When Paypal Reports You to the IRS

Dear Rich Lifer,

 

Yesterday, I talked about some of the ways an “online yard sale” could go wrong – especially because of protection policies that largely favor buyers over sellers.

Today I want to alert you to one other important point about selling stuff online – namely the idea that even casual sellers could end up having to explain their activities to the Internal Revenue Service.

For example, anyone using Paypal or another similar payment processor should understand that these companies will report money transfers to the IRS if yearly transactions meet two specific criteria.

Here’s the explanation straight from Paypal’s website:

“Internal Revenue Code (IRC) Section 6050W states that all US payment processors, including PayPal, are required by the Internal Revenue Service (IRS) to provide information to the IRS about certain customers who receive payments for the sale of goods or services through PayPal.

“PayPal is required to report gross payments received for sellers who receive over $20,000 in gross payment volume AND over 200 separate payments in a calendar year. In order to help you understand these information reporting obligations, we have prepared the following FAQs. After reviewing the following FAQs, we recommend you consult your tax advisor to assess tax implications of Form 1099-K reporting.”

Obviously, this isn’t going to be a big deal for a lot people just listing random stuff on eBay here and there.

Still, let’s say you’ve decided to “Marie Kondo” your life in 2020 – selling off all the useless junk and unnecessary items in your house.

You could easily find yourself explaining all the proceeds of those sales to Uncle Sam come April 2021… something that almost certainly wouldn’t happen if you simply held a garage sale in your front yard or received payments in some other way.

Now, before we go any further, I’m not a tax professional so you shouldn’t use this as the final word on things. Nor am I recommending anyone avoid paying taxes they legitimately owe.

But here’s the basic deal when it comes to such matters …

When you’re selling off personal items, you’re usually losing money in the process. Therefore, you wouldn’t owe any income taxes on the proceeds of those sales.

Paypal isn’t in the business of figuring any of that out, of course. So if they see 200+ transactions and at least $20,000 coming into your account, they’re simply going to let the IRS know and you’ll have to explain the rest.

Meanwhile, there are some situations where you would legitimately owe income taxes on the proceeds of such sales.

The first two scenarios are pretty simple: You’re actually operating as an investor or a business.

Here’s a good explanation courtesy of NOLO

“Unlike a hobbyist, an investor wants to earn a profit, but is not engaged in a full-fledged business. These people purchase property with a view to having it increase in value over time. For example, an investor coin collector purchases coins primarily to earn a profit by selling or trading them–not for enjoyment. When an investor sells an item at a gain, the amount is a taxable capital gain that must be reported on IRS Schedule D. Income tax must be paid on the profit at capital gains rates. Net capital gains from selling collectibles (such as coins or art) are taxed at a maximum 28% rate. If an investor sells a collectible at a loss, the loss is a capital loss that may be deducted from any capital gains realized during the year. If capital losses exceed capital gains for the year, a maximum of $3,000 of the loss may be deducted from other income with the remainder, if any, carried forward to future years.

“If selling items online is your business, the same tax rules apply to you as for any other business. Online selling is a business if you regularly engage in it primarily to earn a profit. If you earn a profit in any three out of five years, your activity is presumed to be a business. You don’t have to engage in online selling full-time for it to be a business, but you must work at it regularly.

“When you have an online sales business, you may deduct all of your business expenses from your business income. You pay income tax on your profits at regular tax rates. If you incur a loss, you may deduct it from other income during the year. When you have a business, you must pay self-employment taxes (Social Security and Medicare taxes) as well as income taxes.”

Of course, even if you didn’t plan on investing or operating a business, you could still technically owe the IRS money.

For example, let’s say you bought a cool modern chair back in the 1960s, and now you want to sell it. It turns out to be a classic design from Ray and Charles Eames and is worth thousands more than your original purchase price. Under this type of scenario, you still technically owe Uncle Sam capital gains on any realized profit.

Whether that happens is now between you, the IRS, and possibly a company like Paypal.

To a richer life,

Nilus Mattive

Nilus Mattive

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Nilus Mattive

Nilus is the editor for the daily e-letter The Rich Life Roadmap and a Paradigm Press analyst.

Nilus began his professional career at Jono Steinberg’s Individual Investor Group, where he published his original research through a regular investment column. Later, he worked for a private equity business and spent five years editing Standard and Poor’s...

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