SL income and US taxes

Second Life is generally a fool's errand, in terms of income per hours invested. Think: hobby, not job, not business.

If taxes (and therefore, expenses) apply, it would be a tax writeoff expense goldmine for just about all of us!




So sure, tax Jimmy and Tommy for what they did while cooped up during their summer vacation.

Let's really think about this.

If they make virtual tee shirts and jeans in Teen Second Life for more than 20 hours a week, do they violate child labour laws? Were they 'underpaid'?


There are plenty of scenarios where 'taxable gaming' prior to real cashout is beyond ridiculous.

The fact that nobody dares to describe a defining line is very telling as to how commonly, utterly ridiculous and irrefutable it is.

Nope, you can't claim expenses on hobby income. To claim expenses you have to file a Schedule C and make a profit for 3 out of 5 years.

Well, and it was a nice attempt, and Ricky was really on target with the attack on my argument. The fact that a gold nugget was the example and not a gold coin is sort of beside the point there - I had made an inapt analogy in the general sense, and Ricky quite correctly attempted to skewer it, the fundamental flaws in the logic of the attempt to tax intrinsically valueless game points not withstanding.

Ok, let's do it your way.

Sell something basic and trivial, make a minimal profit (what, 20 USD maybe?) for 3 years running, and file. Heh, you could make a basic SL gun or house, toss it on SLExchange and there ya go.

Then invest in land, and record the tier and hours you spent. What a writeoff!

It makes no sense to be taxing people for inefficient 'businesses' they do just because it's "fun" - the IRS would lose almost every time in a big way.

That rule changed sometime in the early 80's as I remember. I had been having a terrible few years, and wound up on the short end of the stick as a contractor, owing back taxes because the IRS had back-voided my deductions! This was also around the same time Bill Gates and Microsoft had been lobbying Congress to change the tax laws so that you have to work for more than one client over the course of a year to be considered a contractor, otherwise your deductions are void and you are taxed as what they call a "statutory employee". This was a move to force contractors to become employees of Microsoft, whereupon they could pay them a much lower rate than they were paying their contractors previously. Microsoft had as deep pockets then as they do now, so they could bend reality to their will. Unfortunately, people in completely unrelated businesses paid the price for this.

Let's consider bartered online services.

Are the players of Yahoo Games to be taxed for providing bartered entertainment services to each other?

For that is exactly what people are doing - entertaining each other. Time to call the IRS because you bartered your chessplaying skills for personal entertainment once a day?



If the Second Life grid didn't use $L, would bartered services still occur? Yeap.

If Second Life was a two player only, handheld game in the back of mom's station wagon, would bartered services still occur? Sure would.

You can barter services playing Monopoly too. Remember, players can make any deal they want between themselves. Should we call the IRS?

What if Monopoly went online? And used a currency called $M? And people started to pay real money for $M to 'win'? Taxable yet? If so, just where and when?




Somewhere, the idea of paying taxes on virtual stuff can and *will* border on the ridiculous. Then cross that border, and keep driving for hours.

The clear line in the sand is when people cash out or spend hard currency.

I'd sure like to hear what anyone else decided was taxable or not, in a virtual environment. It would be fun. ^^

It isn't my way, it is how the IRS has written it's rules. If I had my way, the income and payroll taxes would be sent to the pits of hell where they belong.

From how I understand it, L dollars aren't taxable. People seem to be getting real and virtual money confused.

Depending on what country your from, being that tax laws differ depending on which country you are from, in the United States the only thing they can tax is income which you get your hands on in real life.

The kicker is that the government takes almost 50%. And if a law goes into effect where the dollars we make on Second Life is captalizing being that it's virtual money being transferred into real money, we may not be able to make a dime off of it.

Taxes only count real money going into your pocket in the United States. Nothing else.

However, the bright side is that if SL sends W2 forms with each check and witholds taxes out of what we make in the game that gets transferred to real cash, we won't have to pay at the end of each year for it.

The bottom line, don't read some forums to find your answer. Talk to an accountant. Getting dinged for tax evasion is not fun.

What in the world gave you that idea?

It's too bad SeaLand burned. An opportunity lost, and all.

So, um....other than "Take three hours to carefully explain what Secondlife is to your CPA, skirting the issue of just HOW you made your money for as long as possible, and then hope for the best" or "Just declare as income, or for you advanced users out ther,e figure out what you invested and try to claim this as a business and hope for the best"....what do we DO?

Not 100% true as Bartered Goods and services count as Income Taxable at the Dollar Value of the Goods, but your whole point is essentially true.

Revenue Canada (The only one i have Direct experience with) Currently treats things like Linden Dollars in a similar Fashin as Stocks. Something that has a Fluid Value, and the Tax Rate can Legally Only be determined on them Once they have a Concrete Vale assigned. That being at the point of Conversion From the Fluid to the Conctrete, or in Proper terms, Conversion from Linden Dollars to REAL (Canadian) dollars.
The Reason for this is Revenue Canada Can look at Lindens, and assess thier Taxes based upon the Linden being (Ball park) 280 per Dollar. The Taxpayer can Easily Challenge this assessment siting the LOWEST (230 L Per Dollar?) rate of Linden exchange. The problem is it is simply Too Difficult for Revenue Canada to Monitor Transactions as NO receipts are Issued. There Is a Transaction record, but it is Imprecise.

Another Issue.
Educational Costs are tax deductable. If i Pay someone in Linden Dollars for Teaching me Building, CAN i deduct the Cost of the course from the Total Taxable Linden Income? What about Other SL equivelants of RL expenses? They would ALL have to be examined researched, Defined, and Allowed or disallowed, THEN they would have to Survive Legal Challenge by Taxpayers Demanding that certain SL expenses Need to be deductable.

Treating In Game Transactions after the same Fashion as Real ones would simply be Far too problematic for ANY taxation Branch to Attempt. The Legal Challenges, and Defenitions of Allowable Deductions alone could take Years, and Millions of REAL dollars to Hash out. ANY Rational entity, OR any Taxation Branch, would be Looking for the Greatest return on the Smallest Outlay. Using the existing laws, and treating SL Income in the same Fashion as a Stock Dividend, or Cash out Fits that description Perfectly. And again, If you Lost Money on the Deal. If your Cash converted to SL assets (Tier payments for the Year, and Cash Purchases of Lindens) for the year Outweigh the Lindens Converted Into Cash. then the Difference would become a Valid (Nonrefundable) deduction, In the same way Investment Losses in the Stock market can be deductable from your Total Yearly Income.

On top of ALL this mess remember that probably fewer than 5% of SL residents profit in a Year by more than a Few Dozen Dollars, i Don't think you are going to see any Taxation Branch Clamoring to waste time resources, and Money to attempt to recover those dollars at the risk of Providing a Valid Internet Videogame based Tax Deduction to the Rest of the Players.

Once you Start, the question "Where does one Stop?" becomes Very expensive to Answer.

Angel.

PS;
If one of our neighbors in the Camen Islands Purchases a Sim, and Opens a Bank on it, and we stored our money there would that count as an Off shore account?
A.

It's very simple, really. You will have receipts for your cash-out transactions, and that's what you're taxed on anyway. There's no guesswork involved at all, and whether you made the money by playing an online game or trading bubblegum cards has no bearing at all, other than what line on your tax form you might be entering the number on. All that matters is when, and how much, you were paid in real currency. The rest of it doesn't even enter into it, so you're completely safe from taxation of your game points.

You still, however, have to pay taxes on your USD...

I will admit to being ignorant of the laws in the US as regards barter and all that I have read here... however, I read an article very recently that stated that the US gov't is "looking into" how they might go about taxing gaming monies made online. So far they have not figured out how to do it. Your lindens are not taxable until they are exchanged into a valid currency. This was all according to the article I read. Once you exchange it it then becomes "Other income". As far as other countries go, I have no idea what their laws are. But if you "cash out" your lindens here in the states it comes under "other income" and you must report it.

Digi

all these lovely examples... anyone can argue the point all they want, but as of yet there are no laws to specifically govern this issue as of yet. for those of you arguing that lindens are in fact income. i disagree. if i were to play say... zelda on the WII and i made x amount of coins and gems as per some of these examples, i would then be required to pay "income" on them. afterall, what's the difference between playing zelda on wii and playing secondlife online? i'm going to consult my dad's tax accountant and see what he says, then I will post whatever he tells me.

Digi

So, then, to bring it from the level of the learned CPA to the hapless schmuck who has to file taxes soon... let's say, entirely hypothetically, that you won and lost money in SL casinos. I assume the winnings would be proven by withdrawls through PayPal. How do you go about proving the losses? (I'm guessing through bank/PayPal receipts, no?) How do you report it? How far are you sticking out your neck in doing so? And if you do, and it catches the IRS' attention, what does that mean for the casino operator? Are you setting them up for a potential fall. Just, you know, *entirely* hypothetically. Yeah yeah, I know, previous threads and all that, but now it's do or die time.

Personally I think the many posts made here are overly complicating the situation. I run many businesses both in RL and SL. If taxation was to enter SL (doubtful) it would prove an impossible task for the simple reasoning of transcation reporting, without a radical overhaul of the current system to meet the varying taxation standards throughout the world. The most comon sense method would be as it is in RL. You prove your expenditure for monies paid into the 'game' (maybe via your paypal account) against monies withdrawn from that 'investment'. A balance sheet would show whether you have made any form of profit which would attract taxation as earnt income. The only potential variation to that, would be in the form of such taxes as VAT (for us Europeans) and potentially (depending on the conversion of the profits, if used to purchase goods abroad) whether it would also attract export/import duties.

My belief is, the taxation element is secondary to potential money laundrying. Taxation laws are used to make people prove that they are not involved with this activity and is the vehicle to bring people to justice. If you run your business in SL in much the same way your would run a business in RL, then you have no real worries. I made an earlier post regarding how we run our companies in SL, feel free to copy/adapt it.

I'm a tax geek and I'm really enjoying all this brainstorming. That's really what it is at this point. As I've said over and over, there is no "right" answer at this point. It's all about which "best guess" you're going to adopt.

The only idea I've seen that I find positively DANGEROUS is to do nothing. If you keep no records and report no withdrawn earnings, then you are playing the audit lottery. You'll win if you aren't audited, you'll lose if you are.

Here's what I plan to do (and I'm in the US). My only in world business relates to land, which makes it easier for my fragile little tax brain. My earnings in world have all gone towards junk mostly (clothes, etc.) and I have not pulled my earnings out of world.

I've kept up with all my payments into SL via paypal and my banking statements as it realtes to my land. I've got it all on paper and in a folder that I will keep until the civil statute of limitations for audit runs (three years from due date of return, or date return filed). I have the transactions where I bought the land, any rents I've collected, and any tier paid.

I also have all the records of my withdrawals from SL. I will report all of the withdrawals as "other income." I will then deduct, only to the extent of my earnings, my contributions to the game ONLY as they relate to my land on my Schedule A. Because SL is not my trade or business but rather a hobby business (as defined by the tax regulations), it's hobby income subject to the hobby loss rules.

(Note: I itemize my deductions on Schedule A. If I did not itemize, I would report the income and have no deductions. You can only take this deduction if you itemize on a 1040 long form. If you file a 1040EZ, it won't work.)

I will keep for future years, any deposits not used to offset current withdrawals. To the extent I can show the deposits were directly related to a land purchases, I will use them to offset land income withdrawn from SL in future years.

This is probably a conservative approach in some ways, and an aggressive approach in other ways. As to my deductions, I am going very conservative. I will have the informaton showing the exact transaction going in and will have the land plot information connected to it. I will have the exact transaction going out tied to a land transaction. If it's not land money (i.e what I won off a sploder) there will be no corresponding deduction as I can't tie it directly to expenses in world. As to income, I'm probably a bit aggressive. I'm only taking out land profits. The rest I'm leaving in world. That's probably a little aggressive, but until the IRS opens up in world, I think it's safe for me.

I know it may seem a little different from my position of when income is realized (at transaction), but I think the enforcement issue will make withdrawal from the world the point at which income will be taxed. The flip side of this will be that deposits into SL must be tied to withdrawals or the deductions will be disallowed. That's why my deduction philosophy is VERY conservative.

Now, if I decide to stop playing, sell all my land and pull out all my Lindens, I'd report all withdrawn and deduct only my land tiers and remaining land costs. For everything I deduct, I must have meticulous documentation.

I do not think premium account fees would ever be deductible if SL is not your only job. I could see an SL business having a traditional Schedule C trade or business, but only in extreme circumstances.

I've said this before, that I do receive a 1099 from playing online solitaire and I report it dutifully, with corresponding deductions, every year. So far, no audit. Audits are not picked based on what's reported except in really wierd cases (like earned income credit, everybody who claimed it was audited one year, I think in like 1995 or so). Trust me, the worker inputting your income into the "big computer" at IRS (that's a term of art, lol), doesn't care where it came from, only that it's on line so-and-such. No one is out there looking for the words "Second Life" on your return. Maybe in Canada where Angel is, but not in the US.

Also, if you do get audited, know that what the revenue officer says is not the last word. There is an appellate process through the IRS, and at each stage the level of tax knowledge gets a little higher, and the willingness to compromise and work out a settlement gets higher as well. Audits suck a**. No question. If you have to go there, take a tax professional with you if the tax bill is big. It's so worth it (and if it's tax advice, it may be deductible, lol).

I hope this presents on option of what to DO, as asked earlier. I'm sure others will offer other approaches. This is mine. The important thing is to educate yourself and make your own choice based upon your comfort level. TALK TO YOUR TAX PROFESSIONAL. She/he may look at you funny, but who cares!

check this out...

http://news.yahoo.com/s/pcworld/20070130/tc_pcworld/128270

Now then - what you've just said here is complete and utter NON-RUBBISH, and anyone with a lick of sense would know better than to ignore what you've just said here..

I hope everybody reads your post, word by word, sentence by sentence, and pays careful attention. Because it's how the real world operates, and it's what matters.

THANK YOU.

Interesting article, but basically a regurgitation of the same article that's appeared elsewhere, with no new information or developments. A nice overview - and it seems to point out the fact that the people discussing this appear to think that the online gaming community is limited only to U.S. taxpayers, with no crossover or blending within the various virtual environments. For example, the second biggest consumer of online services is South Korea, and virtual currency simulations are fed by not only our own dollar, but their currency, and the currencies of dozens of other nations around the world. It's a huge homogenous bowl of digital soup, and the IRS has jurisdiction over only a fraction of it. Our lawmakers, and the lawmakers of other countries often pass legislation in an attempt to regulate or tax the Internet, but since it belongs to no one country, their legal standing to do so is often in serious doubt, and their ability to enforce their restrictions and regulations is almost always severely limited at best or laughable at worst. Politicians, on the whole, tend to be very nearsighted when it comes to the Internet.

If you really want to break your mind, check out theAlternative Minimum Tax [pdf] which in part is for the reporting of unrealized capital gains. To the best of my meager understanding, a UCG is when you have received something that is potentially valuable and the IRS wants its cut now before you ever convert it to something actually valuable.

I have no idea if this applies to L$, but I cannot say it doesn't. I've had to file 6251s and can tell you that spending hours trying to understand it helps not at all. In fact, I'm of the belief that the AMT tax code was intended not to be understood.

I don't see anything in this form that discusses unrealized capital gains, except for a section that discusses capital gains where the income therefrom is not anticipated to be received subsequent to the year of filing. There is no angle I can see where this would apply to virtual economies in any way, since it does not presume that Lindens are currency. It's just an alternative minimum tax form, at least partially intended to cover independent oil prospectors, which has very narrow rules with respect to who should be using it, and none of those rules have anything to do with online gaming, game winnings, or anything of that nature.

I think you're trying to read something into this document that just isn't there to read.

The most likely way the IRS would try to tax you on your Lindens would probably just be as 1099 income. When you're dealing with the IRS, it's best to do the most obvious thing first, and not try some right-on-the-edge wiggly interpretation of their filing rules. Those kinds of things are what trigger audits.

You're taxed only on the amount of US dollars you receive from selling those Lindens back to Linden Labs, not on the Lindens themselves. You can't be taxed on game points or game pieces you trade those points for. They're only taxable when they are realized, i.e., converted into something in the real world that anyone else would be able to barter for or exchange real currency for.

check this one out:

http://www.legalaffairs.org/issues/January-February-2006/feature_dibbell_janfeb06.msp

This article states pretty clearly that the IRS does not have a position on this situation at all: "there are no regs, there is no code, there are no rulings, to rely upon. " So there's nothing going on under the hood - any changes in the rules are years or perhaps decades away if they ever happen at all, and that in the case of David Zarin v the IRS, several courts were involved and no consensus could be reached as to whether virtual winnings, kept track of using casino chips, could be counted as winnings or losses before they were cashed out. Since the courts don't even know, and there are no rules the IRS currently has that specifically address this, various insistences to the contrary are obviously just FUD and trolling and can be safely ignored.

Just declare your earnings in USD and pay your taxes like everybody else, and don't lose any sleep over it.