You’ve heard about the new IRS reporting thresholds for Form 1099-K that went into effect this year, but you may have some follow-up questions about how it applies to you. Let’s look at some common concerns we see from online sellers and how to handle some unique situations, like pricing and selling inherited items.
You only owe income tax on the net profits you make from a sale. To determine your profits, you need to keep track of each item’s sale price and any other expenses related to the sale.
How to calculate your taxable income from an online sale
If you are a casual seller and you sell a personal item for more than you originally paid, the profit you make is considered a capital gain. Capital gains are taxable income and must be reported on your tax return using Schedule D.
To determine your taxable gains when selling personal assets, you will need this formula:
Sale Price (what you sold the item for) – Cost Basis (what you paid for the product + any fees associated with the sale of the item) = Capital Gain (income reported on Schedule D)
Capital gains are taxed at different rates depending on how long you held the item before selling it. If you held the item for a year or less, it’s a short-term capital gain taxed as ordinary income. If you held the item for longer than one year, it’s considered a long-term capital gain. Long-term gains are taxed at capital gains tax rates, which are usually more favorable than ordinary income tax rates.
If you’re someone who learns best from examples, we will go over some capital gains calculation scenarios farther down. First, let’s learn how to calculate your cost basis and what kind of documentation you need to keep just in case the IRS has questions for you.
How to determine your cost basis
To determine your item’s cost basis, you’ll need to know what you originally paid for the item and have some kind of proof to show the IRS in case they ask for it. Typically, your proof would be a receipt or other documented proof of what you paid for the item.
How do I determine my cost basis without a receipt?
If you acquired an item long ago and no longer have the receipt, there are other ways to prove your cost basis. Look for invoices, statements, written communications, purchase history in retail apps, even before-and-after photos of the item that can show any differences or improvements made since acquiring it. For instance, if you bought the item new and later sold it in used condition, photos of the item in its original condition can help you determine your cost basis in relation to its purchase price (and vice versa).
When substantiating your cost basis for an item, anything is better than nothing. There is not one specific method you must use when keeping records, but try your best to find some kind of substantial proof just in case the IRS decides to question you.
What if I can’t find documents showing what I originally paid for the item?
If you can’t provide proof of your cost basis, the IRS could argue that your basis is $0 and require you to report the item’s entire sale price as a gain.
Knowing this, if you estimate your cost basis to calculate any potential gains, the IRS could choose to deny your calculation and require you to pay taxes on a larger gain. Just know that guesstimates should be your last resort, and you should strive to find something substantial to back up your cost basis claims if you can.
Profitable item scenario:
To break it down, let’s look at an example of a profitable online sale.
You buy a used piece of furniture at a thrift store for $100. You bring it home and spend some money to fix it up. A few years later, you decide to redecorate and sell the restored piece of furniture on eBay for $700. eBay takes $90 in seller fees, and the buyer pays for shipping.
To calculate your taxable gain, you would take your final sale price minus your cost basis (the original price you paid plus any fees related to the sale of the item):
$700 (sale price) – $190 (the original price + eBay fees) = $510 (capital gain)
Since the buyer paid for shipping, you’d be left with a net profit of $510, and you’d report that income as a capital gain on your tax return.
As you can see from this example, certain expenses can be added to your cost basis to lower your gain. If you’re a hobby seller, you can lower your gain by subtracting seller fees paid to eBay or any shipping costs you paid when transporting the item to the buyer. But the IRS does not let you deduct hobby expenses, like the cost of restoring the furniture.
If you are selling as a business, you have more deductible expenses, which can reduce your taxable income. Any profits you make when selling as a business are considered business income and reported using Schedule C.
How to know when a sale isn’t taxable
If you sold an item at a net loss against its original cost basis, there is no gain to report, and you will not be responsible for any income taxes on the sale.
Unprofitable item scenario:
You are having a “virtual garage sale” on eBay and selling personal items you no longer use. One of the items you are selling is an old gaming console. You originally bought the console in new condition several years ago for $300, and you sell it on eBay in 2022 for $50.
Since you sold the item for less than your original cost basis ($300), you do not need to pay any income taxes on the $50 you received from the sale. You’ll report the income as usual using Schedule D on your tax return, but it will amount to $0 in taxable gains.
Unique scenarios: Inherited items
Certain types of items come with their own special rules. One of the more common ones is how to price and calculate profits when selling inherited items.
How do I determine the cost basis of items I have inherited?
The cost basis of inherited assets is typically determined at the time of inheritance using fair market value (FMV). Fair market value is the current value of your item in an open market.
When calculating your cost basis using FMV, make sure you consider the item’s condition when it was inherited. If you cannot easily determine the fair market value of an item by looking at comparable sales of similar items, it might be best to get an expert appraisal.
Can I just use the value of a similar item sold on eBay or another site to determine the inherited item’s worth?
Yes, this is an acceptable way to determine the fair market value (FMV) for most items. You can research what other people are paying for the same item in a similar condition and use that information to reasonably determine your item’s fair market value.
What proof do I need to keep for fair market value (FMV) substantiation in this instance?
There is no “one size fits all” in keeping records. Make sure to also record the date of the screenshots, printouts, or another form of proof for context. The method doesn’t matter as long as you have some proof in case the IRS asks for it.
Can I use the amount I sold the inherited item for to determine its FMV?
The IRS typically will not accept the item’s final sale price as proof of fair market value. As mentioned above, you should ideally have either an appraisal or for the same price to substantiate how you determined the FMV.
Inherited item scenario:
Now let’s look at an example. Say you inherited an antique from a relative upon their death in 2020. You had the item appraised, showing that the item’s fair market value at the relative’s time of death was $3,000. You sell the item on eBay in 2022 for $3,800 and pay $50 in shipping costs. You also pay eBay $490.50 in seller fees.
Here’s how you would determine your taxable income on the inherited item:
$3,800 (sale price) – $3,000 (fair market value) – $490.50 (seller fees) – $50 (shipping cost) = $259.50 gain
You’d report $259.50 as taxable income when filing your 2022 tax return.