Professional sellers who exceed $20,000 in sales or 200 transactions in one calendar year are familiar with Form 1099-K. Many people who aren’t too familiar with Form 1099-K are those that sell as a hobby or only have a small number of transactions in a calendar year. In 2023, many sellers may be surprised to see a new form from their transaction platform, Form 1099-K.
If you sell online and are unsure of what form 1099-K is, It’s time to find out before it gets too difficult to track your online transactions. Luckily, it won’t adjust too much of your workflow. All you may need to do is ramp up your recordkeeping; this may not even cause a change for many.
- What Form 1099-K is
- Who receives Form 1099-K
- How to report Form 1099-K properly
- Cautions to consider when submitting Form 1099-K
- Form 1099-K vs 1099-MISC
What Is Form 1099-K?
According to the IRS, Form 1099-K is for “Payment Card and Third-Party Network Transactions” [used] to improve voluntary tax compliance.” Sellers receive Form 1099-K by January 31 if they hit the sales threshold.
Form 1099-K calculates your gross sales of all reportable transactions through a card payment terminal or third-party network, such as PayPal. This means any transaction on a card or third-party network is stored in a database. Once the year closes, your sales are combined and Form 1099-K is generated. All sellers also want to keep track of cash payments since these aren’t taken into account.
If you sell on eBay, Mercari, Amazon, Shopify, or Etsy or utilize services like Venmo, you may have been eligible to receive Form 1099-K. With the recent changes to the tax law, all sellers on these platforms will receive Form 1099-K. Since this form is for federal use, you don’t have to submit this on your local tax return. You only need to file it with the IRS.
If you’re just starting to sell or looking for a new platform, look at our list of the best e-commerce platforms.
Note: Your state government may have access to the Form 1099-K database with the IRS. They may use this to audit sellers to ensure that proper sales tax is being paid to the state government.
Who Receives Form 1099-K
Many filers may be surprised to receive Form 1099-K in 2023. That’s due to a recent change in the tax laws, signed on March 11, 2021, as part of the American Rescue Plan, which lowered the threshold for receiving Form 1099-K from various selling platforms.
If you receive gross payments that exceed $600, you’ll get a 1099-K. That’s much lower than the previous threshold of gross payments exceeding $20,000 or 200 items. The new law has drastically changed this making any seller eligible for reporting taxes. This is an attempt to help close the $1 trillion in taxes that go uncollected yearly.
Previous year thresholds didn’t exempt sellers from reporting their revenue to the IRS. Sellers who haven’t received Form 1099-K in the past should have reported their earnings to the IRS. Despite this, many sellers in the previous years neglected to report earnings to the IRS.
How To Report Form 1099-K in Your Online Business Taxes
Form 1099-K isn’t a form that’s submitted to the IRS with your traditional tax return. It’s an informative document that informs you of the previous year’s transactions.
Form 1099-K should be utilized to “double-check” your income. From there, you report your earnings on Schedule C if in a sole proprietorship or as a part of your company’s gross revenue and income if in a partnership or corporation.
While you won’t need to submit your 1099-K to the IRS, you pay taxes on the amount shown in gross sales. It’s important to implement the following best practices to make sure you aren’t overpaying in taxes as gross sales don’t account for some deductions.
To verify that your gross revenue is accurate, review the following factors.
1. Check Sales and Receipts
The gross revenue may be underreported or overreported on Form 1099-K. If you share a business with a spouse under the same PayPal account, you may want to separate your transactions by opening a new account.
You also want to add up your receipts to check that the listed amount is the amount sold. It’s important to verify that the gross sales add up with your total sales before the cost of goods sold (COGS).
If your total doesn’t add up with your gross sales on Form 1099-K, review all the information and ensure your documentation is 100% accurate. If there’s still a discrepancy, contact the Payment Settlement Entity (PSE) listed on Form 1099-K. Keep your interactions with the PSE on file with your corrected Form 1099-K.
2. Review Internal Accounting Systems
If you have an internal accounting system set up with QuickBooks (or even a Google Sheet if this is a hobby), you also want to double-check your sales on this platform. This step is a repeat of step 1 but may help you uncover some missed errors.
If you find errors in your internal account system, review when those errors occurred. Did your system fail for a day? Forgot to add a sales transaction to your spreadsheet? Now is the time to add any missed transactions to get your gross sales to match.
Include your sales tax on this step, as sales tax is included in gross sales. There’s also great sales tax compliance software to consider if you sell in large volumes.
3. Add in Cash Transactions
Many businesses may think cash is ideal since they believe it can be hidden from the IRS. Despite this belief, those caught by the IRS are guilty of fraud. So, if you deposit large sums of cash into a bank account, or do large cash deals, report all of your earnings to the IRS, as the chances are it already knows about it.
Cash transactions aren’t included in your Form 1099-K. This may mean gross sales are more than what has been reported to the IRS. If this is the case, review your accounting system carefully.
You don’t want to overpay if an error has occurred. However, when accounting for cash transactions, you may have higher gross sales than reported.
4. Review Your Deductions
The most important step in your Form 1099-K review process is your deductions. Since Form 1099-K reports gross sales, it doesn’t consider any of your business deductions. Gather your information to prepare a simple profit and loss (P&L) statement.
Deduct Your COGS
Be sure to deduct your COGS. Your items cost you something to buy, so deduct this from your gross sales. If you paid $20 for an item that sold for $30, you only made a $10 profit. The $10 profit is all that is taxable.
Consider Your Losses
Also, consider a loss on an item when selling any items you purchase or find lying around the house. For instance, if you sell a video game for $40 and paid $60, no profit is made.
In most instances, this won’t be considered taxable income but is reported as gross sales on your Form 1099-K. Keeping track of your receipts is important as you may not have income if you sold all items at a loss.
Account For Returns
Returns aren’t considered on Form 1099-K. If a buyer returned an item to you, this won’t be deducted from the form you receive in the mail. This must be accounted for manually and subtracted from your gross sales.
Moreover, if a refund occurs without the buyer returning the item, remove this amount from Form 1099-K as well. Return shipping would also need to be deducted if paid by the seller.
Deduct Shipping Expenses
Shipping can also appear on Form 1099-K if your e-commerce platform doesn’t take out your shipping payment. For instance, if you charge $3.99 for shipping on eBay, the payment from your seller is considered “gross sales,” which includes shipping.
Deduct this from your 1099-K. If you’re purchasing shipping for $3.75, 24 cents is considered income and isn’t deductible. Only deduct the amount spent on shipping.
Account For Cashback
If you own a storefront and provide cashback, account for this as it is added to Form 1099-K. Cashback isn’t taxable by the IRS but appears as a “payment” to your business. Review all transactions and deduct all cashback amounts from your Form 1099-K balance.
Don’t Forget Sales Tax
Lastly, sales tax is also included on Form 1099-K as a part of your gross sales. Keep track of the sales tax collected by your business. That way, you can ensure proper payment to the federal and state government.
If you don’t account for sales tax, you might be overpaying for your taxes owed. You also want to verify that the sales tax is set up depending on your state. Check with your e-commerce platform so that you don’t owe your state taxes at the end of the year.
Cautions About Using Form 1099-K
There are two items to be cautious about when reviewing Form 1099-K. The first is a letter from the IRS for any discrepancies. The second is if a state decides to investigate 1099-Ks to review state tax accuracy.
Ensure You Do Not Underreport
If you underreport what Form 1099-K states as your gross sales, you may receive an investigation letter from the IRS. This letter asks for proof of your deductions, requiring receipts of purchases, returns, cashback payments, and so on.
This isn’t a huge concern as long as you can provide the proper documentation to the IRS. Report your 1099-K as accurately as possible and keep all of your relevant information in a safe and accessible place. Consider uploading your receipts online as well.
Since the IRS shares taxpayer information with federal, state, and local governments, make sure all of your reported income is 100% accurate. Failing to report the correct gross sales may cause an investigation at the state level for failure to pay sales tax.
If you underreport your gross sales to the state, you may end up owing the state sales tax that should have been collected.
What To Do Next
Sellers, business owners, and dropshippers shouldn’t panic and stop selling but should start becoming prepared. Many of you’re starting to hear about the Form 1099-K changes that went into effect in 2021, but there’s no need to worry.
Be smart about your bookkeeping, keep receipts, track returns, and your COGS. As a business owner, you should have established systems for this in place. If you sell as a hobby, create a simple spreadsheet on your favorite platform to track your sales.
Set aside some of your profit for tax purposes and consider consulting a tax professional to learn more about what you owe, your tax rate, and your options. While these changes aren’t the most ideal for many smaller shops, larger e-commerce sellers have had to experience 1099-Ks for years.
With some adjustments, you should be able to adapt fast. You may also experience less competition due to the higher barrier of entry to online selling.
Frequently Asked Questions About Form 1099-K
Does Form 1099-K include merchant fees?
Form 1099-K doesn’t account for merchant fees. Your reported gross sales are for the total amount of goods sold. This includes taxes, collected shipping, item cost, and any other money collected. Merchant fees, such as the fee to sell on eBay, are deducted from your gross sales by you on your tax return in Section C.
Do you get a 1099-K from Shopify?
As a seller on Shopify, you receive Form 1099-K, and the IRS receives a copy if you meet the $600/any transactions threshold. When you receive this form, you need to fill out Section C. “The Form 1099-K is processed through Shopify Payments” and is calculated based on gross sales, not accounting for taxes, fees, shipping, and more. To learn more, check out the Tax Reporting section of Shopify’s Help Database.
Does eBay’s 1099-K include sales tax?
eBay doesn’t deduct your fees and sales tax from your 1099-K. It’s important to review your sales on eBay to account for the sales tax and fees collected. While eBay holds the tax, it’s still calculated as a part of your gross sales on Form 1099-K.
Does PayPal’s 1099-K include sales tax?
PayPal collects sales tax if you have toggled the setting on in your account. If you’re actively collecting sales tax on PayPal, your 1099-K includes all taxes collected. Depending on your state, you may owe sales tax if you didn’t have the feature toggled. Consult with a tax professional for additional questions regarding local sales tax laws.
What is the difference between Form 1099-K and 1099-MISC?
1099-K and 1099-MISC are different forms you may encounter during your tax year. 1099-K is a form that records “Payment Card and Third Party Network Transactions.” Think PayPal, Square, and any other way you can accept credit cards, debit cards, or digital transactions.
If you make over $600 on any platform, you’re sent a 1099-K. You need to review your gross sales, deduct COGS, taxes, fees, and returns to determine how much you owe. This is submitted on Section C of your tax return.
1099-MISC is a form that’s produced if you earn more than $600 for freelance work in a year. Businesses must send a 1099-MISC to any freelance worker that charges more than $600 or more for their services. For instance, if you renovate a breakroom for $3,000, a 1099-MISC is sent to you from the customer’s business. If you provide services for an individual, such as painting a home, the individual won’t send you a 1099-MISC. Instead, this is reported by your business as income.
Note: The information in this article shouldn’t be taken as financial or tax advice. Consult with a financial planner or tax professional for further assistance.