foreign account reporting due today - question

[Poker CPA]

Your following statement is misleading to the professional poker player. Very much so.

"You understand because of constructive receipt you need to pay tax from the moment the money is in your Neteller or gaming site account, not from when you actually physically receive the money."

[PokeReader]

I understand that you then are stating that you believe that funds in Neteller accounts were not constructively received? That players had no ability to access or use that money? I must say this is contradicted by sources I have found. Please explain.

(including segment of taxable talk on constructive receipt and Neteller)

Neteller and Constructive Receipt
As the saga of Neteller, the Isle of Man based financial intermediary, drags on, I've gotten many questions regarding the money that's tied up. For those who are unaware, some of the Neteller money was seized by the US government as it was moving over the wires between Neteller's banks and customers' banks, and some is sitting in customer accounts at Neteller. All of it, though, remains out-of-reach of American customers of Neteller. So the question is, do customers of Neteller have to pay tax on gambling proceeds won in 2006 that are stuck at Neteller?

Yes.

When an American must pay tax on income is governed by the doctrine of "constructive receipt." Suppose you gamble on an online poker site, and you win $1000. However, right when you win that money the poker site goes out of business, and you never collect a penny of the $1000. You've never had access to the money—you never were able to use it. You didn't have constructive receipt of the money.

Now suppose you win $1000 on December 31, 2006, and the money is immediately put in your account. On January 16, 2007, you withdrew the money into Neteller. You immediately requested Neteller to transfer the money into your American bank account. On January 17th that money was either seized or is stuck at Neteller.

That individual has $1000 of gambling income in 2006. The gambler could have withdrew the money on January 1, 2007 or he could have gambled with it on January 1. He had constructive receipt of the money. That he was unlucky in that the money was seized or stuck at Neteller is unfortunate. He or she must pay tax on the $1000.

So what should an individual do who has significant funds stuck at Neteller—so significant that he may not be able to pay what he owes in taxes? Talk to a professional tax advisor now; don't wait until April 10th. Most tax preparers are very busy between now and April 17th. We're not (in general) going to be able to give you specific advice if you wait until the very last minute.

Realize that you owe the money. Find out what your total tax is (including your state income tax, if applicable). Determine what you can afford to pay. Options include going on extension and installment plans. But not filing a tax return (or at least an extension) by April 17th will subject you to the failure to file penalty!

The phrase caveat emptor (let the buyer beware) applies to many offshore entities. The IRS considers online gambling to be just another tax avoidance scheme. They're not going to be very sympathetic to taxpayers using a financial intermediary that serviced offshore online gambling firms.

[ChipLeeder]

First, the Neteller fiasco has nothing to do with the timing of earning income, it is a distinctly separate and unfortuneate event.

Second as to deferring income in a poker account, here is a sample of what the IRS thinks about attorneys deferring income by leaving the income in their escrow account:

"The training manual notes that most attorneys have one or more trust accounts under their control and instructs auditors that adjustments to taxable income most frequently arise when an attorney diverts funds from a trust to a personal account or defers income by allowing fees to remain in a trust account."**

**From Research Institute of Taxation/Market Segment Specialization (MSSP) audit guidelines

[PokeReader]

There is a way the Neteller fiasco would come into play. THIS IS HYPOTHETICAL. Not to serve as actual tax advice. If you put money into your Neteller account on the day it was seize, and thus did not have Constructive Receipt, you would have an arguement that you did not own taxes on that money. However, if the money was in the account the day before, and you could have theoretically taken it out, (the mess with non-seized Neteller accounts being irrelevant), than the general consensus is that you achieved constructive receipt. However, Poker CPA seems to believe something different, and I am interested to hear how he is treating this issue.

[Poker CPA]

PokerReader and ChipLeeder

"Neteller and Constructive Receipt
As the saga of Neteller, the Isle of Man based financial intermediary, drags on, I've gotten many questions regarding the money that's tied up. For those who are unaware, some of the Neteller money was seized by the US government as it was moving over the wires between Neteller's banks and customers' banks, and some is sitting in customer accounts at Neteller. All of it, though, remains out-of-reach of American customers of Neteller. So the question is, do customers of Neteller have to pay tax on gambling proceeds won in 2006 that are stuck at Neteller?

Yes."

You are correct, but very misinformed as to the’ impact on the professional gamblers "tax liability". For a properly prepared pro's return, the issue of "constructive receipt" does not apply because he has not elected the "cash basis" of accounting. He has elected the "Accrual Basis" of accounting for his business. There is no reason for a pro to have the cash basis of accounting, NONE. For income recognition purposes both methods produce the same income amount. For example, if he wins $100 on Dec 31st, he has $100 in gross income on his tax return (Sch C) under BOTH methods. But under the accrual method, if he does not receive the $100, in this case, an "Accounts Receivable from Neteller" then it’s a bad debt as of Dec 31st and his taxable income nets to $0. The cash basis write-off occurs when he tries to get the cash, but can't. And in this Neteller situation that occurred after January 14, 2007, thus a 2007 write-off. Thus the "cash basis" method produces a mismatch of income and the related bad debt. The "accrual basis" does not. The election of the "accrual basis" is done on the first return filed by a pro and is a “no-brainer” for a competent tax accountant. Let me give you an example of an advantage of the “accrual basis”, outside the Neteller situation, for a professional poker player. Let’s say he has his returned prepared at a cost of $1,000 and pays his accountant on March 15th, 2007. Under the accrual basis he can take the tax deduction in 2006, while the cash basis allows only a deduction in 2007. I’m sure you can see the advantages of paying for expenses in 2007, yet getting the deduction in 2006. Again a “No-brainer”. On the income side on both methods produce the same income so no advantage either way. BUT the “cash basis” is governed by the doctrine of “construction receipt”, while the accrual basis is not. In other words the cash basis produces, in the IRS’s eyes, cash in your pocket while the accrual basis produces an “Account Receivable”. This receivable now has to collected and its write-off is based on “facts and circumstances” that occur subsequent to year end. Based on the “song and dance” professional players are getting from Neteller, a write-off is possible.

In my opinion the 2006 “bad debt” deduction can be taken with very little problem. Now if any recovery, from Neteller, is made after we file the 2006 return then the “recovery provisions” of the IRS code take over. We can now file an amended return for 2006 OR show the income in 2007. You obviously go with the year that produces the lowest liability. I have a feeling this could finally be resolved in 2008.
But you need the “Accrual Basis” of accounting. If your accountant elected “cash basis” then a great big “WHY” should be asked. This will be your accountant’s version of a “song and a dance”.

I hope you understand my comment of “misleading”.

[PokeReader]

Thank you, I fully admit that I had mainly investigated FBAR's. I thought you were saying that if constructive receipt had not occured that it would effect FBAR filings. My misunderstanding, while I am a good researcher, and have dealt with writing legislation, tax law is not my specialty.

[broiler]

Poker CPA,

I am a "competent tax accountant" and I strongly disagree with your statement that the accrual basis is the only way to file for a professional gambler. Your argument fails for many reasons.

1) You appear to not understand the rules for a bad debt deduction. For tax purposes, there is no difference between the cash and accrual rules relating to bad debts. Your bad debt example uses GAAP considerations to accrue a bad debt. Bad debt has its own rules under Code Section 166(a)(1) - "There shall be allowed as a deduction any debt which becomes worthless within the taxable year." Your example clearly states that the debt became worthless after the end of the year, therefore the bad debt would be a 2007 expense.

2) Many of my clients stake other players on a monthly or quarterly basis. There is no way that I am going to accrue staking income from stakees that may or may not pay in full. Some stakees pay slowly or infrequently, so I have no reasonable basis to calculate a partial bad debt for all of this extra income that I would be forced to accrue. My fee for a tax return is usually substantially less than whatever staking accrual I would be forced to make.

3) None of my clients keep their books on the accrual basis or are willing to pay me to set up accrual basis books for them. Under Code Section 446(a), "income shall be computed under the method of accounting on the basis of which a taxpayer regularly computes his income in keeping his books." The accrual method would require a client to do some real accounting, which is a hard sell when you consider how difficult it is to get a client to track sessions. I'm thrilled when a clients transfers between accounts actually reconcile, so you can understand why I don't trust a client to honestly record all receivables that may increase taxable income.

I understand that accrual basis may be beneficial to some clients, but you really need to carefully check the client's circumstances to avoid any unwanted results. The audits of gamblers are not fun and the IRS auditors have that guilty until proven innocent mindset.

[Russ Fox]

I agree with Broiler, and disagree with PokerCPA.

The big problem is that on January 1, anyone with money on Neteller could have withdrawn the money. Period. They had constructive receipt.

As for accruals, I don't see it being applicable. The money would have moved from a gambling site to Neteller...thus, even someone using the accrual method would have earned the money (Neteller being akin to a bank). Now there would be (potentially) a bad debt loss in 2007, but as for 2006, the money was earned.

And as broiler points out, accrual basis individual taxpayers--including professional gamblers--are very, very rare.

I strongly suggest that individuals who believe they have potential issues with Neteller and/or FBAR/taxes/etc. find a competent professional (EA, CPA, or tax attorney) and talk over their situation with him or her. Everyone's situation is different, and "cookie-cutter" advice can be bad advice.

Finally, audits of gamblers are not fun. Like Broiler, I'm a professional tax preparer, and I've seen the good, the bad, and the ugly.

-- Russ Fox (EA)

[driller]

[ QUOTE ]
I contacted the IRS/Treasury Department Foreign bank directly and confirmed with them that e-wallets such as Neteller are reportable foreign accounts for U.S. foreign bank account reporting (due July 2, 2007.)

While I was at it I asked about monies at online gambling sites such as PartyPoker. This was their reply:

"As for a response on the Party Poker account, it may be harder to determine if it is reportable. If it is just a transfer service account it is not considered reportable."

[/ QUOTE ]

It would seem that Neteller is more of a "transfer service" than a poker site.

How firmly has it been established that Neteller is a "Financial Institution" subject to the reqirements of FBAR?

[Poker CPA]

On the matter of “Constructive Receipt”, the following is from Publication 538, page 14, “Cash Method”, and “Income”

"Income
Under the cash method, you include in your gross income all items of income you actually or constructively receive during the tax year. If you receive property and services, you must include their fair market value in income.

Constructive receipt. Income is constructively received when an amount is credited to your account or made available to you without restriction. You need not have possession of it. If you authorize someone to be your agent and receive income for you, you are considered to have received it when your agent receives it. Income is not constructively received if your control of its receipt is subject to substantial restrictions or limitations."


And under The “Accrual Method”, the following (page 16):

"Accrual Method
Under an accrual method of accounting, you generally report income in the year earned and deduct or capitalize expenses in the year incurred. The purpose of an accrual method of accounting is to match income and expenses in the correct year.

Income

You generally include an amount as gross income for the tax year in which all events that fix your right to receive the income have occurred and you can determine the amount with reasonable accuracy. Under this rule, you report an amount in your gross income on the earliest of the following dates.
• When you receive payment.
• When the income amount is due to you.
• When you earn the income.
Example.
You are a calendar year, accrual basis taxpayer. You sold a computer on December 28, 2002. You billed the customer in the first week of January 2003, but did not receive payment until February 2003. You include the amount received in February for the computer in your 2002 income, the year you earned the income.

Estimated income. If you include a reasonably estimated amount in gross income and later determine the exact amount is different, take the difference into account in the tax year you make that determination"



(Poker CPA Point #1) Constructive receipt
:
There is no mention of “Constructive Receipt” in the accrual method area, while in the cash basis it is prominently discussed.

(Poker CPA Point #2) The Matching Concept

This concept is the foundation of GAAP (Generally Accepted Accounting Principles). This concept simply states that all expenses are matched to its related income. This involves in making a proper cutoff at year end. The IRS regulations accept this GAAP concept with the following, as stated above:

“The purpose of an accrual method of accounting is to match income and expenses in the correct year. “

The IRS requires this match and thus all the taxpayer needs to do is match the neteller funds, not received, to the income earned in 2006. This matching is based on the “facts and circumstances”. An IRS argument that on January 1st the funds could have been transferred and therefore “tough luck”, is ridiculous. The IRS cannot expect taxpayers to predict future events. Hell Neteller was listed on the London Stock Exchange on January 1st. Taxpayers are not perfect and no one could have predicted this. EZ win for an accrual basis taxpayer, very EZ. Cash basis taxpayers are screwed.

In addition, this from page 19, Pub 538

"Matching expenses with income. Costs directly associated with the revenue of a period are properly allocable to that period. To determine whether the accrual of an expense in a particular year results in a better match with the income to which it relates, generally accepted accounting principles are an important factor."

The Neteller match is EZ for the accrual basis taxpayer.

(Poker CPA Point #3) Estimated income:

This one is especially good and in their own words, as stated above:

"Estimated income. If you include a reasonably estimated amount in gross income and later determine the exact amount is different, take the difference into account in the tax year you make that determination"

Being reasonable with your estimate is the only requirement. So based on facts and circumstances, what is the outcome of the Neteller situation? The Company has been delisted (I think this is the term) from the London Stock Exchange, had massive layoffs, lost business in three major countries and have been giving the old “song and dance” to US taxpayers. I wonder if the management has taken pay cuts? And we live and die with the “DUE DATE” IRS mentality. Being reasonable, while dealing with “DUE DATES” and penalties. LIFE is GOOD if you are an accrual basis taxpayer and have funds stuck in Neteller.

In addition, the following statement is repeated a thousand times in IRS regulations, publications and revenue rulings:

"Your tax liability depends on your particular facts and circumstances."

And the foundation of a professional poker players “facts and circumstances” is the accounting method he has elected on his initial tax return.

(Poker CPA Point #4) DOJ:

It appears the Justice Department considers Neteller part of the internet gambling community and if fact, are one in the same. I think this is called a “criminal conspiracy”. I believe all professional poker players consider them part of the whole process of internet poker, or one in the same. At least I do for my own poker playing. Therefore if the DOJ can make this connection, then I believe the US taxpayer can also in the filing of their tax returns. In other words, the poker sites and Neteller are one in the same. So the statement to an IRS auditor “I won but they didn’t pay me by the time I filed; I assumed the worse. I then reported the income in the year in which the recovery was made.” If the DOJ can make the conspiracy connection, then a connection can be made by an accrual basis poker pro. He can proceed under the recovery income provisions of the IRS code or file an amended return. The cash basis pro is screw by the “constructive receipt” doctrine.


(Poker CPA Point #5) The advantages of the Cash Basis Method:

There are no advantages to a professional poker player. NONE, unless he is a losing player. LOL

The revenue cycles are the same, in that income recognition is the same. At the end of your session, income (or losses) are reported the same. SO NO DIFFERENCE

The payment cycles are different. Expenses are match with the year in which they were incurred, no matter when they were paid. So the accounting fee you paid in 2007 can be deducted in 2006, because it relates to the year 2006. Same goes for travel, education and the like.

Your books and records should reflect the accounting method selected, but there is very little difference in bookkeeping between cash and accrual methods, for the professional poker player. Not so in other businesses, where the differences can be quite complex and very costly to account for. So no adjustment is necessary on the pro’s part, except provide the tax accountant 2006 expenses paid in 2007.

The accountant books the accrual and reverses the prior year accrual. This takes about ten extra minutes for your accountant. This bookkeeping concept is called “reversing entries” and is very common. The Courts and the IRS has accepted this simple reconciliation and is preferred by auditors. As long as the accrual is simple in nature. An example of a complex situation would be a construction company on the percentage of completion method, for his banker, and the cash basis for the IRS. A pro poker player is simple.

(Poker CPA Point #6) The pro filing for the first time in 2006; is on extension and has a Neteller problem:

You need to make the proper elections on the 2006 return, which is the first one filing as a pro. Sch C, line F is where you make the accounting method election. Check box 3 and state the following or something to this effect “Accrual Basis with actual winnings processed in an orderly and timely fashion by sites or their processors”. For my new 2006 clients the actual wording is different. (I use Neteller in the description). But please consult a good tax accountant, well verse in accounting method elections.

(Poker CPA Point #7) The pro filing for 2006, on the cash basis. and has a Neteller problem:

File for a change in accounting method. Form 3115 is used for this change but please be aware a “real-live IRS” person will be reviewing this. You should sit down with your accountant, for a serious talk about this matter.


(Poker CPA Point #7) Presentation of the Neteller Write-off:

The actual writeoff of the loss on an accrual basis tax return is difficult to say the least. Is it a bad debt, embezzlement, gross income adjustment or whatever? The presentation on the return is best handled by reviewing your own particular business items and concerns with a competent tax professional.

(Poker CPA Point #8) Response to Boiler and Mr Fox:

First of all I have not doubt that both of you a competent tax professionals. I think I have address your thoughts with my above “Points”, if not, please ask.

The one question that I have for you is “Why cash basis?” and the point of the accrual method being rare is suppose to mean What?”

Now “staking” could be a reason but its still an advance, but how do you over come constructive receipt on income that is due you?


(Poker CPA Point #9) Audits:

An accrual basis poker player; his related neteller problem; and an IRS auditor, I have no doubt I win the issue for my client, based on the above points.

The Best of Luck