Is the free ride over for successful businesses?

problem with ruling it an investment is: stocks are an investment.

You don't pay on the stocks, you pay on sales of the stocks and dividends received from stocks.

Plus there is a big catch with all virtual currencies : a database screw up or company shutting down = all funds lost. Do they then allow for capital loss to be recorded on your taxes?

ya that was kind of what i was pointing at ..are they gonna hit us with investment income or income from a business..i don't see them taking lindens as payment in other words..because investment profit would be at the cashout and then you have to figure the profit at the selling rate compared to the rate bought..but then again lindens earned inworld would not be investment income because your rl money had not bought those..
your company would have earned those lol..

i'm ready for the challenge of taxes they want to bring because i am gonna use it to my advantage the best i can..
they would have to have something in world themselves to monitor us..and with all the alts and bots and every other way to be anything but your main i just don't see them having an easy time of it..

they are looking for a place to take a bite but it is gonna be a real tuff meat i think for them.. lol

companies trade stock at X value between themselves. Till the holding company sells those stocks they are not considered for corporate income, they are assets but not taxable

iirc from the way I was told by the firm accountants (had to help rewrite a excel sheet's macros)

So it's considered a stock trade vs a monetary trade till the lindens are cashed out.

And even cashing out into the my account page is iffy, since those amounts are still only virtual (they are like the chips at a casino, no real value outside of the casino). but once transferred from the LL systems to pay pal or another clearing house to your bank acocunt then it's real money. (so to speak)

ya i know what you mean..until it is actually liquidated i guess is what i should have said..because it not being in my actual account it is still in the playing field..kind of like a cushion time to reinvest it..once it reaches my bank it is a solid currency and taxable..not something floating on the net..the thing is i would have to show it was not income by showing money that went in to counter the profit..the way i would do that is by write offs or records of it's path.
it's not gonna be too hard to counter with expenses..i mean it's a virtual world with all kinds of expenses that they are never going to get a grip on lol

i just don't see how they are gonna be able to do this without breaking some rules..

Me too!

Not really. If you are talking about a SL business, tier would be an expense, pretty much netting to zero IF it were converted to U.S. dollars in the transaction (which isn't really the issue anyway - it is when you earn, not when you convert). More of an issue is if the IRS decides to use paying large tier as a marker for people earning income in SL and a reason to ask for records.

I'll quibble a bit on one comment on barter income - people that have used complete barter lifestyles as protests against taxation have been taxed on every aspect of the barter process, not just the part relevant to their business. OTOH, it is pretty much accurate when applied to the typical SL situation, where many businesses are nothing more than hobbies. Even that is taxable, but even the IRS has little interest in spending a dollar to get a dime.

I'm interested in who the IRS tries to make the reporting agent here. LL isn't really a payer in the normal sense of the word (they may dispense cash, but someone else pays for the goods or services). They have the records, but they aren't responsible currently for any 1099 items. They are not a bank, they are not a payer, they are basically a record keeper. The IRS has required record keepers to function as reporters in the past, and software certainly could do the conversions needed, but all L$ exchanges are not commercial. If I run eight or so sims and do it as a hobby, but take in enough rent to keep my expenses reasonable, in theory it is a hobby (no real profit motive, current or future), so expenses are not deductible. I think they would have to negotiate some recognition of this situation or we will lose some of the theme sims that are larger than one sim in size.

True businesses have a different way to account for investments held for investment and investments held for trade. If someone is an active trader in RL and has made a mark to market election, that would be interesting as well. This would be interesting as they peel back the layers...

The precedent is easy - when they went after barter income, they made the exchanges responsible for reporting transactions. Not my area, but I remember some merges and exhanges that got out of the business. LL is closest to being a barter exchange if it came to reporting IMO. Investments? I used the term, but in the back of my mind, I can see the IRS not treating anything in SL as an investment. Maybe a license payment. An expense then if you are a business, not if it is a hobby. Based on SL experience, probably amortized over one year, no more (i.e. not really amortized for all practical purposes). Your tier goes toward no more than a software related license. You have no claim on a server or anything physical or any legal entity. Which probably is good, as it makes it all an expense in the first year. Selling? Net it in the same year, all income if sold in another year unless you put it back in similar goods - I think. Problem is, what will the IRS decide selling one sim and buying another is if you do it as a hobby?

Nope. If you run it like a business, best keep records like a business, since that lets you make max deductions. If it is a hobby, cross your fingers. Like I said, I think the hobbyists that are paying high tier, but laying it off on renters may be exposed. No proof of a profit motive, but, well, maybe we'll see LL facilitate virtual co-ops in the near future...

i defiantly am going to take advantage of the business deductions for sure.i'm already doing taxes and accounting for my other two rl companies so it's not really anything i am a stranger to..
i've pretty much worked for others in most of my sl .so this year i'm looking forward to running my own..

the nice thing about this one is most of it is already organized paperwork..
just download transaction history once a month .keep track of anything in world and keep up with expenses ect..
it'll be a lot easier paper work than my rl paper work for sure

The data and the rights that it represent are two different things.

If you have an account with a bank or brokerage firm, they own the data, but you still own the value it represents. A better example might be that back in the good old, pre-computer days, if you owned stock in a company they would keep a book listing your name and shares along with all the other shareholders. The company was the owner of the physical book, but you still owned the shares represented in it, even if you burned your stock certificate.

LL has been very vague as to the legal status of your USD balance. Do they carry treat it as income with a corresponding liability on their books? Or as an asset they're holding in escrow? That is a consumer protection lawsuit waiting to happen. Does LL keep those assets segregated from their own? Or intermingled? I believe that LL is very vulnerable on this issue.


This just means that no one has actually brought them to court over this. Or perhaps LL has negotiated non-disclosure agreements in exchange for returning USD balances.

There are industries with specific rules about similar accounts, the most well-known being real estate agents and lawyers. It's common to give an attorney a retainer, which is a prepayment against future services. If you don't actually use those services, you're entitled to get that money back. Lawyers are required to keep those funds segregated from their own, in special escrow accounts

I don't know what common law or consumer protection laws say about accounts set up by merchants for customers. My suspicion is that they may be allowed to intermingle the funds. However, that doesn't mean you have no legal right to the return of those funds. California has a reputation for pretty good consumer protection laws. Whether your rights to those funds under consumer protection law constitutes ownership under tax law is yet another question; I wouldn't draw any conclusions about that without a thorough legal analysis. (IANAL applies)


You're depending on these terms being literally enforceable. We've already seen once case where a provision in the TOS was ruled unenforceable.

I agree with you, but not for the same reason. I don't think LL's own wording is that significant. A better reason is that it's on the record that the IRS hasn't issued any guidance, and therefore they'd have a hard time finding any criminal intent in any reasonable reporting decisions by individuals. The one exception might be if someone had a clear pattern of trying to postpone taxes on significant income - say if you allowed many thousands of US dollars worth of income to accumulate as L$ for several years, without ever cashing out anything.

Hobby income in the US is taxable. There is no doubt about this. See Chapter 12, page 89, of the 2008 Publication 17, where it says

The difference between the two that you get more deductions for running a business and can even take a loss, but you also have to pay self-employment tax on business income. Hobbies have no self-employment tax, and you may be able to take some deductions, but they are limited.

"Is the free ride over for successful businesses? "

No!

The difference between investment income versus business income has to do with how it was earned, and is largely separate from the question of when the transaction occurred.

If I'd bought a large quantity of L$ on 1/1/2008 and sold them all on 12/31/2008, that would be investment income. The profit came about because of the increase in value of the L$, and not because of any of my own efforts. It would be treated as short-term capital gain.

If, on the other hand, I applied my own skills to build a scripted object which I sold in-world, making lots of L$ in the process, that would be business income. The income came about because of my own labor, and I'd owe self-employment tax if the business showed a profit after deducting expenses.

So here's a question...I've always taken standard deductions and not itemized. Since marrying this year, however, hubby and I have taken some money from our SL business via cashing out Lindens. I am assuming that I now need to claim that income and pay taxes. So can we itemize and take deductions for computers, pay ourselves for time put in, etc. to offset the self-employment tax? And is there any chance that we can find enough deductions to equal the standard deductions considering we have two children to claim as well?? I am sooooo confused and hate the thought that we'll end up at some H & R Block that has NO CLUE how to handle SL stuff.

Personally I'm not too worried about SL taxes at the moment, though the idea OF it pisses me off. The percentage of people actually making more than a negligible profit in SL is quite small really, so I have to just shake my head that they would even consider some kind of new tax related to it.
/me thinks those wasteful, greedy government types need to keep their hands off the interwebz.

Approximately how much did you take out? Are you really running it as a business, or does it feel more like a hobby to you?

As for paying yourselves for your time, that doesn't fly. Unless you're incorporated, moving money out of the business account into your personal account doesn't change things.

H&R Block used to have a presence in SL, but I don't think they're doing that this year. They do have a presence on MySpace, FaceBook, and Twitter. Check out digits.hrblock.com, or sign up for twitter and send them a tweet.

Nothing about this discussion has anything to do with new taxes. People making a negligible profit really have nothing to worry about.

It's entirely about how people who are making real profits should be doing the accounting and reporting of those profits and paying their fair share of taxes under existing law.

If it is a business, you file a C and it has no impact on how you take personal deductions. What you deduct is an issue and generally a business in SL should focus on things like tier. The real issue with business use of a computer is that you need a way to account for what is business and what is pleasure, especially time spent in SL. Which means, probably, keeping a log. Which is a pain, but otherwise the expense will be removed in an audit by any second tier IRS auditor. The simpler way is to have two computers and claim one as business, one as pleasure. I've never had the IRS really fight that. I have a business computer and business server in my office completely separate from the PCs and laptop downstairs.

And income will be due when it is earned. I am willing to bet $ 100 of my own money that all the investment arguments will not hold up even for an instance. The IRS will ask three basic questions. Is this a hobby (determines the extent of expenses deducted, not whether or not you have to pay taxes on the items), was income earned and when, and could the money be converted to USD at the point. If LL decides to impound your money for some TOS infraction, that is between you and LL, and the IRS doesn't give a hoot one way or the other. If LL impounds your money for an issue related to your business, then you can take it to the IRS as an argument for relief, but it will be an after the fact argument.

People, the IRS doesn't treat this stuff like Perry Mason. They apply the parallels, they make the assessment, they ask LL for contact information and they send the notices with most of it handled by computer. They round all questionable areas up in the IRS's favor. You will not be given the opportunity to argue esoteric points of view about income in SL. You will get a notice (ugly things, too, like from the 80s) with a nice return envelope and it will say pay this by the due date or call the number in the upper right hand corner and have your case number ready (plan to be on hold for as much as an hour or longer). Arguing this, assuming that you don't employ a controller, will require you show up and defend yourself (and most of you are not ready to do that) or employ a enrolled agent (maybe $ 100/hour), a CPA (maybe $ 150/hour) or a tax attorney (sky's the limit) to represent you. How many of you have tax issues that warrant, say, a minimum of $ 1000 in fees and you probably won't win anything but a reduction in penalty if you say you'll follow all the rules in the future (and if you don't, you get another notice for the abated penalties)?

For crying out loud, if you are in the U.S. and actually earning money in SL, record it on a spread sheet (better yet, print out transactions and keep them), on a regular cycle, say Fridays at 8:00 am, take the exchange rate and drop it in (reasonable methodology will not be argued by the IRS) and convert it and your expenses. Putting it a Sched C will take all of 15 minutes and you pay on the net, if any (plus, as indicated by someone else, self employment). Show that you run it like a business and you can even take losses on regular occasions. What's the problem?

Change the "new tax" I posted to "new tax guidelines" because I brainfarted, but the point is still valid. They've recommended new guidelines because "more than 16 million people are said to have active subscriptions in these worlds". I was raising the point that I'm not sure they see past the numbers hype and realize how few of you "real profit makers" there really are, and if they knew that, I suspect it wouldn't have been chosen over other things for the top ten recommendations spot it got. That is all.

*chuckles*

My "hard earned" Lindens get spent on Tier, not being cashed out.

What IS cashed out falls well below what my state considers "taxable income". $600 or more is taxable. Already checked.

SO- anything considered a 'money making hobby' that comes under $600/month is a non-taxable hobby for me

From the report:



The report doesn't really suggest to the IRS that they should start taxing virtual worlds. It gives various reasons why it should be taxed and why it shouldn't be taxed and it says that the IRS has simply not given ANY guidelines to follow and that it leads to confusion for everyone involved. The IRS response to this report was, "yeah we made a committee to study it."

The last time I had to do this, I got through in a few minutes, though it was a Sch. D issue, not a Sch. C. I even got someone who understood exactly what the problem was and fixed it. (The IRS had misunderstood an amendment.)


FWIW, a certain well-known tax company charges much less than that for their enrolled agent services, even if they didn't prepare your taxes. I don't know if that applies if you actually have to take an issue to court, but for an appearance before an auditor, it's very reasonable. (The reason, as near as I can figure, is that it's very difficult for an EA to make a go of it on their own.)

Excellent post, by the way.

State as in US state? As far as the IRS is concerned, $600 is the limit that triggers 1099-MISC reporting requirements, but $0.50 is the limit that triggers whether it's taxable. That doesn't mean the IRS is going to come after you, especially for such a tiny amount, but technically it is taxable hobby income.

Actually- I DARE them!!

Time in Jail means NO BILLS PAID!!! And the Tax payers pick up MY tab!!!

Considering I dont make a living off of SL, nor care to, I have very VERY little to worry about.

Imagine-the government actually wants us all to pay tax. The woman who cleans the toilets in my office building receives wages, has money taken out, and then pays sales tax when she buys diapers for her baby.

So I have absolutely no sympathy for those who think that they can avoid taxes. If you receive L$ for work you do or things you design and sell in SL, that is income. If you cash out, or if you spend in-world on things not related to your business (things for your entertainment), then you owe tax.

If it is too small amount for the IRS to know about it, it is still your responsibility to report it on your tax return even if you could get by without reporting it. If you fail to report it, you are a crook.

I'll do that the day I get the letter from the Goverment.

If you're keen on paying MORE taxes for an already broken goverment, good for you.

Crook or not, my state goverment states- Anything under $600 is NOT taxable if its a hobby.