Court Rules Some Credit Card Rewards Are Taxable

I'm not sure you've properly explained the ruling. On the last page, the court holds that "Reward Dollars associated with the Visa gift card purchases were not properly included in income" [by the respondent - the IRS]. Isn't this is a ruling in favor of the cardholders? That would also explain why your quoted paragraph ends with "we do not find it a good fit."

The court does rule in favor of the IRS on direct purchases of money orders and reloads of debit cards: "we uphold respondent's inclusion in income of the related Reward Dollars for the direct purchases of money orders and the cash infusions to the reloadable debit cards."

The court also says: "These holdings are based on the unique circumstances of this case. We hope that respondent polices the IRS policy in the future in regulations or public
pronouncements rather than relying on piecemeal litigation."

Thanks.

Ben, practically speaking, I think that this decision is a loss for the IRS and a win for the taxpayer. The court did rule that the cash back earned from buying money orders and reloading debit cards is taxable: “we uphold respondent's inclusion in income of the related Reward Dollars for the direct purchases of money orders and the cash infusions to the reloadable debit cards.” However, with regard to cash earned from purchasing visa gift cards, the court ruled that that cash is not taxable: “In conclusion, we hold that the Reward Dollars associated with the Visa gift card purchases were not properly included in income.” I think that the opportunities to purchase money orders and load debit cards directly from a credit card are rare while it remains easy to buy VGCs.

To address your question about how the IRS got involved, it probably stemmed from the fact that the cardholders bought money orders with the VGCs. Financial institutions are required file forms called CTRs (currency transaction reports) anytime someone makes a cash or cash-equivalent transaction that exceeds $10,000. Even if we assume that these people did their manufactured spending during every business day of the year, they would have been depositing a minimum of $11,500 per business day, so there were likely a large number of CTRs being filed.

CTRs are filed with FinCEN, which is the Financial Crimes Enforcement Network, of which many federal agencies including the IRS's Criminal Investigations division are members. They have access to the entire FinCEN database, which includes the CTRs and a related form called a SAR (suspicious activity report). Financial institutions are required to file a SAR anytime they suspect suspicious activity is occurring, which could have been the case here as well. I would suspect it was the CTRs or a SAR that brought these people to the attention of the IRS.

I suspect the IRS caught onto this because banks are obligated to report deposits over a certain amount (I think $10,000 — but not certain of the amount). In any event, the depositing over time of $300,000 of money orders into a checking account certainly would have triggered automated reports to the IRS. This caught the IRS's attention — and they went after the taxpayer for income taxes due on $300,000 of income.

@David Ourisman - Banks are obligated to fill out a Form 8300 on every deposit or series of deposits over $10,000 in cash, but what probably got these people on their radar is the requirement of banks to provide FINCEN a suspicious activity report on any activity that appears to be obfuscating the source of the funds deposited. Taking out multiple high dollar money orders and depositing them in a bank account would clearly fit that description. Collect enough SARs and the IRS and anyone else with oversight into money laundering will show up and ask where you got the money.

Ben - please update this post. This is a win for the vast majority of your readers, except for the few who are using a credit card to buy a money order. The

I agree with what eddy said. The problem is that this sentence is awkwardly worded probably because it relies on tax law phrasing and terms of art (IANA tax L):

"In conclusion, we hold that the Reward Dollars associated with the Visa gift card purchases were not properly included in income."

It should read something like "In conclusion, we hold that the Reward Dollars associated with the Visa gift card purchases were included in income improperly by the Respondent, and shall be excluded."

Thus, it would appear that the taxable event would not be the receipt of Reward Dollars upon the purchase of their Visa gift cards but the transformation of the cards into cash equivalents that could be deposited in a bank account.
...
However, petitioners’ direct purchases of money orders and reloads of cash into the debit cards using the American Express cards presents a different question from the purchase of Visa gift cards.
...
Therefore, we uphold respondent's inclusion in income of the related Reward [*22] Dollars for the direct purchases of money orders and the cash infusions to the reloadable debit cards.
...
We hope that respondent polices the IRS policy in the future in regulations or public pronouncements rather than relying on piecemeal litigation.

================================================================

From my layman's interpretation, the court basically said the IRS/respondent was justified in taxing the Anikeevs/petitioners, but that the IRS considered the wrong phase of the manufactured spend process as income.

@david they deposited over 6 million dollars worth of money orders.

300k was just the profit.

I’m a tax professional CPA that read the full ruling. This case is probably only bad for people engaged in manufactured spending. The IRS did not change its position on rebates/rewards when purchasing goods and services, and the IRS even conceded a few hundred dollars of additional assessments when the taxpayers provided evidence that the rewards were granted for purchases of non-cash equivalents.

Likely, the IRS discovered this upon an audit of the taxpayers and requested the taxpayers’ bank account detail as part of the audit. The court case stated that the taxpayers had deposited more than a million dollars from money orders into their bank account, and clearly the IRS was going to have some legitimate questions as to where that money was coming from. It was only a matter of time before a case like this ended up in the tax court.

$6,250,000 in manufactured spending and recycling money as gift cards and then into money orders. I am pretty sure this caught the eye of the IRS, and a few Exchequers. I am pretty sure el chapo and his wife also extended job offers on the spot to these two.

It is alright to be a pig, just not a hog. If you are going to manufacture wealth of that size out of manufacturing credit card spending, then you better give the IRS its cut. What suprises me is that American Express didn't catch on to them and put a stop to it before they had gotten $312 K back in under 2 years. Someone feel asleep at the wheel ........

I'm trying to get the stipulation of facts (thousands of pages) which will be interesting, from a MS historical perspective, what kind of shenanigans they did. https://dawson.ustaxcourt.gov/case-detail/13080-17

It's easy to see why irs got involved. You know who else does a lot of gift cards transactions? Scammers, victims of Scammers and money launderers.

@Steve, this happened back in 2014 when it was fairly easy to manufacture spend. Had this happened in recent years I think Amex would have been onto them.

Some credit cards even consider it as a cash advance

karma

They are kinda clever to do this. I am sure it was a lot of work but even when taxable, $300k is a pretty awesome annual salary (or maybe a bit less because it seems some of it was in the prior year).

If they were not violating Amex's terms and it sounds like they were not? then I can't fault them for doing this. It's a pity they lost the ruling and I hope they have not spent all the money.

Surely many people must have taken advantage of this scheme, allbeit to a much smaller extent.

Depositing millions of dollars of money orders into a bank account or series of bank accounts tied to a single person or couple in a year or two is going to generate a lot of Suspicious Activity Reports from the bank. That many bank-filed SARs for that much in deposits using cash or near-cash equivalents getting a manual review and further attention? That shouldn’t be a surprise; it should have been anticipated.

The taxable income from the couple’s manufactured spending activity comes with a new tax liability as a consequence of this court ruling. Does it also come with interest and penalties for the non-reporting and delay in paying the taxes on the portion of 2013 and 2014 income which they hadn’t previously declared as part of their income in those two years?

Seems to me this couple had a job where they played the point system and earned 300k. If this is a job and not just a hobby then it should be taxed.