You've Won Big -- What Will That Windfall Cost You in Taxes?

NEW YORK (TheStreet) – So you cleaned up at the casino, finally had that winning lottery ticket pay off or were the last person with his hand on the truck at the mall this weekend. What's that “free” gift going to cost you?

Only as much as you allow. As Los Angeles-based tax expert Elizabeth Rosen notes, any winning you get from playing the lottery, gambling in casinos, betting on races or even playing keno in the local pub are fully taxable. The IRS even designates a form, W-2G, just for this purpose. If you win, Uncle Sam wants his cut.

“If you go to Foxwoods or some other casino and you win $10,000, you're going to receive some type of tax reporting that requires you to pick up your gross gambling winnings on your tax return,” says Jared Feldman, partner at New York firm Anchin, Block & Anchin. “There are tax consequences to that.”

Basically, if you win $1,200 or more from a bingo game or slot machine, $1,500 or more from a keno game, $5,000 from a poker tournament or $600 or more and at least 300 times the amount of the wager anywhere else, your winnings are taxable. You are also required to withhold 25% of your winnings for federal taxes if they exceed $5,000 and are from lotteries, sweepstakes, pools or other bets in which you win 300 times the amount you wagered. This is all before state taxes come into play, but it's also before deductions.

“I would ask an individual 'Do you have a habit of going to the casino? Are you going to go once or twice a year?'” Feldman says. “I would tell them to document any losses that they have so if they're a market player or someone tracked by a casino, the casino could track losses that might offset the gains.”

The IRS breaks down gambling income into four categories: horse racing, dog racing, jai alai and similar betting; sweepstakes, pools and lotteries; bingo, keno and slot machines; and poker tournaments. Losses from each can be reported as itemized deductions, but you can't claim that deduction if your losses exceed your winnings. That's when you have to get a little creative.

“If it's a large gain, we go into a few different buckets,” Feldman says. “If it's a large gain, we try to talk about things like charitable contributions: were there contributions you've been meaning to make that you just haven't yet?”

As Vogel Financial Advisors in Dallas points out, however, you can only deduct charitable donations that are less than 50% of your adjusted gross income. Any contributions beyond that have to be carried over into tax years no more than five years into the future. Feldman also notes that unrealized losses in an investment portfolio can be a huge help, as taxpayers can deduct up to $3,000 worth of those losses each year.

The effects of such winnings are also going to vary dramatically depending on who's getting them. Someone with a high net-worth who wins $10,000 or $20,000 is probably not going to sweat the tax hit all that much, but a medium-income or low-income family that wins $200,000 to $300,000 might want to reevaluate its financial plan and perhaps consider a retirement plan or 529 plan for the children.

If someone of lesser means comes into a substantial windfall, Feldman suggests running scenarios to see if the tax hit on a lump-sum lottery prize would be preferable to a annuity payment that spreads out over several years and may keep a family in a lower tax bracket. It also helps for families to be honest about their spending habits.

“If they're good savers, sure, take the money upfront and they can use it for new investments and be strategic about it,” Feldman says. “If it's a family that could use up that money more quickly, a 20-year annuity could change their life without the risk of them blowing it upfront.”

Of course, there are plenty of other windfalls that aren't attached to big winnings. Court settlements, inherited IRAs and other good fortune also tend to have a tax bill attached. Feldman notes that whittling away at that tax liability and preparing your family for repercussions generations from now is just about the best way to both enjoy and protect your newfound riches.

“We see windfalls with our clients when they're selling a business: big-time lifetime events,” he says. “Then we start looking into other buckets like estate planning, What have they done to mitigate the tax burden and take care of their family down the road?”

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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