Effective for 2022 and later years, Congress reduced the threshold for the Form 1099-K filing requirement from $20,000 to a mere $600. So, you might ask, what does that have to do with me? This change can impact taxpayers in several ways, some unexpected, so you may find yourself in for a surprise that can be unpleasant in some situations.
There are several ways taxpayers can be affected. But first we need to review the purpose of the 1099-K and what can occur for you to receive one.
What is Form 1099-K
The 1099-K is a means to detect unreported income by businesses. The IRS does that by requiring third-party settlement organizations to report transactions they’ve handled for an individual or business when the gross amount exceeds a specific threshold. This would include credit card companies, eBay, Venmo and others.
Example: Susan, who owns and operates a gift shop, accepts credit cards for purchases made by her customers. Since the credit card transactions are processed through a third-party settlement organization, that third party must issue a 1099-K for the total dollar amount of credit card transactions that Susan had for the year. The 1099-K goes to the IRS and a copy goes to Susan. The IRS can then compare the 1099-K amount to the amount Susan reports as the gross income from her business. The IRS is also aware of, through studies they have conducted, the amount of cash sales certain types of businesses might have. With this information, the IRS can efficiently identify taxpayers who are not reporting all their income and ID them for audit.
Although primarily intended for businesses, there are situations where individuals may find themselves a recipient 1099-K.
Examples of individuals receiving Form 1099-K
One such situation is where a taxpayer is downsizing and sells personal property on eBay. If the total amount sold is $600 or more the taxpayer will receive a 1099-K. Although these sales are generally not taxable since used personal items are usually sold for less than their cost, the IRS does not know the circumstances of the sale. So if the amount is significant, that needs to be reconciled on the individual’s tax return. A sale of personal property that results in a loss, is not deductible for tax purposes. In prior years, a 1099-K was never issued to most non-business taxpayers, so there was no concern about reconciliation.
Many taxpayers are also involved in the gig economy. Examples of this include selling products through Etsy, eBay, etc., or hiring out their services on TaskRabbit.
Others may be driving for Uber or Lyft or making deliveries through Door Dash, Uber Eats, etc.
Some individuals have been meeting their tax responsibilities from these activities while others have not. Thus this discrepancy is what prompt Congress to reduce the threshold.
In either case, it is important that these individuals keep records in order to reduce any tax liability. Specifically holding onto the documentation of expenses associated with their income-producing activities.
Records to keep to help reduce any tax liability
- Cost of goods sold
- Advertising
- Vehicle travel
- Business cell phone service
- Internet service for on-line sales
- Office supplies
- Postage & shipping
- Some may qualify for a home office deduction
Tax issues to be aware if you you receive Form 1099-K
Self-employment tax
Self-employment tax is like Social Security and Medicare taxes paid by employees and matched by the employer through payroll taxes. Except a self-employed individual pays both the employee’s and the employer’s share, which combined can total 15.3% of net profit.
Self-employment Retirement
Self-employment retirement income qualifies for IRA contributions and the very popular Simplified Employee Pension Plan (SEP). For a SEP a self-employed individual can contribute 20% of their net earnings to the retirement plan. And that 20% is a tax-deductible amount.
Self-Employed Health Insurance Deduction
Most self-employed individuals can deduct medical insurance as an above-the-line expense. However, this deduction is limited to the net income from the business.
Hobby versus Business
Whether your activities are a business or a hobby is important because the determination makes a big different for tax purposes. The differences in how each are treated impact income reporting and the deductibility of expenses (including medical insurance premiums). Also one must consider whether or not self-employment tax applies. And if contributions to retirement plans can be based on the activity’s income.
As you can see, all of this can become quite complicated. And the penalties for not reporting self-employment income can be severe. Please contact this office about what expenses are deductible for your specific type of endeavor and your business filing obligations.
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