Merchants who sell products online and/or in bricks-and-mortar stores may receive a statement from their payment processor called Form 1099-K, Payment Card and Third Party Network Transactions. There is much confusion about the form and what it means to your income tax reporting for federal and state tax purposes. Hopefully, the following clears up the confusion.
When the form must be issued
If you accept payment by credit/debit card and/or a third-party settlement organization that accepts payments for you, then each year you may receive Form 1099-K. This is an information return that banks, PayPal, and other payment processors (called “third party networks”) are required by federal law to issue to merchants if the total amount of transactions for the year exceed $20,000 and the aggregate number of these transactions exceeds 200.
The amount reported to you on the 1099-K has nothing to do with how you value your goods, your return policy, or state tax income and sales tax rules. It is merely a federal rule imposed on third party networks that process payment transactions; they can be penalized if they fail to comply.
Reporting on your tax return
You do not have to reconcile the amount on Form 1099-K with the gross receipts you report on your return. There is no requirement on federal income tax returns to report the exact amount that appears on Form 1099-K. There is no line for such reporting or any instructions to do so. Of course, you must report your sales in accordance with federal and state income tax rules. This is true even if you don’t receive a form.
The reason why amounts on Form 1099-K may be out of line with what’s reported on your return: The 1099-K does not reflect any allowances or returns. It does not take into account your cost-of-goods sold and other expenses you can use to reduce the taxable profit from your sales.
However, you should review the form when preparing your return and retain it with your other tax documents.
How the IRS uses 1099-K information
The reason for having information returns is to help the IRS check for income reporting. The IRS has used 1099-Ks to catch some sellers who failed to report their sales in line with amounts on the information return. For example, the IRS used 1099-Ks to catch unreported income by a coin dealer on eBay and a jewelry merchant at art shows.
Nearly a dozen states, including Massachusetts, require that 1099-K be submitted to them if the merchant has an address in their state. Check for state rules, which have reporting thresholds lower than the federal one and may even have their own state 1099-K form.
Handling 1099-K problems
While you don’t have to reconcile your reported gross receipts with the amount on the 1099-K, you should be sure that what’s been reported to you (and to the IRS and possibly your state) is correct. For example, a 1099-K may be issued to you in error (e.g., it belongs to another business or is issued in your name even though your business is a corporation). If you have any such problem, contact the issuer to request a correction. For instance, if the 1099-K should have been issued to your corporation instead of in your name, with your Social Security number, ask that a corrected statement with the corporation’s employer identification number, be issued.
If you think you should have received a form but didn’t, don’t worry. The penalty for not providing you with the form is on the third party network.
Form 1099-K is required to be provided to merchants by the end of January following the year to which it relates (e.g., February 1, 2021, for 2020 transactions because January 31 is a Sunday). Later, if you receive a notice from the IRS referencing Form 1099-K, consult with your CPA or other tax professional.
Note from the editor: This is a good time to remind readers of Barbara’s tax guides, including “J.K. Lasser’s Small Business Taxes 2021.”