Are Credit Card Rewards and Frequent Flyer Miles Taxable?
Does the IRS consider credit card rewards and frequent flyer miles as taxable income? Do you have to pay taxes on sign-up bonuses? Understand the tax implications of your credit card rewards and miles to maximize your military benefits and financial planning.
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Finding the best credit cards for military members can be tricky. You have to look over and compare each of the cards’ rewards programs that they offer. This is why there are seemingly limitless credit card rewards programs, including cash back, points, travel rewards, airline rewards, and gas rewards, among others.
Another popular way credit card companies gain new customers is by offering sign-up bonuses to new cardholders. Some of these can be worth several hundred dollars or more, which is a nice return just for opening a new credit card. However, all of these rewards raise an interesting dilemma: are they considered taxable income or sign-up bonuses?
The answer is – it depends.
Sign-Up Bonuses Are Often Taxable
Many sign-up bonuses are considered taxable income, particularly when offered by banks, brokerages, and other financial institutions. I have opened several bank accounts to receive the sign-up bonus, and each time, I received a 1099-INT at the end of the year. In each instance, the banks reported the bonuses as earned interest, which is taxed as ordinary income – meaning you pay your standard income tax rate on the bonus.
Sign-up bonuses for brokerage accounts can be different, depending on which type of account you open. If you open a standard trading account, the income will likely be reported in a similar fashion as the banks. However, if you open an IRA, your bonus may be deposited into your IRA, allowing it to receive the same tax treatment as your investments in the account.
If you receive a 1099-INT, you know what to do – report it on your taxes and pay the tax man. But if you don’t know how it should be classified, then it’s best to check with the brokerage firm or your accountant for verification before filing your taxes.
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What about Cash Rewards and Frequent Flyer Miles?
I know you’re just going to love this answer – again, it depends. In almost all cases, your credit card rewards will be classified as a rebate, which the IRS has stated isn’t considered taxable income (see private letter ruling from 2002 and Announcement 2002-18 for more information).
The IRS treats rebates as a discount; you just get it after the fact. So earning cash back or frequent flyer miles from a purchase is essentially the same thing as using a coupon with your purchase. The IRS also doesn’t consider frequent flyer miles earned from flights as taxable income.
Are Credit Card Sign-Up Bonuses Taxable?
If the credit card company is offering you a bonus just to open a new credit card, then it’s possible the bonus could be considered income by the IRS. The key is determining how the bonus was earned. If there is no requirement other than opening an account, it is similar to the bank example above, and you may be liable for taxes on the income.
For example, several years ago, a popular credit card issuer sent 1099s to new customers who received 25,000 bonus miles for opening a new account. The credit card company valued the bonus miles at $0.025 per mile, which gave the bonus a dollar value of $625, exceeding the $600 threshold set by the IRS for requiring a 1099 for prizes and rewards.
But that doesn’t mean all sign-up bonuses are taxable. Most credit card companies, for example, require new cardholders to spend a minimum amount of money within a set timeframe in order to receive the bonus.
A common example is a $100 cash bonus that is only activated after the new cardholder spends $1,000 within the first three months. Some credit card bonuses are also tiered; for example, you may receive a certain cash bonus or a number of frequent flyer miles for spending $1,000 within a specified time frame, and you may receive another bonus when your spending level reaches $5,000. If there is a spending requirement to receive the bonus, then it is considered a rebate, not income.
Play it Safe
Credit card rewards and sign-up bonuses are a gray area. The IRS private letter ruling and announcement above are more like guidelines than hard-and-fast rules. My rule of thumb would be to always report the income if you receive a 1099-INT – that’s a no-brainer, since it is the law.
If you receive any other bonuses, then I would use the rebate test. Did you have to meet a certain spending requirement to receive the bonus? If so, it is probably a rebate and therefore probably not taxable. As always, it’s a good idea to double-check with a tax professional if you have doubts or further questions.
