long-term. (See also: Top 10 Red Flags That Trigger IRS Audits)

So if you're one of those trustworthy folks and are trying to file your taxes properly, you should be aware of which income you have to report.

Ready to learn what you need to include as income on your taxes? The questions will get increasingly harder, but I think you will catch on fairly quickly.

1. I just received a W-2 from work. It lists all my earnings for the year. Do I have to report this income?

Definitely! Your employer sends one copy to you and sends another one to the IRS. If the amount of income from your employer that you report doesn't line up with the amount your employer reports, it will raise a red flag and you will be more likely to be audited.

2. I made about $6 in one of my savings accounts this year. I also made another $7 in a separate account. Do I have to report this income?

If you earned over $10 in a bank account, you will likely be issued a 1099-INT. However, even if you aren't issued a tax form, you are still responsible for reporting it, no matter how small. You still earned it and are therefore responsible for reporting the income.

3. I just sold a watch on eBay. They took fees out. Do I have to report this income?

While these transactions are a good way to earn some extra cash, you are still earning some income in the process, so you technically have to report it. The fees that eBay takes out are fees for using their service and have nothing to do with taxes.

4. I love my tutoring job; I get paid in cash! Do I have to report this income?

With no W-2 or 1099, there's no paper trail and that means you can just pocket the cash, right? Wrong! You are responsible for keeping your own records. In fact, you may need to make estimated quarterly tax payments! Suddenly, no paper trail really means more responsibility for you!

5. Yay! I just won a prize on a blog! Just a small gift card, but I'm super pumped! Do I have to report this income?

Congrats on your luck, but guess what? You have to count the value of the prize as income. So while you definitely come out ahead, you still have to pay taxes on that gift card. if it's a big prize, you may want to set aside some cash because you'll likely owe the government money come tax time.

By now, I'm sure you've caught on that you need to report all income you earn in any form. Hopefully I've hit on a few situations that most people don't consider, and now you'll be better prepared when filing your taxes in the coming weeks. Good luck!

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Guest's picture
jenn

Here is one that I always wonder about - I get annual credit card rewards that I cash in - this year it was somewhere north of 300$. Do I need to report that or is it considered a "coupon" of sorts?

Daniel Packer's picture

In the case of credit card rewards, the bank should issue a 1099-INT for the amount of any rewards or cash back bonuses. If not, ask them for one!

Xin Lu's picture
Xin Lu

actually credit card rewards are considered "rebates" and do not have to be reported. However, if you bought something and you got a rebate and then you want to use that item as a business expense or something you have to subtract the rebate from the cost basis of the item.

Daniel Packer's picture

True, credit card rewards aren't taxable, but if you get a bonus for signing up for a certain card or referring a friend, those benefits are taxable.

Guest's picture
Juggler314

You oversimplified the example about selling stuff on eBay. If I buy something for $100, and later sell it on eBay for $90 (used) I do not owe any taxes on that amount. I already paid taxes on the money I spent to buy it. However if i sell it for $110, I would owe taxes on the $10 extra income ($100 already paid taxes on...so $10 left to pay taxes on).

If you sell enough on eBay that you treat it like a sole proprietorship or something like that then likely you'd also be deducting fees out of your income stream. So if you sold something for $110 that you only paid $100 for, but you also had $7 in fees, your actual taxed income from that sale would be only $3.

Daniel Packer's picture

GREAT point! I definitely simplified it to provide an easy example that everyone can relate to, but there's much more to it as you point out. If you're selling things on eBay like a business, know the rules!

Guest's picture
Guest

Wait a second, so are you saying if a win a gift card to Best Buy in a company raffle, I need to pay taxes on that?

While it might be interesting, in reality, most people are not going to be paying taxes on income unless it's their primary source. There is absolutely no way the government has the resources to track every teenager's income from babysitting or mowing lawns. My wife probably made $800 last year from babysitting, all cash. No way that is going into our taxes.

Daniel Packer's picture

Unfortunately, you're right. But why do we feel like it's ok to hide money from the government when we're legally required to report it?

Guest's picture
Guest

So if I get $200 worth of gift cards for Christmas, I need to factor that into my taxes in April? I thought if it was a gift it is exempt from taxes. In fact, I thought up to $13K could be received as a gift without paying taxes. I'm sure one could argue the $800 my wife received was a gifts and not income.

Daniel Packer's picture

You're 100% right about gifts being tax-free, up to $13,000 from each person. I think the IRS could argue that anything received through work is another form of compensation. Consult a tax professional!

Guest's picture

Sold my watch? I trust you meant for less than he paid, in which case, I don't see any tax due. Of course, I sell my 25 year old Rolex for a profit, there's tax due.

Daniel Packer's picture

As Juggler pointed out above, you're right about only having to pay taxes on the profit. Plus, you get to deduct any fees from that profit. So in the example, a $10 profit with $7 fees means just $3 in taxable income. It also means you should probably find more lucrative products to sell...

Guest's picture
MoneyIsTheRoot

It's amazing the things that you have to claim as income. For instance, the $25 bonus I received at lending club for joining has to be reported as well. Also, the $100 bonus I received from my online brokerage for my initial deposit has to reported too. I have to admit in the past I never wouldve thought of this as income that is taxed.

www.moneyistheroot.com

Guest's picture

This has to be one of the worst tax articles I've ever seen on a personal finance blog. As was pointed out already, your discussion of eBay is oversimplified and in many ways wrong. You only have income if the amount the item sold for is over what you paid, and the eBay and PayPoo expenses incurred in selling the item can reduce that taxable income.

Additionally, your comment on credit card rewards is way off base. As Xin pointed out, the rewards are considered a non-taxable purchase rebate. The same applies for most credit card sign-up bonuses: these are technically rebates since they will normally require you to make at least one purchase on the card.

You are correct that most money that comes in should be reported as income, but at some point you have to be practical. Am I supposed to report income if I have a small savings account that earns $3 in interest, if I somehow sell a handful of small items on eBay for a profit, if I win a gift card at an office party, or if I find a dollar bill on the ground? Yes, but I'd argue it isn't a reasonable expectation for me to track a couple of dollars earned in an account I don't get a tax form for, the change I find on the ground, or to even try to determine if I made any money off the three items I sold on eBay last year. Not reporting that gift card you won isn't going to get you sharing a cell with Wesley Snipes! If you are aware of it then you should report it, but to suggest you need to go to great lengths to keep up with that is lunacy!

Daniel Packer's picture

Thanks for the feedback.

While you're right that in most cases, nobody will find out that you're not paying taxes on small amounts of money, recording transactions comes with the territory of buying and selling products and opening savings accounts.

Plus, the beauty of savings accounts is that they tell you interest earned, so you don't need to calculate your own interest, they're happy to tell you!

Where do you start recording your 'business' transactions? After how many items? It's good practice to record everything.

Guest's picture
Guest

i think the point this commenter is trying to make is that tracking business related stuff is fine, but trying to track every time someone gave you $20 for gas money, you found $5 on the ground, or your company gave you $100 for coming into work on a Saturday (happened to me last year), etc. is excessive and would end up costing a ton of time (money).

Plus, there is no way the govt will ever come after you for it, unless the amount is in the tens or hundreds of thousands. Even if you are audited, the IRS has no way of tracking cash.

Daniel Packer's picture

Whenever your employer pays you, whether it's in cash or check, it should be documented and included in your compensation. Gifts and found money are separate issues and I can understand the viewpoint that 99.9% of people will not record such transactions. But when you work and get paid, no matter how you are paid, you need to record that as income, as does your employer.

The fact that the IRS won't find out is irrelevant. Some people can earn thousands of dollars in cash tutoring or babysitting. Very hard to track, but that's still income that should be reported.

Guest's picture

"Guest" is correct. Other than pointing out the inaccuracies in the article and follow-up comment, my point is that at some point the record keeping burden becomes excessive. My thoughts on the three scenarios mentioned:

1. You win a gift card or are given one by your employer. As an employee, my view is that it is the employer's responsibility to track that and for it to flow through the employee's W-2. Two different employers I've worked for did just that and reported it on the W-2. If the employer, who should have a system for recording compensation costs, can't/won't track it, it seems unreasonable to expect the employee to track it unless it is a significant amount ($500+).

2. Small interest savings accounts. Those of us that have been playing the game for a while have several accounts, many of which will be largely inactive and holding tiny balances. Myself, I can think of a dozen such accounts that are in my name or my wife's name. Is it worth the time to go to each inactive account to track down the interest earned that I am certain is less than $2 or $3? Nope. On a side note, closing down these inactive accounts is one of my goals for the year so this becomes largely a moot point.

3. eBay. It is definitely a judgment call on when you start viewing these are "business" transactions and recording accordingly, but my thought is that unless you are purchasing items with the intent to resell them or you are reselling collectible items you know have increased in price there isn't a significant taxable income event here. If you are just cleaning out closets or the garage and reselling household items you are almost certainly getting back less than you originally paid for the items, at which point there is no taxable income. Not to mention most people won't remember or be able to document what they originally paid for those items anyway.

With regards to the comment from Guest about the IRS not being able to track cash, this is untrue. Although rare there are audits where the IRS will review your bank records and require you to explain or document the sources of large deposits to your accounts.
3.

Guest's picture
Guest

@BILLYOCEANSELEVEN

The IRS will only be able to see cash that you deposit in the bank. If my wife makes $100 for babysitting for a Saturday, that isn't going into the bank. I usually don't deposit cash into the bank unless it's $500 or more in which I probably (hopefully) are receiving that amount in the form of a check instead :)

Daniel Packer's picture

I like you BillyOceansEleven.

Here are my responses, thanks for the fun conversation, I love debating personal finance issues.

1. The employer should no doubt be the recorder. But since it's our taxes, we're ultimately responsible. But keep track of how much you earn is pretty unlikely and I think it's a fair expectation for the employer to take care of it.

2. I'm glad you're planning on cleaning up, that's a ton of accounts! Why have them open if you can't keep track of them, even if it's a small amount?

3. Intent is a big part of taxes, and it's unfortunate becaues a lot of times it's a judgment call that we and they have to make. If there's intent to make money selling items rather than just trying to get some cash for things you have laying around, it's time to start being vigilant in your records.

Guest's picture

Thanks Daniel! To answer your question on the bank accounts, several years ago when interest rates were decent and a lot of the online banks were trying to get a foothold competing against ING Direct it seemed like everyone was offering an account opening bonus, a super high interest rate (HSBC was at 6% for a while), or both. We'd open accounts for the bonuses and move the money around when someone offered one of the high rates. Most of the accounts had no fees so the only cost of leaving it open was the administrative burden of keeping up with the account. After several years of doing this I've come to realize it got way out of hand and have been trying to kill a bunch of these inactive accounts and pool cash in one spot. These days hardly anyone is offering account bonuses and most of the online banks are offering about the same rate anyway, so no reason to keep them open. The next step is killing credit card accounts that were opened for similar reasons, although because of credit scoring impacts has to be done much more carefully.

To reply to guest on the issue of cash, it is nearly impossible to track if you never let it hit your bank account. If it is a large amount an astute auditor could detect that your lifestyle couldn't possibly be supported by your reported income and documented assets, but you are right that babysitting cash will be virtually invisible to the IRS.

Guest's picture
Guest

So what about Swagbucks points that you redeem for gift cards?

Guest's picture
carlo

This thing was written by the revenue agency lol

Guest's picture
GuestSA

I'm over 21 but don't work and am still claimed as a dependent on my parents taxes due to illness. I do a little "get paid to" websites (ie: swagbucks, instagc, etc) on the side for extra spending money on myself and sometimes birthday/christmas gifts. Is there a certain amount I have to file by myself or do my parents include it on their form? I honestly have no idea as I've never filed before. Also, does it matter if I'm in the US and one of the sites I'm earning Paypal from is based in the UK? I don't want to get in trouble as I don't need that kind of stress.