1099-Ks: What Online Sellers Should Know
Quick guide to income reporting, thresholds & recordkeeping when selling online
If you sell anything online, the rules about 1099-K reporting are crucial to being compliant and avoiding surprises come tax time. This guide explains what a 1099-K is, when you may get one and how thresholds work, as well as practical steps online merchants can take to reconcile records and file spotless tax returns.
What’s a 1099-K and why does it matter?
I'm not sure there is any other description, but it's a 1099-K which is an information return for payments received through third party payment networks and some electronic transaction processors. The slip covers total payment amounts for the calendar year and is issued to the seller as well as filed with Canada Revenue Agency. Although a 1099-K assists the taxman in matching reported revenue, it doesn’t necessarily translate to the amounts being taxable profit. Sellers have to calculate total income minus deductions for returns, shipping, cost of goods sold and reasonable business expenses.
Common situations that trigger reporting
Payment service providers must report where traders fulfil certain reporting criteria. These criteria are threshold limits established by the tax regulations and based on either (or both) transaction numbers or total dollar amount processed. And even if you use several different payment methods or accounts, a 1099-K may be sent for activity that exceeds those thresholds. Although your filing obligations aren’t altered when you receive a 1099-K, the fact that it goes to the tax man tells them someting about how much business you were doing.
Understanding the 1099-K threshold
The 1099-K thresholds are triggers that indicate when a payment processor is required to report a 1099-K, which can be based on the minimum number of payment transactions and/or minimum dollar total in a tax year.
You Should Receive a 1099-K From the Payment Processor if …
If your activity is at or above these amounts, then you will probably receive a 1099-K from the payment processor. As a result, the threshold is useful to sellers who may be able to predict if a form will be issued, and plan recordkeeping accordingly.
Gross receipts vs. taxable income
One thing to bear in mind if you're selling is that the 1099-K reports gross receipts, not profit net of your expenses. Those gross receipts encompass the total value of each transaction, before factoring any refunds, discounts, fees on transactions-- or the cost of goods sold. Deductible income is income which taxpayers can subtract from gross income in order to calculate their taxable income. Good bookkeeping helps to keep gross sales clear from refunds and adjustments, so that taxable income can be determined during preparation of tax returns.
Recordkeeping best practices
With accurate, thorough records, you’ll be better equipped to defend against discrepancies between your books and any 1099-K you receive. Keep a transaction log, which shows the date, each transaction ID, gross amount, fees assessed by the network(s), refunds granted and describes the business purpose of every sale. Be sure to save receipts, invoices and records of inventory purchases and shipping expenses. Match your monthly statements to your accounting software and bank records to catch problems quickly. If you receive payments at more than one location, combine all records so that your total gross receipts match the amounts reported on 1099-K forms.
Reconciling mismatches and disputed amounts
In some cases the totals on a 1099-K will not match your records because of timing differences, reporting aggregations, or transactions that are applied to different accounts. Begin by comparing your transaction log to the 1099-K summary and determine which dates, amounts are not correct. Examples: items for which a return was made after year end, transfers between accounts or transactions not of the entity. For any inconsistencies, you can either reach out to your payment processor for an explanation or find out if they will resend the form. If a corrected form is not supplied in time to make the above adjustment, include with your tax return a statement explaining the difference between what was reported on your return and what should have been reported, and attached evidence supporting your position.
Business vs. hobby and how reporting affects classification
The 1099-K can raise a red flag to active selling activity which could impact the way an activity is deemed either a business or hobby. Regular and systematized selling with profit objective and business-like recordkeeping tend to weigh in favor of classification as a business. If it’s a business, then ordinary and necessary expenses are deductible; if it’s a hobby, deductions might be limited. Maintain documentation to demonstrate a profit motive, as well as advertising, inventory management and the extent of efforts you took to make the activity succeed.
Estimated Taxes and tax Return prep
Sellers who anticipate owing some tax after all deductions should think about making estimated tax payments to head off underpayment penalties. Estimate taxable income and self-employment or other applicable tax on the basis of reconciled records. By keeping records that differentiate personal expenses from business expenditure, you’ll streamline deductions and lower your chances of audit. Report gross receipts when filing your tax return and attach any necessary statements to describe discrepancies with information returns you received.
Common mistakes to avoid
Consider and use the amount on 1099-Ks as final taxable income without making reductions. Always figure the bottom line with evidence.
Poor or inconsistent recordkeeping. Deductions are hard to substantiate because of lack of receipts or invoices.
Ignoring small discrepancies. “Little things turn into big things if you don’t jump on them.
Putting off replying to requests for information. Timely follow-ups and crystal clear documentation can go a long way if it’s the tax authority or a payment network that’s questioning your reporting.
Steps to stay compliant year-round
Log each transaction between sale and settlement including gross proceeds, fees and refunds. 2. Maintain records of inventory and cost to calculate your cost of goods sold correctly. 3. Check your monthly and year-end statements to catch mistakes early. 4. Make estimated tax payments if your projected tax liability goes up. 5. Seek out a tax professional if your situation is complicated or if you receive more than one information return.
When to seek professional help
If you get more than one 1099-K, have large discrepancies between the forms and your own records or are not sure how to categorize your activity, seek out a tax professional. Professional advisers can assist with resolving discrepancies, establish the proper tax position and advise on action you may wish to take to defend your position in a review. They can also assist in establishing bookkeeping procedures to minimize future reporting problems.
Final thoughts
Selling online and filing 1099-K reports is an ordinary practice, but should be given the appropriate consideration. Learn how thresholds and subsequent triggers for reporting work, maintain clean records, reconcile forms with your books, and calculate your taxable income carefully. By keeping good habits and acting on time, you can minimize your number of surprises, escape penalties and keep your selling activity on strong tax ground.