American gaming has boomed since sports betting and online gambling were legalized. Complex tax laws for filing and deducting gambling winnings and losses provide new hurdles for taxpayers. Internal Revenue Service (IRS) reporting rules from W-2Gs to 1099-Ks are very confusing for taxpayers to understand.
So, as an accountant of a gambling client, you need to have detailed knowledge about gambling winnings and losses, as well as all the rules and regulations related to tax on gambling income. Without knowing that information, you can’t serve your client the legal help required to avoid paying IRS tax debts.
So, let’s start from the basics. First, you must classify gamblers, identify your clients in specific categories, and calculate estimated federal income tax.
Definitions of gambler categories
Gambling winnings are reported differently based on the different categories. Consider the categories of gamblers:
Professional gamblers
A Professional gambler makes all or most of their money from gambling. Their main game is usually poker, table games, or sports betting. Gamblers are self-employed professionals. They work when they want and learn as they go. Unlike amateur or social gamblers, these gamblers report gambling winnings and total income on Schedule C since they are doing business.
Amateur gamblers
Amateur gamblers are less formal. Although they desire to win large and bet often, it’s not their main income. Amateurs may study betting games or investigate sports and athletes to improve their sports bets. They don’t consider gambling a profession or business. Form 1040, line 21, lists qualified gambling wins as “Other income.”
Social gamblers
Social gamblers differ from the above two and are very casual. They may play poker at home or go to casinos with friends and family on special occasions. Social players rarely bet. They enjoy gambling socially. Social gamblers record all gambling winnings and losses on Form 1040, just like amateur gamblers.
Gamblers’ tax payments depend on these variations. Commissioner of Internal Revenue v. Groetzinger, a 1987 Supreme Court ruling, defined professional gaming. Gambling is a trade or business that must be done full-time, honestly, and regularly to make a living.
If so, gambling winnings represent business income. As an accountant, you must analyze your client type, their category, and how much their gambling income will be considered as taxable income.
How Non-Professional Gamblers Pay Federal Income Tax
The average, nonprofessional gambler must first grasp the general tax requirements for gambling. Lottery, horse track, poker tournament, and slot machine gambling are all taxed. Your clients must pay taxes on the fair market value of prizes like vacations and cars.
Gamblers must disclose wins on Form 1040. Whoever paid the gambler must also issue Form W-2G, Particular Gambling Winnings. Your clients might need to pay quarterly estimated taxes on their wins.
How much do your nonprofessional gambler clients have to win to receive a W2-G? Check out the breakdown below:
- $600 or more at horse racing if the win is 300 times the wager.
- $1,200 bingo or slot machine betting.
- $1,500 for keno, minus the wagers.
- $5,000 or more for poker tournaments, minus the wagers or buy-ins.
For certain wins, casinos may retain a percentage of your winning amount to submit to the IRS prior to paying you out. If a sweepstakes or lottery win is over $5,000 or any game with at least 300-to-1 odds and a payout over $5,000, federal income tax withholding will be applied to the net winning amount (payout minus your client’s wager).
Roulette, craps, blackjack, and baccarat profits, regardless of amount, do not require a W2-G form. Your clients won’t get a tax form from the payer but must still pay taxes on those winnings. Gambling income reported on Form W2-G is taxed at 24%.
How Professional Gamblers Pay Federal Income Tax
First, determine if your clients are professional gamblers. There is no clear distinction between casual and professional gamblers. Each case is handled individually, and the IRS offers guidelines for each of them.
To assess if your clients are professional gamblers, compare their facts and circumstances to the 1987 Supreme Court Groetzinger decision.
As per the case verdict, “If one’s gambling activity is pursued full time, in good faith, and with regularity, to the production of income for a livelihood, and is not a mere hobby, it is a trade or business.”
According to the IRS, the frequency and number of winnings alone do not make someone a professional gambler. You should also:
- Be skilled enough to gamble professionally.
- Focus on gambling strategy, practice, analysis, and improvement.
- Keep separate credit cards and specific bank accounts only for gambling.
- Log all gambling sessions, expenses, gains, and losses.
- Show potential for long-term profitability.
Filing taxes as a “pro gambler” for tax benefits without completing these qualifications can invite IRS scrutiny. If audited by the IRS, thorough records and logs may help your clients prove their professional gambler status.
Advantages of Professional Gambler Status in Taxation
- Professional gamblers can deduct business expenditures in addition to gaming losses. Ordinary and essential gambling costs can be deducted. This covers travel costs, educational materials, gambling advice subscriptions, home office expenses, and more. Net winnings are taxed as self-employment.
- Professional gamblers report gambling winnings and losses on Schedule C, not as “Other Income.” This lets you calculate your gambling profit or loss for the year by netting wins and losses. It does not affect adjusted gross income (AGI), which is most relevant.
- No need to worry about whether the client accepts itemized deductions or takes a standard deduction. Your clients should deduct gambling losses above the line as business costs.
As an accountant, you must know that Connecticut, Illinois, Indiana, and Wisconsin do not allow casual gamblers to deduct gambling losses. Your clients can deduct gambling losses as professional gamblers, but their returns may be strictly scrutinized.
How Expert Accountants Protect Professional Gambler Clients from Tax Pitfalls
Gambling income is taxed differently than other sources of income or business revenue. This might become challenging and confusing for your clients to understand. Thus, when doing their taxes, you must inform them of the pitfalls and how to prevent them:
Track activity with the “Session Method”
The IRS-approved “Session Method” is essential for reporting gambling wins and losses at the state level. Both professional and casual gamblers can use this strategy. The session method calculates net income from the winnings and losses during a gambling session. This will allow gamblers to reduce gross winnings and taxable income.
For example, a casino may issue a W-2G for $25,000 in slot machine winnings. Only one wager is shown on the W-2G. However, they do not deduct the gambling losses during that session. The gambler might have made only $8,000 during that session. Using the “Session Method,” you must report their $8,000 net win.
How to implement the “Session Method” properly as an accountant:
- Analyze and define sessions considering the gambling activities. The IRS requires each single sports bet to be considered as a session. For example, one session may include one poker event, a whole day of slot machine play, etc.
- Track session buy-ins and cash-outs.
- Ask your clients to record sessions properly and immediately.
- Provide supportive documentation for audited sessions.
Accountants should understand session method mechanics and help clients use it to reduce estimated tax payments.
Deal with complex state taxes
Only casual gamblers face state tax difficulties. Professional gamblers’ losses are considered state-deductible business expenses (even in states that don’t deduct gambling losses of casual gamblers).
Casual gamblers can determine their net taxable income from gambling wins and losses in New Jersey and Pennsylvania. Gambling losses are not deductible in Connecticut or North Carolina. Thus, in those states, total gambling income is completely taxable. So, using the session method is especially important for taxpayers gambling in unfavorable states.
Even if no federal income tax is due, gambling outside one’s native state can trigger tax filing requirements in that state. This might increase compliance requirements for your clients.
As an expert accountant, you must grasp state-specific policies to help your clients reduce gambling income taxes.
Ask your clients to report incomes and losses honestly
Calculating gambling income is an easy tax issue, contrary to popular belief. All gambling income must be reported to the IRS properly. This way, a person can avoid penalties from the IRS, which can cost more in the long run.
Make sure you ask your clients to file and pay taxes appropriately each year. Your clients can also consult a tax attorney if they are new to professional gambling and unsure how to proceed. The expert can help them avoid tax mistakes, fines, and legal issues.
Remember, W2-G revenue is not reported on tax returns by professional gamblers. So, your clients must declare this income as business income.
Maintaining Clean Records: Preventing Audit Risks and Penalties for Clients
Prepare your client’s annual return with accurate numbers for everything they have won. Gather detailed records from your clients and provide for IRS audits. You must submit records for every winnings and losses for all sessions.
The IRS warns that “if you don’t pay enough tax, either through withholding or estimated tax, or a combination of both, you may have to pay a penalty.” Calculate how much your clients must pay for estimated taxes if the payer doesn’t withhold.
The IRS may identify red signals if:
- Your clients can’t provide sufficient documentation for reported gambling activities and winnings/losses
- Your clients show major differences in the level of gambling income between the previous year and the current year.
Ask your clients to keep:
- Proper gambling records of sessions, dates, locations, buy-ins, cash-outs, and net profits/losses.
- Professional gambling expenditure documentation.
- Statements and receipts to prove big winnings and losses.
- Annual loss records to carry forward if net losses cannot be fully deducted.
Avoid 1099-K filing issues
Individuals are utilizing online sportsbooks and gambling sites more. For that reason, 1099-K filing has now become a hassle for taxpayers. Third-party services like PayPal issue 1099-Ks for gambling site money transfers. However, these services do not indicate the actual taxable income from gambling winnings.
As an accountant, you must ask your clients to avoid third-party payment processors. You should advise clients to withdraw or deposit gambling funds using ACH transfers. This way, your clients can avoid inaccurate 1099-Ks that appear unreported income to the IRS.
Conclusion
The above-given suggestions can help you as an accountant to lower gaming clients’ effective tax rate from 30% to 40%. Tax law may change frequently. So, please do plenty of research and guide your clients on saving their tax on gambling income.
