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We're Getting Taxed for Frequent Flier Miles? Thanks a Lot, Citibank


CitibankIt's tax season, which means our mailboxes are filling up with W-2s and 1099s and other financial forms sent to the IRS to tell them how much income we need to declare. We expect statements from employers, banks, and brokerages reporting the interest or dividend income we collected in 2011. But Citibank customers may have an extra surprise in store for them.

It seems that Citigroup's (C) Citibank ran a promotion last year offering thousands of frequent flier miles as a reward for opening a bank account. That's not a novel practice -- such promotions are commonplace in the credit card world. What's out of the ordinary is this: Citibank is sending out 1099 forms reporting the miles as income.

Fly Free Now, Pay the Toll Later

Mile awards are nothing new, but reporting them to the IRS is far from standard practice.

The company says it is just complying with the tax code. It cites as its reason the 2012 instructions for the 1099-MISC form, which states that $600 or more in awards or prizes is taxable income.

If you receive a 1099 form from Citibank for miles, you have two main options: Ignore that income on your tax return, or report it.

Option 1: Ignore It

Ignoring it seems very reasonable. If you ask a good tax pro whether your frequent flier miles are reportable income, she'll generally say no. The IRS has even weighed in on this in the past, explaining that due partly to the complicated nature of mile awards, it has not been actively enforcing collections on miles.

A 2002 IRS announcement notes: "Because of these unresolved issues, the IRS has not pursued a tax enforcement program with respect to promotional benefits such as frequent flier miles."

Thus, it would seem that you're safe in disregarding miles awarded to you in various promotions, right? Well, not necessarily. Citibank may have messed things up.

Option 2: Report It

When you receive a 1099 form, it generally means that the issuing entity has reported the same information to the IRS. Thus, the IRS will be looking to see the reported data on your tax return. So that 1099 form that Citibank may have sent you is not just between you and Citibank -- it's between you, Citibank and Uncle Sam.

One reason certain tax returns get flagged for audits is that some income seems to have not been reported. So, logic goes, if you ignore a 1099 statement for those frequent flier miles, your odds of being audited may go up.

There are some times when miles are clearly taxable income to be reported, though. That's usually when they are transformed into cash or become more cash-like. For example, there are some online markets where you can trade in your miles or other reward points, receiving a set cash value.

Nuts and Bolts

Let's say you're considering reporting the miles. How big a deal would that be? Well, imagine that you were awarded 25,000 miles. Citibank has valued them at $0.025 cents apiece, so that comes to a total reported value of $625. If you're in the 25% tax bracket, that represents $161.25 in extra taxes that you'll owe -- on a trip or trips that you may not have taken and may never even get around to taking.

In a Los Angeles Times article, David Lazarus offers the example of Larry Fechter of Palm Springs, Calif., who was awarded 25,000 miles: "Adding insult to injury, Fechter said, his new Citi accounts paid less than $4 in interest on the cash he'd deposited."

What to Do

If you receive this 1099, it will up to you what you do with it. Ignoring it and running a greater risk of being audited is not an appealing consequence. But for the millions of Americans who file honest tax returns, it may not be the end of the world, either. If your return is audited because of the discrepancy caused by Citibank miles, you or your tax pro representative could make a case for why the "miscellaneous income" should be omitted, citing the IRS's own policy, from 2002.

With any luck, the IRS will clarify this matter in the near future. But there's a good chance it won't happen in time for your 2011 tax return. Until then, Citibank's customers have a choice to make.

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Longtime Motley Fool contributor Selena Maranjian holds no position in any company mentioned. Click here to see her holdings and a short bio. The Motley Fool owns shares of Citigroup

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Our dear government will always do its best to figure out all the ways to screw us.

February 05 2012 at 7:59 PM Report abuse rate up rate down Reply

There are several arguments that could be made as to the taxability of such "rewards". First, did you receive any tangible benefit from them? Citi saying they gave you something that is of no value to you does not constitute value received by you. In the business world, there are "points" and "rewards" all over the landscape which many business people simply ignore as they are not useful to that business person. Do "reward" points "awarded" for behavior that would have taken place anyway (business travel - for example) constitute value to he "recipient"? Or are they just another way for Citi-Bank to evade taxes on their own income by shifting it to the customer without the customer receiving anything of real value?

I'd say that as long as the "recipient" does not USE these "rewards", no value has changed hands, thus Citi should still be on the hook for the taxes they're trying to shift to their customers. If I were the IRS agent dealing with this, I'd disallow any deductions taken by Citi, and hit them with a penalty for filing false reports.

February 05 2012 at 1:13 PM Report abuse rate up rate down Reply

What about those cash rebates on purchases i.e 5% back on credit card puchases 500 in charges retuns 25.00 is that taxable ???????

February 03 2012 at 6:02 PM Report abuse rate up rate down Reply

This bank SUCKS they ripped my daughter off for $200.00 after making a deposit and receiving a receipt for the amount she put in. Apparently its up to the depositor to prove them wrong!! Still doing battle with them . I recommend withdrawing all funds from this institution before they steal your money! They will get it one way or another fees,fines 1099s or just remove it from your account and let you prove it

February 02 2012 at 5:21 PM Report abuse rate up rate down Reply

And what about all those miles that never get used? I find them to be a nuisance, they make it sound like they are giving me something when I know I will never use them. If I did, maybe then they could be called income, before that its just like mailing me monopoly money or coupons in the mail I also never use. I hope people quit this bank like they did BOA over that fee business.

February 01 2012 at 6:46 PM Report abuse rate up rate down Reply

It should not be considered taxable income, but rather a reduction of a purchase price. If you make a purchase with a credit card the price has been increased by the credit card fee (say 2%). If you get 1% back, it is really a reduction of the price paid rather than income.

February 01 2012 at 4:57 PM Report abuse rate up rate down Reply
Michael B.

When is a gift not a gift? When Citi decides to use it as a business expense on their taxes and not tell the customer until they get a surprise 1099 in the mail. Typical corporate duplicity. I deep sixed them 4 years ago when they tried to raise my APR to 29.99% in spite of my flawless payment history.

This action by Citi does not result from any governmental regulations as claimed below, but is a cunning business decision to lower their tax burden by shifting it onto their customers.

In this predatory environment, it behooves us to not accept any "free" gifts from our corporate overlords.

February 01 2012 at 2:05 PM Report abuse rate up rate down Reply

Selena, When you researched this what did the IRS say? OH you didn't ask the IRS, well if you would have they would have told you Citi Bank complied with the Affordable care act that Barrack Obama signed. Next time do your homework before you write a hate article.

February 01 2012 at 12:52 PM Report abuse +1 rate up rate down Reply
1 reply to KSMITHSPECTRUM's comment

The IRS cannot be held responsible for what the IRS says. You need advise on your tax return? Don't ask the IRS because they can and will disavow any advise they gave.

February 01 2012 at 2:02 PM Report abuse rate up rate down Reply
2 replies to cqdeed's comment

So organized crime has infiltrated the government as well - I guess Michael Correlone's children and grand chilren went on to be business men & women 0r work in government employment !!!

February 03 2012 at 6:07 PM Report abuse rate up rate down

It is perhaps instructional to know that Jesse James' son became a lawyer...

February 05 2012 at 1:18 PM Report abuse rate up rate down

I bought a new car last year where the program was to give you a check back.
Guess what. A 1099 was issued.
All the company had to do was say it was used to buy the car and not report with a 1099. When I trade, you can guess which company wil not be used.

February 01 2012 at 12:49 PM Report abuse rate up rate down Reply

It shouldn't be "income" unless someone actually uses the miles. And then, why not tax it? They tax everything else..

February 01 2012 at 12:34 PM Report abuse rate up rate down Reply