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What is a 1099-K and What You Need to Know

What is a 1099-K and What You Need to Know

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If you drive for Uber or Lyft, sell stuff on Amazon or eBay, or process sales through online payment processors like Square and PayPal; there is a good chance that you received a 1099-K form this year. If you received one and don’t know what it is, it is critical you have a full understanding of the form. This new form can have serious tax consequences for you if you aren’t careful.

1099-K: What You Need to Know

What is a 1099-K?

Form 1099-K is a new IRS form aimed at individuals that earn an income online. Instead of relying on individuals to self-report online income, the IRS is now forcing third-party payment processors such as PayPal or a merchant account to report income that is flowing through their networks to you.

Why Did the IRS Develop Form 1099-K?

For many years the Internal Revenue Service has relied on these individuals to self-report income that was earned online in the form of freelance payments or money earned through selling items online through eBay, Amazon, and other websites. As you might expect, not many of those individuals self-reported that income. Form 1099-K was developed to close the gap in that area.

Now if you earn above $20,000 AND have more than 200 transactions, the income will be reported on Form 1099-K, and you will have to pay income tax on the amount.

Who Will Receive a 1099-K?

If you sold a few things out of your attic on eBay, you don’t need to worry about receiving a 1099-K. Only those who earned more than $20,000 through a merchant or payment processing account and have more than 200 transactions will receive a 1099-K.

Who Sends Out a 1099-K?

Traditionally if you have earned money online (such as freelance work), the person paying you (buyers of your goods or services) would send you a 1099-MISC form to report the income. But if you are selling on eBay you technically could have hundreds of buyers; they aren’t going to send you a 1099-MISC.

To fight this problem, the IRS has put the responsibility of sending out the Form 1099-K to the third-party payment processors that handle the money during an online transaction. For most people who sell online, this will be PayPal. But if you had a merchant account to accept credit cards, they would report the income to you as well.

Problems with Form 1099-K

The IRS is just doing its job by forcing individuals that have been earning significant amounts of income online to report the income and pay tax on it.

However, for many freelancers, Form 1099-K can become a major headache and a significant potential tax problem. Why?

Double Reporting of Income

Here’s how this problem can happen: a freelancer earns $30,000 in online income. Some of the clients pay via paper check, but that only amounts to $5,000 of the $30,000 in revenue. The remaining clients pay via PayPal, and there were over 200 transactions. Since the amount processed throughout the year  ($25,000) is over the $20,000 threshold, PayPal will generate a 1099-K and send it to the freelancer.

That’s not a problem — until some of the clients also fill out a Form 1099-MISC and report the income paid to the freelancer to the government) for the money they paid via PayPal. Let’s say the amount that is double reported is $10,000. Now the government sees the freelance income as $40,000 rather than $30,000. In a 25% tax bracket that’s an additional tax liability of $2,500.

Gross Income, Not Net

If your business involves refund back to the customers, be aware that 1099-K reports your gross income. This means you have to report refunds and any transactional fees as business expenses to offset your income.

Bottom Line

Keeping diligent records and communicating effectively with your clients can help avoid this problem, but the odd of getting audited is likely increased across the board. Having great records will help diffuse any issues with the IRS should they think you owe them a few extra thousand dollars at the end of the year.

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1099-K’s are going to blindside quite a few people who aren’t prepared. Thanks for sharing what to do! We’ve included this post in today’s best blogger tax tips roundup!

http://www.creditsesame.com/blog/best-tax-tips-for-2012/

What is a 1099-K and What You Need to Know

by Kevin Mulligan time to read: 3 min
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