Do you enjoy gambling? Many people find it enjoyable and relaxing to go to a casino and spend time at the slots or tables. A big problem we see as accountants is that most people don’t understand how the winnings affect their tax return. Here are a couple of examples.

About 25 years ago a good friend of mine called me and told me her elderly parents had gone to Wendover, NV and won $50,000 playing a quarter slot machine. They lived on their Social Security and had not been required to file a tax return in several years. They wanted to use the money to buy a house, you could do that 25 years ago, but were scared about how much taxes they would have to pay. It turned out they were able to pay the tax and buy a house, but because of the added income, they had to pay taxes on their social security income, which they normally would not have had to do.

Another couple I know lived in a town with several casinos. One of their past times was going to the casino after work. Over the course of a year, they had won $250,000. However, they had actually spent more than their winnings. They both had good jobs and only one dependent. When we figured their taxes they owed a lot of money. They couldn’t understand why they owed so much when they spent more than they won.

It wasn’t an accounting error; gambling winnings and expenses are taxed differently than other income and expenses. Let me explain. Your winnings are included in your adjusted gross income, but what you spend is deducted on a Schedule A. Now, if your adjusted gross income is too high, the IRS places limits on what you can deduct on your Schedule A and other places including medical expenses, college tuition credits, child tax credits, exemptions and employee business expenses. These deductions are limited before your gambling losses are deducted. This means that even if you break even with your gambling winnings you are going to loose valuable tax deductions, which will cost you even more money.