If you gamble or buy lottery tickets and you’re lucky enough to win, congratulations! After you celebrate, be aware that there are tax consequences attached to your good fortune.

Winning at gambling

For tax purposes, it doesn’t matter if you win at the casino, a bingo hall or elsewhere. You must report 100% of your winnings as taxable income. They’re reported on an “Other income” line of your 1040 tax return. To measure your winnings on a particular wager, use the net gain. For example, if a $40 bet at the racetrack turns into a $130 win, you’ve won $90, not $130.

You must separately keep track of losses. They’re deductible, but only as itemized deductions. Therefore, if you don’t itemize and instead take the standard deduction, you can’t deduct gambling losses. In addition, gambling losses are only deductible up to the amount of gambling winnings. So you can use losses to “wipe out” gambling income but you can’t show a gambling tax loss.

Maintain good records of your losses during the year. Keep a detailed diary in which you note the date, place, amount and type of loss, as well as the name of anyone who was with you. Save all documentation, such as checks or credit slips.

Note: Different rules apply to people who qualify as professional gamblers.

Winning the lottery

Of course, the chances of winning big in the lottery are slim. But if you don’t follow the tax rules after winning, the chances of hearing from the IRS are much higher.

Lottery winnings are taxable. This is the case for cash prizes and for the fair market value of any noncash prizes, such as a car or vacation. Depending on your other income and the amount of your winnings, your federal tax rate may be as high as 37%. You may also be subject to state income tax.

You report lottery winnings as income in the year, or years, you actually receive them. In the case of noncash prizes, this would be the year the prize is received. With cash, if you take the winnings in annual installments, you only report each year’s installment as income for that year.

If you win more than $5,000 in the lottery or certain types of gambling, 24% must be withheld for federal tax purposes. You’ll receive a Form W-2G from the payer (lottery agency, casino, etc.) showing the amount paid to you and the federal tax withheld. (The payer also sends this information to the IRS.) If state tax is withheld, that amount may also be shown on Form W-2G.

Since your federal tax rate can be up to 37%, which is well above the 24% withheld, the withholding may not be enough to cover your federal tax bill. Therefore, you may have to make estimated tax payments — and you may be assessed a penalty if you fail to do so. In addition, you may be required to make state and local estimated tax payments.

We can help

If you’re fortunate enough to hit a sizable jackpot, there are other issues to consider, including estate planning. This article only covers the basic tax rules. Contact us with questions. We can help you minimize taxes and stay in compliance with all the requirements.

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In recent years, merger and acquisition activity has been strong in many industries. If your business is considering merging with or acquiring another business, it’s important to understand how the transaction will be taxed under current law.

Stocks vs. assets

From a tax standpoint, a transaction can basically be structured in two ways:

1. Stock (or ownership interest) sale. A buyer can directly purchase a seller’s ownership interest if the target business is operated as a C or S corporation, a partnership, or a limited liability company (LLC) that’s treated as a partnership for tax purposes.

The now-permanent 21% corporate federal income tax rate under the Tax Cuts and Jobs Act (TCJA) makes buying the stock of a C corporation somewhat more attractive. Reasons: The corporation will pay less tax and generate more after-tax income. Plus, any built-in gains from appreciated corporate assets will be taxed at a lower rate when they’re eventually sold.

The TCJA’s reduced individual federal tax rates may also make ownership interests in S corporations, partnerships and LLCs more attractive. Reason: The passed-through income from these entities also will be taxed at lower rates on a buyer’s personal tax return. However, the TCJA’s individual rate cuts are scheduled to expire at the end of 2025, and, depending on future changes in Washington, they could be eliminated earlier or extended.

2. Asset sale. A buyer can also purchase the assets of a business. This may happen if a buyer only wants specific assets or product lines. And it’s the only option if the target business is a sole proprietorship or a single-member LLC that’s treated as a sole proprietorship for tax purposes.

Note: In some circumstances, a corporate stock purchase can be treated as an asset purchase by making a “Section 338 election.” Ask us if this would be beneficial in your situation.

Buyer vs. seller preferences

For several reasons, buyers usually prefer to purchase assets rather than ownership interests. Generally, a buyer’s main objective is to generate enough cash flow from an acquired business to pay any acquisition debt and provide an acceptable return on the investment. Therefore, buyers are concerned about limiting exposure to undisclosed and unknown liabilities and minimizing taxes after the deal closes.

A buyer can step up (increase) the tax basis of purchased assets to reflect the purchase price. Stepped-up basis lowers taxable gains when certain assets, such as receivables and inventory, are sold or converted into cash. It also increases depreciation and amortization deductions for qualifying assets.

Meanwhile, sellers generally prefer stock sales for tax and nontax reasons. One of their main objectives is to minimize the tax bill from a sale. That can usually be achieved by selling their ownership interests in a business (corporate stock, or partnership or LLC interests) as opposed to selling business assets.

With a sale of stock or other ownership interest, liabilities generally transfer to the buyer and any gain on sale is generally treated as lower-taxed long-term capital gain (assuming the ownership interest has been held for more than one year).

Keep in mind that other areas, such as employee benefits, can also cause unexpected tax issues when merging with, or acquiring, a business.

Professional advice is critical

Buying or selling a business may be the most important transaction you make during your lifetime, so it’s important to seek professional tax advice as you negotiate. After a deal is done, it may be too late to get the best tax results. Contact us for the best way to proceed.

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Investment swings: What’s the tax impact?

If your investments have fluctuated wildly this year, you may have already recognized some significant gains and losses. But nothing is decided tax-wise until year end when the final results of your trades will reveal your 2023 tax situation. Here’s what you need to know to avoid tax surprises.

Tax-favored retirement accounts and taxable accounts 

If you’ve had wild swings in the value of investments held in a tax-favored 401(k), traditional IRA, Roth IRA or self-employed SEP account, there’s no current tax impact. While these changes affect your account value, they have no tax consequences until you finally start taking withdrawals. At that point, the size of your balance(s) will affect your tax bills. If you have investments in a Roth IRA, qualified withdrawals taken after age 59½ can be federal-income-tax-free.

With taxable accounts, your cumulative gains and losses from executed trades during the year are what matter. Unrealized gains and losses don’t affect your tax bill.

Overall loss for 2023

If your losses for the year exceed your gains, you have a net capital loss. To determine and apply the loss:

1. Divide your gains and losses into short-term gains and losses from investments held for one year or less and long-term gains and losses from investments held for more than one year.
   • If your short-term losses exceed your short- and long-term gains, you have a net short-term capital loss for the year.
   • If your long-term losses exceed the total of your long- and short-term gains, you have a net long-term capital loss for the year.
2. Claim your allowable net capital loss deduction of up $3,000 ($1,500 if you use married filing separate status).
3. Carry over any remaining net short-term or long-term capital loss after Step 2 to next year where it can be used to offset capital gains in 2024 and beyond.

Overall gain for 2023

If your gains for the year exceed your losses, you have a net capital gain. To figure out the gain:

• Divide your gains and losses into short-term gains and losses from investments held for one year or less and long-term gains and losses from investments held for more than one year.
  • If your short-term gains exceed the total of your short- and long-term losses, you have a net short-term capital gain for the year.
  • If your long-term gains exceed the total of your long- and short-term losses, you have a net long-term capital gain for the year.

Net short-term and long-term gain

A net short-term capital gain is taxed at your regular federal income tax rate, which can be up to 37%. You may also owe the 3.8% net investment income tax (NIIT) (see below) and state income tax, too.

A net long-term capital gain (LTCG) is taxed at the lower federal capital gain tax rates of 0%, 15%, and 20%. Most individuals pay 15%. High-income folks will owe the maximum 20% rate on the lesser of: 1) net LTCG or 2) the excess of taxable income, including any net LTCG, over the applicable threshold. For 2023, the thresholds are $553,850 for married joint-filers, $492,300 for singles and $523,050 for heads of households. You may also owe the NIIT and state income tax, too.

Watch out for the NIIT

The 3.8% NIIT hits the lesser of your net investment income, including capital gains, or the amount by which your modified adjusted gross income exceeds the applicable threshold. The thresholds are:

• $250,000 for married joint-filers,
• $200,000 for singles and heads of households, and
• $125,000 for married individuals filing separate.

Year end is still months away

As explained earlier, your tax results for 2023 are up in the air until all the gains and losses from trades executed during the year are tallied up. If you have questions or want more information, consult with us.

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Now that Labor Day has passed, the holidays are just around the corner. Many people may want to make gifts of cash or stock to their loved ones. By properly using the annual exclusion, gifts to family members and loved ones can reduce the size of your taxable estate, within generous limits, without triggering any estate or gift tax. The exclusion amount for 2023 is $17,000.

The exclusion covers gifts you make to each recipient each year. Therefore, a taxpayer with three children can transfer $51,000 to the children this year free of federal gift taxes. If the only gifts made during a year are excluded in this fashion, there’s no need to file a federal gift tax return. If annual gifts exceed $17,000, the exclusion covers the first $17,000 per recipient, and only the excess is taxable. In addition, even taxable gifts may result in no gift tax liability thanks to the unified credit (discussed below).

Note: This discussion isn’t relevant to gifts made to a spouse because these gifts are free of gift tax under separate marital deduction rules.

Married taxpayers can split gifts 

If you’re married, a gift made during a year can be treated as split between you and your spouse, even if the cash or gift property is actually given by only one of you. Thus, by gift-splitting, up to $34,000 a year can be transferred to each recipient by a married couple because of their two annual exclusions. For example, a married couple with three married children can transfer a total of $204,000 each year to their children and to the children’s spouses ($34,000 for each of six recipients).

If gift-splitting is involved, both spouses must consent to it. Consent should be indicated on the gift tax return (or returns) that the spouses file. The IRS prefers that both spouses indicate their consent on each return filed. Because more than $17,000 is being transferred by a spouse, a gift tax return (or returns) will have to be filed, even if the $34,000 exclusion covers total gifts. We can prepare a gift tax return (or returns) for you, if more than $17,000 is being given to a single individual in any year.

“Unified” credit for taxable gifts 

Even gifts that aren’t covered by the exclusion, and are thus taxable, may not result in a tax liability. This is because a tax credit wipes out the federal gift tax liability on the first taxable gifts that you make in your lifetime, up to $12.92 million for 2023. However, to the extent you use this credit against a gift tax liability, it reduces (or eliminates) the credit available for use against the federal estate tax at your death.

Be aware that gifts made directly to a financial institution to pay for tuition or to a health care provider to pay for medical expenses on behalf of someone else don’t count towards the exclusion. For example, you can pay $20,000 to your grandson’s college for his tuition this year, plus still give him up to $17,000 as a gift.

Annual gifts help reduce the taxable value of your estate. The estate and gift tax exemption amount is scheduled to be cut drastically in 2026 to the 2017 level when the related Tax Cuts and Jobs Act provisions expire (unless Congress acts to extend them). Making large tax-free gifts may be one way to recognize and address this potential threat. They could help insulate you against any later reduction in the unified federal estate and gift tax exemption.

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