Citibank sends new customers a free tax turd
It's tax time once again all across the United States, and this week, Americans have been busy ratting each other out to the IRS, as required by law. And as each form was dropped into the IRS document maw, a copy was mailed to the taxpayer affected. Employees got W-2 forms from their employers. Investors got 1099 forms from their brokers. Retired folks got 1099 forms from their retirement plans. Homeowners with mortgages got 1098 forms from their lenders. Students got 1098 forms from their colleges. Depositors got 1099 forms from their banks.
But people who recently opened accounts at Citibank, picking up 25,000 frequent flyer miles as a promotion, got an ugly surprise -- a copy of a 1099 form, telling the IRS about the miles and reporting that they had a value of $645. That's $645 that the customers are each supposed to put down as income on their tax returns. If they don't, the IRS computer is going to add it onto their income and start hounding them for delinquent taxes -- or just take the surprise tax out of the refund they were expecting.
It's an unfolding disaster for Citibank from a p.r. standpoint. Some customers are furious, and the numbers of the outraged are going to swell as the tax drama plays out between now and mid-summer. A lot of customers aren't going to realize what hit them until the IRS processes their returns.
Did Citibank do the right thing? Usually, the receipt of frequent flyer miles isn't taxable to the airline customer -- it's just a tax-free rebate on money the flyer has already paid for other tickets. Even when employees get to keep miles that they didn't pay for because they racked them up on business travel covered by their employers, smart tax advisors counsel that it's a "de minimis" fringe benefit, excluded from income because it's unreasonable for the employer to keep track of something so small.
But when a bank transfers miles to a customer, there's no exclusion in play. It's a bit like the bank giving a toaster to attract a new account holder; in that case, the IRS has ruled for many years that the value of the toaster is income to the recipient. Certainly, if the bank paid a higher rate of interest to attract a customer, that would be income to the customer -- why not miles? So maybe Citibank was right; our friend and colleague Jim Maule at Villanova certainly thinks so.
But to us, the real ground for outrage is the valuation placed on the miles by Citibank. Are 25,000 miles really worth $645 on the open market? If they are, we suppose that the outraged customers can now sell the miles to raise the money to pay the tax on them. But that number seems awfully high. And avoiding that difficult valuation problem is one of the reasons often given for the policy of not taxing miles in other settings.
Anyway, condolences to the Citibank customers who are now gnashing their teeth. It's almost enough to make you want to Occupy. [Via TaxProf Blog.]