Investor’s column: When it comes to gambling with an IRA audit, don’t bet on winning

“The hardest thing in the world to understand is income taxes,” said the late physicist Albert Einstein.

Einstein would have gone crazy trying to understand that the IRS expects you to report the “full” amount of gambling winnings as “Other Income,” on line 21 of Form 1040, and that you must claim your allowable gambling losses separately.

Millions with gambling income are unaware that the IRS doesn’t allow reducing, or netting, gambling winnings by gambling losses and just reporting the difference.

These people likely owe the IRS back taxes, interest and penalties.

Gambling losses, up to your winnings, must be claimed as an itemized deduction on Schedule A, under “Other Miscellaneous Deductions.” The problem is that without netting, more than 65 percent of taxpayers who don’t itemize their deductions and can’t deduct gambling losses pay more tax on gross winnings than they won.

Also, gambling losses can’t be carry-forwarded to offset winnings in another year.

The IRS takes a hard line on gambling income. In an audit, agents will not believe you lost all your winnings without sufficient documentation.

In McClanahan vs. the U.S., the IRS wouldn’t allow offsetting loses against $50,000 in blackjack winnings, even though unsubstantiated — and likely — gambling losses exceed that figure.

You must have adequate documentation to prove your losses. Keep losing tickets, ATM receipts, canceled checks and bank withdrawal statements. Also keep credit slips.

Proper record-keeping requires a date, type of wager or gambling activity, name of casino or gambling establishment, address of the gambling business, and list the people present with you.

Most importantly, include amounts won or lost. If possible, keep supplemental hotel bills, airline tickets and gas cards as proof they weren’t part of ATM gambling funds.

The IRS consistently refuses to recognize or consider most ATM receipts as credible. The ATM receipt for cash could have been used to buy nondeductible things such as restaurant meals, spa treatments and shows. So enter all ATM funds received to fund gambling sessions, as additional evidence, for your gambling diary.

A player’s reward cards are frowned on by IRS, too. The reward card is often a shaky way to prove gambling losses because other gamblers may have used the card. Your gaming diary should identify who you were with and that you were the only one using the card.

Documents and win-loss reports support and give credibility to your gambling log. So use your journal to substantiate the player’s card if you can’t prove using the reward card every time you gambled.

Be careful, in any case. Many statements, unfortunately, don’t provide substantive evidence because they use estimates.

Slot machines are allowed a modified netting, however. Let’s consider what happens if you insert $50 into slots for $500 in winning spins and $350 in losing turns. When withdrawing $200 from the machine, you can subtract your first bank of $50 and report $150 in gambling income.

The issue occurs when you physically withdraw the money. Slot machines are generally allowed netting even if you get up and switch slot machines for a meal, bathroom break or napping.

However, poker doesn’t allow netting, so, for example, include $2,000 as winning and then $600 as an itemized deduction.

Also know:

• The IRS taxes your worldwide income, even winnings from a cruise ship in international waters.
  
  
• Comps for free rooms, free airfare, free food and drinks that a casino give you to gamble at their establishment are taxable, too. They are usually considered earnings.
  
  
• Just listing W-2G income isn’t accurate because there is income won that doesn’t show up on a W-2G. The big wins only are reported on a W-2G. Separate all winnings from losses. Show both amounts on the tax return.
  
  
• The payer must give you a W-2G if you receive a certain amount of gambling wins or if you have any wins subject to federal tax withholding.
  
  
• Fantasy sports and wagering in office pools is taxable.
  
  
• Gambling income is usually taxable even if you are below limits to receive a W-2G. Just because you don’t get a W-2G (Certain Gambling Winnings statement), it doesn’t mean that you don’t have to report your other gambling winnings.
  
  

Here are some tips on documents needed to support your gambling wins and losses:

Slots: Record all wins by date and time. Include slot machine number. Slot clubs can often print a record of all your annual transactions.

Table games: Include casino credit card data and number of the wagering table.

Bingo: Keep track of all played games. Record cost of the bingo sheets you purchased and the amounts you won.

Racing: Log races, entries, wager amounts, amounts collected from winning, and amount of loss on tickets.

Lotteries: Record purchase date of tickets. List winnings and losses. Keep unredeemed tickets, slips for payments, and statements of wins for proof.

Jim Germer is a CPA and financial adviser at Cetera Financial Specialists, LLC, member FINRA/SIPC, located at 100 Third Ave. W., Suite 130, in Bradenton. Call (941) 746-5600or email jim.germer@ceterafs.com.