At some point in our lives, we were all asked the question: what would you do if you were given $1 million, $500 million or $1 billion? From answers like “buying my dream car/house”, to “donating to charities”, to “taking care of my family” or to “traveling the world”. A single questions with a million responses of different aspirations. We all dream of it— waking up one day to find out that we have won the lottery. That the odds have been in our favor to win millions of dollars on a single slip of paper. Yet, we all know that everything comes with a price, that nothing simply falls into our hands so easily without a cost. And if you’re lucky enough to be a winner at gambling or the lottery, congratulations! After you celebrate, be ready to deal with the tax consequences of your good fortune.
Winning at Gambling
The chances of winning 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 non-cash 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 non-cash prizes, this would be the year the prize is received. With cash, if your 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 showing the amount paid to you and the federal tax withheld (the payer also sends this information to the IRS). If state tax withholding 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. Different rules apply to people who qualify as professional gamblers. Contact your DDK tax advisor if you have any questions! We can help you minimize taxes and stay in compliance with all requirements!
