New Federal 1099-K reporting from PayPal (U.S.)

[Phonesrfun]

I apologize for the length of this post.  If you don't sell a lot on e-bay then consider bypassing this post

Last week, Doug Rose told of getting a 1099-K in the mail from PayPal for things he sold through e-baY.  Vern Potter wrote me and asked if I could do some reading and give some information and some pointers on how to deal with this new reporting requirement the IRS has imposed.  If anyone sells a lot on e-bay, you might want to be aware of this new issue, although I think anyone who has received a 1099-K  for 2011 is now painfully aware of the new reporting requirements of PayPal.

I am an accountant, but I am not a licensed tax professional, so all I can offer is general guidance.  I cannot legally advise anyone on specific tax matters.

That being said, here are a few things to keep in mind while selling on e-baY and accepting payments through PayPal or other card processors, including Visa and MasterCard merchant accounts.  Visa and MasterCard merchants fall under the same reporting requirements.

The new reporting requirements went into effect under the name of Internal Revenue Code (IRC) 6050W.  You can Google that and get a lot of information. This new law now requires payment processors to issue a 1099-K to those who have received over $20,000 per year in payments.  PayPal has instituted this new procedure for any seller that exceeds both $20,000 in gross PayPal receipts (including shipping) and  200 separate transactions.  Since PayPal and e-baY are joined at the hip, you can expect that your e-baY sales that go through PayPal to be reported, along with any non-e-Bay sales also going through PayPal, providing they exceed the thresholds.

The background for this action by the IRS was simply that there are so many sellers running businesses out of their homes that were flying under the watchful radar of Uncle Sam.  By issuing a 1099, that forces sellers to include the profits from the sales in their tax returns, where the IRS and state governments have a chance to tax it. 

Remember it is the net income from a business that is taxed.  Not the gross amount reported on the 1099.  Determining the net income is a matter of taking the gross receipts and deducting your costs.

A sole proprietor will put this information on the business form, which is schedule "C" - Net Profit from Business, and schedule "SE" - which is self employment tax.  Totals from these forms are brought forward onto schedule 1040, the main tax return form

How will this affect you?

You may have to pay a higher federal and state income tax, plus you will probably have to pay a self employment tax.  Self employment tax is Social Security and Medicare, but it is at twice the rate you pay if you work for someone else, because employers normally pay half the SS & Medicare and employees pay the other half.  When you are self employed you have to pay both halves, and it is based on your net profit.

Therefore, the way to pay less tax is to report all the costs associated with the sales of those items. 

How to mitigate the amount of taxes you pay:

The big thing to keep in mind is KEEP GOOD RECORDS!

You need to keep detailed records of your costs, so that you can deduct them from the gross receipts that have been reported on the form 1099-K. 

Examples of costs that are always deductible include:

•   Your purchase price of the item sold
•   Shipping costs you incurred to buy the item
•   Shipping costs you pay up front, when shipping is included in the amount you receive from the buyer
•   Shipping supplies, including boxes, peanuts, labels etc.
•   e-bay selling fees
•   Your costs to refurbish, clean or repair the item before you sell it
•   Costs to advertise an item you are selling
•   Costs you pay for a tax preparer and/or tax advisor

Some other things that a tax professional could advise you on would be deducting mileage you drive that is part of the selling process to and from the post office and maybe even when you are out on buying trips to buy things you will later resell, providing those miles can be directly associated with an item you are selling.  The standard business mileage rate for 2012 is 55.5 cents per business mile.

Another even grayer area would be deducting the cost you pay for your home if you are running a business out of your home.  Estimating this kind of cost is tricky, and is not generally going to apply unless you really have a part of your home actually dedicated solely for business activities.

So what do you do if you do not have good records or no records at all?  Rather than pay income taxes on the entire gross amount of your sales, plus self employment taxes on that same amount, you should consider coming up with reasonable estimates of the costs.  Determining these estimates would be a matter for you to discuss with your tax accountant.  An estimate might not squeeze every last Dollar of deductible expenses out of the gross amount, but anything you can deduct that is valid and reasonable is better than nothing.

Why involve a tax professional?  Well, it is just a good idea.  The cost is deductible as a business expense, and they can advise you on just exactly what to or not to deduct.  They can also help you navigate through the various tax forms at the end of the year.

On-line services such as Turbo Tax ® and others are good and pretty reasonably priced for actually filling out the tax forms, but they cannot give you advice or aid you in setting up a good record keeping system. 

Good luck, everyone!

[Doug Rose]

Hey Bill...thanks for the info....I appreciate it. I am still fuzzy on when this came into effect. Paypal/eBay said 1/1/2011. My tax guy said it was in the end of the year when Congress was fighting to get the three month extension so the country would not go bankrupt. Where Jan and I knew nothing about this, we were caught totally off guard. Backing this with receipts is tough because 90% of what we sell is yard sale and flea market purchases. Any insight is greatly appreciated.....Doug

[Phonesrfun]

Doug:

It appears that Congress rammed it through with a housing related bill in November of 2011 with an effective date for sales beginning with January 1 of 2011.  From what I can see, the framework for the bill has been in the works since at least the fall of 2010.  That does not mean that the average person would have known until it was suddenly sprung on high-Dollar sellers, which is apparently the case.

It also looks like the payment processors had to scramble to comply with the new law by issuing the 1099's on time.

As far as buying at yard sales and then turning around and selling on e-bay, that is probably a very common practice.  The point is that there was at least some cost involved in the items you sold.  Maybe on some you made out well, and on some others you made out terribly, but still there was a cost.

Nobody in a garage sale issues a receipt, so it is no surprise that you don't have that information. 

I have never sold on e-Bay, so I have no clue as to what history you can get of your sales for 2011, but if that history is available, I would definitely download it.  This will at least tell you what you sold and give a description, maybe a photo, and the shipping costs.

Perhaps you can piece together a reasonable cost estimate, based on memory, any items you actually paid for with a check, or even a reasonable good faith estimate.  Definitely have your tax accountant get involves with this process.

Again, lots of luck.

[Vern P]

1st, Thanks Bill for doing this.

As for me, a lot of my finds are swap meet and etc. finds.  I keep a note book in my car, each time I travel to go shoping. I make a note as to what I found, how far I dove, shipping cost and so on.  Then when I get to it,  enter it in my "tax record" book, by the week.  I do the same thing when on a road trip, I make notes on miles drove, cost of the finds, hotel and food.  I don't keep my recites, (maybe I should) but I do keep notes.

I am self employed, so I can use this as part of my real income, to lower my tax bill.

I am not saying to lye about what it cost you to sell your stuff, but a good guess would be in line.

Vern P

[Vern P]

I was thinking (OUCH !) last night I should have added some other info. Ture most of you will not need to think about this, but on the other hand maybe some will.

First I must say that, 1st I am a COLLECTOR and 2nd a dealer, to help pay for my collection.

When I buy something, I put sticker, OK a pice of tape. On it with a code for the year, priced paid, and sometime were. ie: 09 ID 100.= 2009 Idaho,and $100. 

Other times like when I sell a 302,I know I pay most of the time $30 for a nice Black 302, so that is what I but in the sales book.  This could mean it was a nice 302 when I got it, or it could have been a junk one ($7) just for the dail, and another one with a good shell and no dial ($15).

I know a full time dealer that keeps his book this way.  Enter in the book as B1234, price tag on the Tea cup for sale. B1234 $15. 

When he looks in the book to see about this, it will show, B1234 is a Tea cup, bought in 2-09 for $5 in Idaho. B1235 could be a chair. Just a note of what , priced paid and etc. 

I guess the bottom line is, for those that are worried about the IRS. keep records or notes of what you paid, and the cost to fix and sell this. As you are only paying the tax on the net profit, not the whole sale price.

Vern P

[Phonesrfun]

Good information, thanks Vern!

[Vern P]

Bill,
Some stuff I don't understand.

You say that PayPal, is reporting transactions of over $20k. I understand that, but then it is said over "$20K and 200 separate transactions".   Does this mean if you have 250 $10 deals, then the flag goes up ? Or does the number of transactions alone not rise the flag ?  Or is it $20K and over 200 trans. ?

Do the number of sales on eBay set up the flag too ?  If you have 250 $10 sale on eBay, will this rise the flag ?

I understand this is something we would need to talk with our CPA about, but again you understand it a lot better than we do.

As for me, I don't sell on eBay or use PayPal.  But just trying to understand this.

Vern P

[Phonesrfun]

You need to exceed both tests.  $20k and 200 items.  See this link:

https://cms.paypal.com/us/cgi-bin/marketingweb?cmd=_render-content&content_ID=marketing_us/IRS6050W&bn_r=o

So, if you sell a car on e-bay for $25k and run it through PayPal, and that is the only transaction you do, apparently you won't get one.  

If you had 250 $10.00 sales on e-bay (2,500 total) , you would not get the 1099, but if you also sold a car for $18,000 on e-bay motors and ran it through your same PayPal account, I think you would get a 1099.

[Russ Kirk]

So, to me,  is sounds like the average person that sells a few household items or collectables will not get hit.  I think they are going after the people that are operating like a business, making lots of money.   I think the super sellers are the target of this tax,  not the average person.

 

[Phonesrfun]

That's my take too.

[AE_Collector]

I think the super sellers are the target of this tax,  not the average person.  

I'm assuming your laws are the same as ours here in Canada in this regard and that is if you make a dollar you are expected to pay income tax on it. ebaY has just been a very organised way to make money without paying tax on your income. This isn't a change of law, just closing a loop hole that made it easy to ignore the requirement to pay income tax on it.

So I would expect that they will target more and more sellers in coming years.

Bill, you mentioned a lot of the "expenses" that would be deducted from your profit. You mentioned your cost of refurbishing to make it more saleable. True for items you have receipts for but (again, unless your laws are different than ours), your labor is not a write off. You can't decide that your labor is worth a modest $20 an hour and you put 10 hours into it for a write off of $200. Labor is the same as going to work "is labor" and you are paid for it and the pay is subject to income tax.

Terry

[Phonesrfun]

Hi Terry,

Yes, if you make a Dollar, but after your costs.

Yes again on the part that you cannot count your own labour as a cost  (notice the spelling).

-Bill

[AE_Collector]

Yes again on the part that you cannot count your own labour as a cost  (notice the spelling).

Had to get my ENGLISH Dictionary out to look that one up...Oh, it means LABOR!  

Terry

[TelePlay]

And on the other side of that coin, the State of Wisconsin is sending out letters requesting people who bought items on the internet but did not pay State sales tax (5-5.25%) on the item to remit the tax due on their income tax filings due mid April - going back to 2007 (5 years is the farthest they can after back state taxes in Wisconsin). Anything not paid in years prior to 2011 is subject to an 18% interest rate and a late payment penalty. Nice, huh?

There has been a line on the Wisconsin tax return for years that allows people to pay sales tax due on items bought from sellers not in the state who do not collect sales tax but the item is to be used in Wisconsin so sales tax is due. I've been, in some peoples minds, stupidly been paying that tax each year so didn't get a letter.

http://tinyurl.com/8xam7tg

Aren't computer files fun? They say they are just asking now for people to be fair but if they get access to banking files, it could become a lot more. They ask once, then go after buyers under the power of law which could put a real hurt on a lot of people.   

[Phonesrfun]

Yes, the states want the revenue badly.

Some day it will probably be mandatory.  For now, the states want you to voluntarily declare and pay it.  Some day the states will all get together and make it so that sellers on e-bay have to collect and remit sales taxes to the hundreds, if not thousands of state/county/city taxing combinations.  For now, I think the general rule is that sellers have to collect sales taxes for sales within their own states.

So, Terry:

If North of the 49th Y'all spell color with a u, then why not labor too?  What about neighbor?  (Shows my ignourance)