Better Education Will Help Taxpayers Understand Telltale 1099-Ks

After a brief attempt to lower the 1099-K reporting threshold to a mere $600, the IRS recently reverted to the existing $20,000 limit for the current tax year. The agency indicates it will reduce the threshold to $5,000 in 2024.

The proposed $600 threshold triggered widespread uproar. This, and the IRS’s concern that a wave of unexpected 1099-K forms will cause taxpayer confusion and an administrative backlog, shouldn’t drive the agency to postpone the change and gradually lower the threshold.

The chosen approach of delaying and slowly implementing the threshold changes won’t effectively address the issue of confused taxpayers—it simply postpones it. The core problem is a public misconception.

Many people believe they only owe taxes on income the IRS has manifested knowledge of. The solution is to educate the public more thoroughly about what constitutes taxable income.

The receipt of income through an online payment platform such as PayPal or Venmo is taxable, and receiving a 1099-K form for such transactions shouldn’t come as a surprise. The issuance of a 1099-K doesn’t indicate new tax liabilities; it serves an informational and reminder role for existing tax obligations.

Reminder, Not Revelation

Form 1099-K was rolled out in 2012 in an effort to close the portion of the tax gap represented by payments made via banks and credit card merchants through use of third-party information reporting.

The initial thresholds of 200 transactions and $20,000 in total payments within a year reflected a targeting of relatively significant commercial activity. These thresholds have never affected when tax is due—they merely represent the thresholds above which the third-party payment processors must submit information returns. Tax is owed on all gross income from whatever source it’s derived.

This latter point seems to elude a significant portion of taxpayers, for whom the arrival of a 1099-K may confuse and alarm. A common misunderstanding seems to be that the obligation to pay tax is somehow initiated by issuance of a 1099-K.

Alternatively, it may be that the general population understands the obligation to pay tax only applies when the tax authorities are made aware of your income—outcry at receiving a form from Venmo, then, would be more about knowing the IRS is now aware of your custom sneaker business.

This lack of understanding of when and how tax obligations apply doesn’t bode well for the state of tax compliance in a voluntary tax system. The IRS’s wavering on the threshold inadvertently shines a light on the broader issue of tax literacy among the general public, especially as the gig economy and online marketplaces continue to grow. Receipt of a 1099-K should be a reminder of tax obligations rather than a brand-new idea.

PayPal logo on a smartphone in Saint Thomas, US Virgin Islands, on Jan. 29, 2022.

Photographer: Gabby Jones/Bloomberg via Getty Images

Urgent Need for Tax Literacy

Since the passage of the Inflation Reduction Act and its $45.6 billion (originally $80 billion) for modernizing the tax system, the IRS has announced myriad taxpayer service programs. They’re all structured to allow taxpayers to ask IRS customer service representatives questions or seek help through taxpayer assistance centers.

The common thread with these education programs is that the taxpayer must ask the right question—for instance, “Should I be paying taxes on the money I make from selling custom sneakers? No, right? I’m going to pretend you said no”—to receive the right answer.

This is the tax education equivalent to inviting students to gather in a classroom and asking what they’d like to know. It would be an interesting educational experiment, but it probably wouldn’t produce a thorough understanding of long division or the periodic table.

Education entails conveying a complete understanding of a concept—not rolling back the 1099-K threshold for fear of national frustration while hoping that everyone catches up by this time next year.

To bridge the knowledge gap, the IRS should consider more proactive and engaging methods of educating the public writ large. This could include producing accessible, informative online videos; launching social media outreach campaigns; and taking out ads to succinctly explain what constitutes taxable income.

The agency could also launch initiatives to provide schoolteachers with age-appropriate curricula to educate young people about what tax revenue is used for and how to calculate what we owe as individual taxpayers. These platforms and initiatives could reach a broader audience, particularly future and younger taxpayers and those engaged in the gig economy.

Equally important, these same platforms and venues should be used to demonstrate the IRS’s commitment to ensuring high-income earners are paying their fair share of taxes. The public perception of tax fairness is crucial—a small-scale entrepreneur, such as our aforementioned custom sneaker designer, shouldn’t feel burdened by tax obligations while reading headlines about millionaires and billionaires paying disproportionately less in taxes.

The IRS should simultaneously engage in initiatives to promote an understanding of when taxes are due, what’s being done to ensure fairness and equity in the tax system, and that tax compliance is a shared responsibility.

The pattern of implementing a policy change, facing public backlash, and then retracting that change temporarily is an inefficient and ineffective way to inform the public about tax policy updates. It burns through goodwill and tells taxpayers that these thresholds, and perhaps all tax policies, are arbitrary and without any connection to real-world economic activities or taxpayer needs.

Ensuring equitable tax compliance, and conveying that message to taxpayers, is a matter of fiscal policy and is critical to maintaining public trust and compliance in the tax system.

Andrew Leahey is a tax and technology attorney, principal at Hunter Creek Consulting, and adjunct professor at Drexel Kline School of Law. Follow him on Mastodon at @andrew@esq.social

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