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The hidden cost of gambling

May. 17, 2010 - 12:24PM   |   Last Updated: May. 17, 2010 - 12:24PM  |  
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If you didn't have enough reasons not to gamble before, here's another big one: The tax bite could cost you in more ways than you think.

While the pain of tax season is still fresh in our minds, resolve to take some steps to improve your financial situation next April.

Here's an easy one — don't gamble.

"I've had a lot of clients blindsided by the tax consequences of gambling," said attorney Stephanie Magnell, who has been working in the Fort Leavenworth, Kan., tax center.

Many of those clients are lower-ranking service members and retirees, said Magnell, who is an Army wife.

Gambling losses can be deducted on your taxes, but only to the extent of your winnings. For example, if you lose $1,000 gambling and don't win anything, you can't deduct any of your losses. If you win $400 and then lose $500, you can deduct only $400.

But it gets even more complicated. Magnell said many gamblers may think that if they win $20,000 and lose $25,000, the losses "cancel out" the winnings when it comes to tax consequences.

Not so.

That's because winnings and losses are separate when it comes to tax calculations. Winnings are reported as income upon which you will be taxed, depending on your tax bracket.

"Since gambling losses are simply a deduction from income, and not a reduction or adjustment of income, gambling can be quite costly come tax time," Magnell said.

Many gamblers don't realize that their winnings may cost them substantial tax breaks even before they walk out of the casino, she said.

Gambling winnings also can put you over income thresholds for certain programs and tax credits.

For example, those winnings could make you ineligible for the Earned Income Tax Credit, designed to help lower-income workers. For this last tax year, according to the Internal Revenue Service, that credit was worth as much as $5,657 for a couple with three or more children — if the family's income was between $12,550 and $21,450. The amount of the tax credit tapers off as income increases.

That threshold adds many types of incomes, including gambling income, to earned income. So let's say, you're a married couple with three children who earned $28,000 in 2009. Your Earned Income Tax Credit was $2,265, according to Magnell's example. If you won $15,000 and lost $15,000, your EITC plummets to $1,106. You've just lost more than $3,000 extra. Even if gambling winnings are just $2,000, your EIC would drop by $400.

That could affect you twice if you live in a state that has a state income tax, Magnell said. Your gambling winnings will mean you're taxed on a higher income. Many states give taxpayers a state Earned Income Tax Credit, so losing the EITC from the federal government means you also could lose it from the state government.

If you're a retiree, gambling winnings could result in more Social Security income being taxed. Magnell's example: People with a $30,000 income, including $10,000 from Social Security, might win $15,000 and lose $18,000. In addition to a $3,000 gambling loss, their taxes have gone up from $1,184 to $3,314 — raising out-of-pocket costs to $5,130.

Bottom line: Don't gamble. If you do, and you happen to win any money, you'd better save it — to pay the taxman's bill.

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