Paypal to Report User Earnings to the IRS: What it Means for Your Business

Do you use Paypal to accept funds? Do you live in the United States or otherwise have to pay taxes to the U.S. government? Then you should be aware of upcoming changes for Paypal and other payment processors resulting from the 2008 law IRS 6050W. In short, Paypal and those other processors might start tracking and reporting your income to the Internal Revenue Service (IRS).

Not every Paypal user will be affected, and the first reports to the IRS will happen in early 2012 (covering your 2011 income). Here’s some background on the 2008 law leading to these changes and what they might mean for you and your business.

Who will the New Rules Affect?


Paypal will report your earnings to the IRS if you meet both of the following requirements:

  1. You receive $20,000 or more during the year (gross payments, not net).
  2. You process at least 200 transactions.

This would affect any users in the U.S. or those with businesses registered in the U.S. It would also include those living overseas if they’re still U.S. citizens and required to report their earnings.

What if you have multiple Paypal accounts and they meet the requirements when combined, but not when counted separately? Paypal will still report your income to the IRS. So don’t think that using multiple accounts will get you around the reporting requirements.

Who will not be Affected by the New Rules?


If you are a citizen of another country and have absolutely no ties to the U.S. tax system, you shouldn’t be affected by the reporting change.

Also, if you only meet one of the two requirements listed above, you will not be affected.

Why is Information Reported Using a Form 1099?


The 1099 form series from the IRS is used to report income earned as an independent contractor or in other miscellaneous non-wage ways. Paypal will use 1099 forms to report income received through their system if you meet the requirements.

IRS 1099-k
IRS Form 1099-k Draft

What Should You do if the New Rules Apply to You or Your Business?


Start by reviewing the current year’s transactions to see if you meet the requirements. If you do, you’ll be asked to submit your identification number to Paypal for reporting purposes — your social security number (SSN), employer identification number (EIN), or taxpayer identification number (TIN).

Don’t assume you can get around the reporting requirements by switching to a different payment processor. The law doesn’t only apply to Paypal. Any payment processor you use will be required to report your earnings if you meet the requirements.

If you use a personal or premiere account with Paypal, you might also be required to upgrade to a business account if you meet the requirements. The account change is free.

What are the Consequences if You Fail to Act?


If you don’t give Paypal the requested identification number, your Paypal account might be limited until you do. If you use other payment processors, check with them to find out how long you have to comply and what will happen if you don’t.

What Issues Might You Run Into?


I’ll be affected by this change, and there are a couple of issues that come to mind — ones I haven’t seen adequately addressed elsewhere. Here’s some background so you’re aware of them as well.

  1. Business income and personal transactions are not separated in this payment processor reporting. And since all accounts are lumped together that could result in non-taxable money from personal transactions being reported as income.
  2. Every client in the U.S. who pays an independent contractor $600 or more is required to submit a 1099 for that income. If those clients process payments through Paypal and the contractor meets reporting requirements, Paypal will also report that money as income. In other words, the same income will be reported on two different 1099 forms. With double-reported income, that might make it appear a freelancer is earning significantly more than they actually are (and that they owe taxes on more income than they actually make).

Find out today if the new rules might apply to you. Visit Paypal’s reports page (like the one below — my personal earnings information was blocked out) and review your monthly sales reports. There you can find out how much you’re earning in 2010, and how many sales transactions you process each month.

paypal reports
Paypal Reports Page

In the end, you were always required to report your income, 1099 or not. So it shouldn’t affect you too greatly. But if you’re concerned about the potential reporting issues mentioned above, it’s strongly suggested that you speak to a financial services, legal, or tax professional for more personal advice.

If you’d like a preview of the new 1099 form that will be used, you can visit the IRS website to view a draft of the 1099-k.

Disclaimer: Information in this article is for educational purposes only, and neither the author nor the website’s owner may be held responsible for any real or perceived damage caused by, or allegedly caused by, the information contained in this article. The author is not engaged in offering legal, financial, or other professional services or advice. If further information or more individual information is needed, it is suggested that the reader consult with a qualified tax professional.

image via:

Written by
Jennifer Mattern