It is natural for people living in the United States to reach for the champagne after a big gambling win. However, celebrations can quickly come to an end when winners realize taxes on the prize they have won are due within the year.
Read about the Internal Revenue Service’s (IRS) expectations for gambling winnings.
What Gambling Winnings Must Be Reported?
The IRS expects people living in the United States to report all gambling winnings obtained during that tax year as income on their tax returns. The IRS website states prizes from lotteries, raffles, casinos, and horse races must all be reported. William Perez, a tax professional writing for The Balance, notes that cash and material prizes won from awards and contests are also considered gambling income and therefore must also be reported. When receiving a material prize, such as a vacation package or car, people living in the United States must report the prize’s fair market value.
The above list of potential winnings is not exhaustive, according to the IRS website. People living in the United States must report anything they’ve won through gambling activity.
How to Report Gambling Winnings
People living in the United States who are not professional gamblers should report all gambling winnings on their Form 1040 on line 21, “Other Income.” They should report the amount of the gambling prize minus the cost of placing the bet or wager, explains Perez.
He adds that professional gamblers should report their winnings as self-employed income on Schedule C. Net income declared on Schedule C is subject to federal income tax, the self-employment tax, and state income tax where applicable.
In some cases, a Form W-2G Certain Gambling Winnings, along with Form 1096, an information return form may need to be completed and submitted; this is done by the payer on the winner’s behalf. The winner will receive the completed Form W-2G whenever it is necessary from the payer. The Form W-2G shows the amount won and the amount of income tax withheld.
Winners must provide the payers with their name, address, and social security number so they can be included on the Form W-2G, according to the IRS website. They must also disclose whether they made identical wagers and if any other person is entitled to a share of the relevant winnings. Americans sharing their winnings complete a Form 5754, Statement by Person(s) Receiving Gambling Winnings, for payers. The payer prepares a Form W-2G for every person receiving a share of the winnings. A W-2G form is required depending on the type of gambling, how much is won, and the ratio of winnings to the wager.
The IRS website states that when a Form W-2G is required, it will not take the place of reporting gambling wins on Form 1040. Wherever relevant, gambling wins and the amount of income tax withheld must be reported in both places to satisfy IRS requirements.
Nonresident aliens in the United States for income tax purposes must report any gambling wins they’ve enjoyed in the country, just as citizens and resident aliens do. They should use the U.S. Nonresident Alien Income Tax Return form for this.
When Is Tax Payable?
The IRS withholds a flat rate of 25 percent income tax from some types of gambling wins, according to its official website. Wins of more than $5,000 from sweepstakes, wagering pools, including poker tournaments, and lotteries are all subject to this tax rate, along with any wins of more than $5,000, when the winning sum is at least 300 times more than the amount wagered.
Large jackpots, including those from lottery wins, are subject to a higher tax rate of 39.6 percent, according to Ethan Wolff-Mann of Time. Winners who receive their winnings as an annuity, rather than in a lump sum, can avoid paying such a high tax rate, he explained. Since each payout is smaller, they are only charged 25 percent income tax.
It does not matter whether eligible winnings are paid in cash, as an annuity, or as physical property with a fair market worth of more than $5,000; tax is payable in all these circumstances, the IRS website states.
Further tax may be payable if winners do not give their social security numbers to the entity issuing the prizes. Without a winner’s social security number, the payer must withhold income tax at 28 percent, according to the IRS website.
Winners whose gambling prizes are not subject to income tax withholding may still need to pay estimated tax on their winnings, according to the IRS website. Winners must pay estimated tax on their winnings if they had no tax liabilities in the preceding tax year, were United States citizens or resident aliens during the preceding tax year, and their preceding tax year lasted a full 12 months.
The above information only concerns federal tax. Most people who win money from gambling are also subject to state taxes, according to Wolff-Mann.
When Is Tax Not Payable?
Federal income tax is typically not withheld on winnings from gambling on keno, bingo, and slot machines. However, winners should always submit their social security number to the entity that issued the prize, according to the IRS. Otherwise the payer may need to withhold 28 percent of the winnings in income tax. This flat tax rate applies to bingo and slot machine wins of $1,200 or more, keno wins of $1,500 or more, and some other wins of $600 or more.
Most United States residents are subject to state taxes on gambling winnings, according to Wolff-Mann. However, Florida, South Dakota, New Hampshire, Tennessee, Texas, and Wyoming do not charge state income taxes. Residents of these states are not subject to state taxes on their winnings.
Note that gambling winnings must always be reported, even if tax will not be payable.
What Happens if Winners Do Not Pay Sufficient Tax on Gambling Prizes?
The IRS may penalize any people living in the United States who do not pay enough tax on their gambling winnings. Penalties are imposed when people do not pay enough withholding and/or estimated tax.
Accounting professionals must understand the requirements for reporting gambling winnings and other unexpected income through the year. Clients may suddenly come into a large sum of money and need advice as to the best course of action to take for their taxes.
An online master’s in accounting degree can deepen students’ understanding of these requirements and other accounting principles. Visit the New England College – Master of Science in Accounting Online program to learn more about this degree.