Gambling and the Law®: By Professor I Nelson Rose
The main reason behind the lack of taxation on gambling winnings is that the gambling operators are taxed instead. This taxation differs between the regions. There are taxes on the turnover amount, on player loss and on net profit.
The Internal Revenue Code is unkind to winners -- and it doesn't much like losers, either. The federal government taxes gambling winnings at the highest rates allowed. So do the many states and even cities that impose income taxes on their residents. If you make enough money, in a high-tax state like California or New York, the top tax bracket is about 50 percent. Out of every additional dollar you take in, through work or play, governments take 50 cents.
Of course, the tax-collector first has to find out that you have won. Congress and the Internal Revenue Service know gambling is an all-cash business and few winners indeed would voluntarily report their good luck. So, statutes and regulations turn the gambling businesses, casinos, state lotteries, race tracks and even bingo halls, into agents for the IRS.
Big winners are reported to the IRS on a special Form W-2G. If winnings are to be split, as with a lottery pool, winners are reported on a Form 5754.
Pooling money to buy lottery tickets is common among employees and friends. But whether there are two or 200 in the pool, there is going to be only one winning ticket, and somebody has to turn it in. If you are that someone, make sure you fill out a Form 5754. If your share of a $5 million prize is $1 million, you do not want to be stuck with paying income tax on the entire $5 million.
Gambling has become such big business that the IRS receives nearly four million Forms W-2G and 5754 each year. This tells the tax-collectors that nearly four million big winners are out there, waiting to be taxed.
But the IRS does not always wait. The government wants to make sure it gets paid. What good does a W-2G do if the winner is a foreigner who is going to be in his own foreign country when April 15th rolls around?
So, the IRS not only wants reports filed, but often requires that a part of the winnings be withheld. As anyone who has a salary knows, withholding also allows the government to use taxpayers' money for many months, without having to pay interest.
The withholding rate for nonresident aliens is 30%. Not coincidentally, the tax rate for nonresident aliens is also 30%. So, if a citizen of a foreign country wins $1 million cash at a slot machine in Las Vegas, he will find he is only paid $700,000. The remaining $300,000 is sent to the IRS. The foreign citizen is unlikely to ever file an income tax return, but the IRS gets paid in full anyway.
Citizens of foreign countries are also, of course, usually taxed by their own governments. So some countries have treaties with the U.S., which protects those foreigners from having to pay the 30% withholding to the IRS.
U.S. citizens and resident aliens have it both better and worse than nonresident aliens. The withholding rate for gamblers living in American is only 28% (it was 20%, up to 1992). Having the IRS take $28,000 out of a jackpot of $100,000 is painful. But, it can hurt even more when tax forms are filled out. There is no 30% maximum tax for people living in the U.S., and really big winners often end up paying a lot more than 28% or 30%.
The one good news is Nevada casinos were also able to convince the IRS that they could not keep track of players at table games. They said that when a player cashes out for $7,000, they do not know whether he started with $25 or $25,000. So it is actually written into the law that there is no withholding or even reporting of big winnings to the IRS for blackjack, baccarat, craps, roulette or the big-6 wheel.
There is another general IRS rule that says anyone paying anyone else $600 in one year is supposed to file a report. The IRS has been going after casinos and cardrooms that run tournaments, forcing them to file tax reporting forms on grand prize winners. Here the IRS has the very good argument that the operator knows exactly how much a player has paid to enter the tournament and how much the finalists are given.
Is there anything a winning player can do to lower the bite of the income tax? And what about those who gamble and lose? Which is everybody, occasionally. The law does allow players to take gambling losses off their taxes, but only up to the amounts of their winnings.
Of course, if you win, say $135,000, you can take off all gambling losses, up to that amount. If you gambled away, say $65,000, you would only have to pay taxes on the remaining, let's see: $135,000 minus $65,000 equals $70,000. The tax on $70,000 is a lot less than the tax on $135,000.
Of course, you have the small problem of proving that you actually lost $65,000. Large winnings may be required to be reported to the IRS; large losses are not.
One former IRS Revenue Officer, who quit government to open his own small tax preparation firm, thought he found the answer. One of his clients won a share in a state lottery: $2.7 million, paid out over 20 years in installments of about $135,000, before taxes. The winnings were reported, but the tax return claimed gambling losses of $65,000. The IRS decided that $65,000 was a lot to lose, and it sent an agent to conduct an audit.
The tax preparer found a man with an extremely large collection of losing lottery tickets and made a deal: he would borrow 200,000 losing tickets for a month for $500. The losing tickets were bound in stacks of 100 and shown to the IRS auditor: 45,000 instant scratch tickets, 5,000 other Massachusetts lottery tickets, and 16,000 losing tickets from racetracks throughout New England. So many losing tickets, that it would have been physically impossible for one man to have made these bets. The New York Times called it, 'one of the more visibly inept efforts at tax fraud.' They pleaded guilty eight days after being indicted.
By the way, the man who rented the tickets was not charged. It's not a crime to collect losing lottery tickets, only to use them to try and cheat the IRS.
Are You Taxed On Gambling Winnings
If you're betting on the March Madness basketball tournament — or other sporting events — probably the last thing on your mind is taxes.
But taxes are relevant to gambling — and that increasingly will be the case as legal gambling spreads across the nation following a Supreme Court decision last year that gave states the green light to legalize, and tax, sports betting.
March Madness could be the largest sports-betting activity all year, with the American Gaming Association predicting 47 million people will bet a combined $8.5 billion, or 40 percent more than the public wagered on the Super Bowl.
Most of the March Madness winnings probably won't be declared for tax purposes, though it should be.
'All income is taxable unless it's excluded,' said Mark Steber, chief tax officer for Jackson Hewitt Tax Service. 'Winnings aren't excluded.'
The federal tax rules on gambling haven't changed much in recent years and weren't significantly altered by tax reform in 2017. The main provisions are:
- Winnings are fully taxable and should be reported on your federal return. Gambling income includes money received from lotteries, raffles, horse races and casinos. It includes cash winnings and the fair value of prizes such as cars or vacations.
- The casino or other entity paying the prize is supposed to issue you a W-2G form, especially for larger winnings. You also might be subject to federal tax withholding on larger amounts and required to pay estimated taxes.
- You may deduct gambling expenses if you itemize deductions — provided that the amount of these deductions doesn't exceed the gambling income or winnings that you claim. In other words, you can claim losses up to the amount of winnings. To deduct losses, as with other expenses, you must keep records including receipts, tickets or statements, along with an accurate diary or log.
- You can't reduce your gambling winnings by your gambling losses and report the difference. Rather, you report the full amount of your winnings as income and claim your losses (up to the amount of winnings) as an itemized deduction. Winnings are reported as 'other income' on Schedule 1 of Form 1040.
According to an example provided by TurboTax, if you win $5,000 this year but lose $8,000, you may deduct only $5,000. You can't deduct the remaining $3,000 or carry it forward to future years.
READ MORE: New poll finds 47 million Americans will place bets, many taking Duke
Records and taxes
As noted, the IRS requires that you maintain records of your gambling activities if you hope to deduct losses. Deductible gambling expenses include travel expenses to or from a casino.
Gambling winnings also are subject to taxation by states that impose income taxes. This means that if you win while traveling, you could face taxes in that state and those imposed by your state of residence (though double taxation wouldn't apply as the home state likely would provide a credit for taxes collected by the other, Steber said).
Whether you receive a W-2 depends on how much you win, what type of gambling you engage in and how sophisticated the organizing entity is, he said. If you win $50 in an office basketball pool, it's pretty likely nobody will issue you a W-2.
Of the estimated $8.5 billion in March Madness gambling, the American Gaming Association estimates $4.6 billion will be wagered in informal March Madness brackets. It's questionable how much of the winnings from those competitions will be declared, and thus, taxed. So too for the money that Americans will wager with friends or bookies and through online websites, mostly offshore ones.
How tax reform could matter
One tax reform-related change relevant to gambling is this: Because you must itemize gambling losses, it won't help if you don't have sufficient overall deductions to qualify for itemizing.
With the increased standard deduction from tax reform, fewer Americans will be able to itemize. The new standard deduction amounts are $12,000 for singles and $24,000 for married couples filing jointly.
'If you don't itemize, you won't get the benefit of gambling deductions,' Steber said.
He described the tax rules tied to gambling as somewhat mysterious and confusing to the general public, perhaps partly because most people don't often win thousands or hundreds of thousands of dollars (or more).
But when they do win big, taxpayers would be wise to seek professional tax guidance, he said.
'You won't hear much about all this if you're playing for a $100 bingo prize, but the rules are still the same,' Steber said. 'If you win, you owe, and if you don't declare the winnings, you face some risk' of hearing from federal and state tax authorities later.
Sports betting trends
The taxation of gambling is more relevant following last year's Supreme Court decision in Murphy v. the NCAA, which made it easier for states to legalize and tax sports betting.
Are You Taxes On Gambling Winnings
Since then, eight states have authorized and implemented sports betting, while it has been approved but isn't operational yet in three other states and the District of Columbia, according to the American Gaming Association.
Legal sports betting is under consideration in 23 other states, including Arizona. The association has a state-by-state gambling map showing what's happening where.
Meanwhile, 63 percent of Americans support the Supreme Court's decision to strike down what had been a federal ban on sports betting, according to a survey released by the American Gaming Association. But only 23 percent of respondents think professional sports leagues should be able to take a share of any betting revenue, according to the poll.
The American Gaming Association estimates that Americans wagered roughly $1 billion in legal sports betting markets in January, spread across Nevada and six Eastern and Southern states. Nevada (primarily Las Vegas) accounted for slightly less than 50 percent of the total — the first time it has taken less than half.
In other words, a slight majority of all sports betting took place in legal markets that didn't exist a year ago, the association noted. New Jersey was the second biggest state after Nevada for sports gambling, by a comfortable margin.
Are You Taxed On Sports Betting
Reach Wiles at russ.wiles@arizonarepublic.com or 602-444-8616.