Do You Owe Taxes On Your Credit Card Rewards?

2012 February 20
by Kyle Bumpus
from → Taxes

Last year, Citigroup ran a promotion offering frequent flier miles as a reward for opening a bank account. No big deal, right? Banks offer promotions and incentives all the time. This time, however, it’s a bit more complicated. You see, Citigroup sent out 1099 forms reporting the miles as income and the IRS wants a cut of that income.

What? You mean those bonuses you receive are considered taxable income? According to the IRS guidelines, the answer is a qualified “yes.” The IRS has an article on its website titled What is Taxable and Nontaxable Income? that lists the most common forms of taxable income. While frequent flier miles received from a bank promotion aren’t explicitly listed, the IRS does state that “…generally, an amount included in your income is taxable unless it is specifically exempted by law…” Since I’m not aware of any specific tax laws explicitly excluding bank promotions from taxation, it’s probably safe to assume they are, in fact, taxable.

Why Did Citigroup Send A 1099 In This Particular Instance?

But people take advantage of bank promotions all the time. Why did Citigroup send out a 1099 to recipients in this particular case but not in others? First off, it must be noted that just because you don’t receive a 1099 in the mail doesn’t mean you don’t owe income tax on legally recognized taxable income. You do. The reason Citigroup issued a 1099 in this case seems to be because Citigroup determined the value of the promotion to be $625 (25,000 frequent flier miles at 2.5 cents per mile).  Since IRS rules require the reporting of prizes and awards valued over $600, they had no choice but to report it. Hence, a 1099 was issued both to the recipients of the award and the IRS. Had Citigroup valued the promotion at some amount lower than $600, they probably would not have issued a 1099. However, recipients would still be legally required to self-report and pay taxes on the award, regardless of the amount.

This rule makes sense when you think about it. If you went to Vegas and happened to win a new car from a slot machine, you would expect to pay income tax on the value of the vehicle, wouldn’t you? What Citigroup is doing here is really no different. They are simply paying you to be their customer, which is clearly a form of income.

It should be noted, though, that the IRS itself has considered this issue in the past and ruled that, while this income is technically taxable,  the IRS hasn’t been enforcing  the rules due the complex nature of these types of awards and promotions, at least not yet. That could change going forward, however, as these types of programs are becoming more and more commonplace.

Does This Mean Things Like Credit Card Rewards Are Taxable?

In a word, no. Well, maybe. It really depends on the nature of the reward. The determinant of whether or not a reward is considered taxable is whether the reward in question is connected to a specific purchase or transaction. Cash-back rewards tied to credit card purchases are not taxable because they are considered to be merely discounts in the purchase price of whatever you bought. Think of it this way: if you were shopping a going-out-of-business sale and managed to score a flat screen television for 80% of its original listed price, would you owe income tax on the difference between the original price and what you actually ended up paying for it? Of course not. That’s because the discount isn’t a form of income, it’s just a discount. Both parties, the buyer and the seller, agreed to part with that particular item at a lower-than-usual price for whatever reason.

Rewards not tied to a specific purchase or transaction are usually considered taxable, however. In the Citigroup case above, those 25,000 bonus points weren’t connected to any specific purchase so you can’t apply the “discounted price” argument above. It was compensation for completing a specific action. In this case, it was signing up for a bank account.

In conclusion, you are safe not paying taxes on all credit card rewards tied to actual purchases. Sign-up bonuses, on the other hand, are technically taxable most of the time. Since the IRS is by its own admission not enforcing those rules right now, you’re probably safe not reporting them for small amounts. But for a bonus worth over $600? It’s probably safer to just pay up. Better safe than sorry.

Earn a $50 bonus when you open an Electric Orange℠ checking account from ING DIRECT. Free ATMs and no overdraft fees.*

* But don’t forget to pay taxes on that $50!

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4 Responses
  1. 2012 February 23

    Glad to know that I don’t owe taxes on the cash back. I was worried when I started reading until you answered that question. Learned something new today.

  2. 2012 February 24

    I hadn’t even thought about the possibility of paying taxes on rewards, and was glad to see that I don’t Now to gather my paperwork to report that $5 in interest from my savings account…

  3. 2012 March 13
    Travis permalink

    Hi excuse me so I have to pay taxes on that 50$ ING offer??? Can you clarify this please. CBS says I don’t have to pay taxes unless it goes beyond 600$. I can’t find this particular line in the IRS website. Can you kindly confirm this please???

  4. 2012 March 13

    CBS is wrong. You technically owe tax even if you receive just a single penny. $600 is just the threshold for them (ING, not you) being required to report it to the IRS. Of course, if nobody reports it, the IRS isn’t going to know about it.

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