Paying Taxes On Credit Card Rewards

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A reader emailed me wondering if credit card rewards are considered income and taxed by the IRS. My gut feeling was no, because you never get any sort of 1099 and I’ve gotten more than $600 in cashback before (if someone pays you over $600 in a year for work, they are required by law to report it via a 1099), but I wasn’t entirely sure so I hit the internets to try to find an answer.

What I discovered was that the overwhelming opinion on the web was that a cashback reward is much like a discount. It isn’t considered income and the cashback reward reduces the cost basis of the item you’re buying. If you were you buy a CD for $10, get 5% cashback, and then sell it for $15 then you owe taxes on the profit of $5.50. The cost of the CD is actually $9.50, which is 5% off the original 10% price, which makes the profit $5.50.

Another prime example are those promotional “rebates” on cars. If you get a $1000 rebate when you buy a car, it’s totally different than getting a $1000 commission check (commission is income, the rebate only reduces the cost basis). When you sell the car, you have to remember that your purchase price, in calculating taxes, has to reflect the $1000 rebate you received. Cashback isn’t much different from a rebate in the sense that you’re getting a discount, not a commission for using the card. It’s a fine fine line and the IRS hasn’t given much guidance on it.

Lastly, this also means that rebates, as in mail-in-rebates on products, are also considered discounts and not income. So, if you get a $300 item for free after rebate, the cost basis of the item is $0 and you received an income of $0. (if the rebate company screws you, well then the cost basis of the item is $300!) Until the IRS comes out definitively, most tax preparers are treating cashback as a discount.

{ 7 comments, please add your thoughts now! }

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7 Responses to “Paying Taxes On Credit Card Rewards”

  1. Kurt says:

    I understand the thought that its a rebate, but doesn’t it matter that you have already paid a tax on the full amount. When you buy the CD for 10$ and get .50$ back, you are still taxed on the whole 10$. I don’t know how accounting would handle that, but to me you are paying taxes on the rebate already.

  2. Llama Money says:

    You’re paying *sales tax* on the amount. The issue at hand is whether or not you should be required to pay *income tax* on it. I agree that it should be treated as a discount / rebate, and therefore not subject to income tax. I didn’t “earn” the money, which should pretty much disqualify it from the income tax.

    Not sure what the IRS has to say though.

  3. pcooper says:

    It feels much more like income to me, because it comes from the Credit Card Company, not from the merchant I bought the product from.

    But I’ll be happy to treat it as nontaxable if that’s what the general consensus is.

  4. Posco says:

    @pcooper: It doesn’t feel like income to me at all, since the amount I receive is BASED ON how much I spend. And besides, that money DOES come from the merchant, albeit indirectly. Merchants pay a certain percentage fee to the credit card company to process the transaction. Your “1% cash back rebate” is just a slice of that fee.

  5. pcooper says:

    So, does that mean that for instance, when I charge a charitable contribution, I have to reduce the amount that’s considered a contribution? What do I do when I get the cash back in a different year than I made the contribution?

  6. jim says:

    pcooper: that’s an interesting question to which i have no answer, but i always just claim the total amount (not the amount after cashback).

  7. Patrick says:

    What about rebates and rewards for business credit cards? I believe these are treated differently are they not? Uh-oh… I see another post coming on! 😉

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