What is the 600 Rule on PayPal?
Do you have to report PayPal income to IRS? Understanding tax obligations can be challenging for many, especially when it comes to reporting income from online platforms like PayPal.
Most PayPal users find themselves in a dilemma and they wonder if they have to report PayPal income to IRS on their tax returns.
If you are one of those asking the above question, please read on to find the answers you need, as well as PayPal’s reporting policy.
Do You Have to Report PayPal Income to IRS?
Yes, report any income received (on your tax returns to the IRS) through PayPal.
If you’re using PayPal to collect income from retail customers, whatever receipts you have that are reported to the IRS by PayPal need to be included on your tax return.
The complication arises primarily for contractors and other small businesses that receive payments from clients through PayPal.
For those clients to deduct payments made to you on their own tax returns, they must file an IRS form 1099-MISC. But if you also receive a 1099-K from PayPal, it creates the potential for duplicate reporting of income.
What is Form 1099-K?
Form 1099-K is an IRS tax form used to report payments received for selling goods and services through a third-party network, like PayPal or Venmo.
These networks are also called TPSOs or handle credit/debit card transactions.
The IRS mandates that TPSOs issue a Form 1099-K, showing the total payments received in a calendar year.
Taxpayers should discuss this with their tax advisor when figuring out their gross receipts for their income tax return.
If you meet the IRS threshold in a calendar year, PayPal will send you a Form 1099-K the following January and file it with the IRS by the deadline.
What are the PayPal Reporting Rules?
Starting January 1, 2024, the IRS rolled out new rules for reporting payments received for goods and services.
Now, any transactions totaling $600 or more within a year will be reported, a significant decrease from the previous threshold of $20,000 and 200 transactions.
Here’s what you need to know:
The new reporting rule only applies to payments for goods and services, not personal transactions like splitting dinner bills or reimbursing friends for shared expenses.
This change stems from the American Rescue Plan Act of 2021, which updated the Internal Revenue Code to require Third-Party Settlement Organizations (TPSOs) such as PayPal to report transactions exceeding $600 in annual gross sales on 1099-K forms.
Previously, this reporting was triggered only when sales exceeded $20,000 or involved more than 200 transactions.
If you receive a payment marked as goods and services, PayPal will report it to the IRS once it hits the $600 mark, regardless of whether it’s taxable income.
Which Payment Apps Fall Under the IRS Reporting Rule?
Starting in 2024, all third-party payment apps that freelancers and business owners use to receive income are required to report transactions to the IRS.
This includes popular apps like PayPal, Venmo, Zelle, and Cash App, as well as platforms like Fiverr and Upwork.
If you earn money through these apps, consider setting up separate accounts for personal and professional transactions.
This can help prevent non-taxable transfers, like money from family and friends, from being mistakenly included on your IRS forms.
What is a Goods and Services payment with PayPal?
Both PayPal and Venmo allow users to categorize their peer-to-peer transactions as either personal/friends and family or goods and services.
Choose “Goods and Services” when you’re paying for items like furniture from a local ad or concert tickets, or when you’re paying for a service.
These transactions are covered by PayPal and Venmo’s Purchase Protection Program, offering both buyers and sellers reassurance in case something goes wrong with the transaction.
Reporting 1099 Income and Non-1099 Income
Any income you receive through PayPal, whether or not it’s reported on Form 1099, must be included on your tax return.
If you file as a sole practitioner, income will need to be reported on Schedule C.
If your business is run as a corporation, you’ll need to report the income on IRS form 1120 or 1120S. And if you operate your business as a partnership, the income will need to be included in IRS form 1065.
Even if you don’t operate a formal business, you will still be required to report the income on Line 21, “Other Income” on IRS Form 1040, Schedule 1.
However, it will be to your advantage to report the income on Schedule C, so that you can deduct business expenses related to the production of that income.
Reporting Hobby Businesses
There’s one other situation that’s unique to PayPal, and that’s hobby businesses. This is the type of business you engage in primarily for pleasure and not profit. In fact, it may not be profitable at all.
However, even if it’s a hobby, you’ll need to report any income received from PayPal on your tax return.
If you cannot report it, the IRS can consider it to be under-reported income, and assess a tax on the income, plus penalties and interest.
By filing the income on your return, you will also write off expenses against that income. If your expenses exceed the income, then none of it will be taxable.
Failing to report income to the IRS can lead to penalties and legal consequences.
It’s always best to consult with a tax professional or accountant to ensure compliance with tax laws and regulations.