The Powerball has never been so high – so here is my obligatory blog post on what to do when you win the jackpot.
The most obvious answer is a pretty simple one – don’t worry about it. Everything will work out. You now have tons of money, and you can probably buy most of the things you want. But then the other questions arise – what do you do with the rest of the money once you have all of the things you wanted? Do you share? Do you spend? Do you invest, save, try to change the word?
Whatever you do with the money will have tax consequences. But there’s another thing to consider: if you know what you would do with the money if you happen to beat the odds – planning ahead can help minimize the tax impact.
What are the tax consequences of winning the Powerball? It depends.
The first thing to realize when dealing with the tax consequences of a transaction – especially one involving a windfall – is that it is much better to plan ahead than to react to the situation after the fact. Even once you’ve won the lotto, you should be making a plan for your money going forward.
If you plan to spend your winnings until the money is gone, this post probably isn’t for you. Have a good time and invite some friends along for the ride. Keep reading to see what you consider before and after you win that $1.5 Billion jackpot (or $4.3 Million if you share.
I started writing this post trying to think of hypothetical situations to illustrate the tax considerations that come along with winning a large cash prize. Thanks to the internet, I didn’t need to think at all. Meteorologist Kevin Lighty has announced on facebook that he has vowed to share his winnings with anyone who likes, comments on, or shares his picture of the lotto ticket he purchased. (For those playing along at home who don’t have facebook, you can still buy yourself a much bigger share of those same winnnings with the following numbers: 05 36 45 60 63 P: 01.)
So, here’s Mr. Lighty, vowing to share his winnings. Other lawyers out there, correct me if I am wrong – has Mr. Lighty created a trust with this post? Has he created a partnership, a joint venture, or some other common enterprise? First of all. Mr. Lighty fails to mention how much of the winnings he plans on sharing. But let’s assume (since he is calling it a “facebook pool”) he is treating it as if everyone who engaged with the post has an equal interest in the winnings.
Assuming also, that despite Mr. Lighty’s vows to the contrary, there is nothing legally binding that will force him to follow through on his pronouncement – what if he decides that he will be a man of his word and follow through anyway?
Step 1) Post on Facebook.
Step 2) Actually win the Jackpot
Step 3) Actually made good on your promises
Step 4) Pay a hefty tax you no longer have the money for.
The issue here is that, if his post is not legally binding, Mr. Lighty will technically have income in the amount of the entire prize because the money would be his and he could do what he wants with it. That is the very definition of income. When you increase your wealth and no one else has a claim to it – that’s income!
So, if Mr. Lightly meant that he was sharing the actual winnings equally, well – then he might not even have enough (after the 25% federal income tax and any state income tax is withheld) to send the money to his facebook friends. On top of that, Mr. Lightly will owe the rest of the tax (roughly 15%) when he files his return.
What if Mr. Lightly decides that what he really meant was that he would share the after-tax dollars?
That might be fine if we didn’t have a gift tax in this country. But we do. lifetime exemption (currently $5.45 Million) along with an immediate exclusion per recipient (of $14,000). So if Mr. Lightly actually shares more than $14,000 with any individual – he will need to file a gift tax return. Once the amounts exceeding $14,000 per person add up to over $5.45 Million in “taxable gifts” he will owe a tax on his generosity.
Did you just do what I did and check my math? Yeah – sorry about that. The internet has a weird was of making people weird with math. I think that based on 150,000 interactions, Mr. Lightly would be sharing approximately $4.3 Million with each person. Did I get that wrong? Oh I’m sorry it’s only $3 Million
Lump sum (after tax): $450 Million ÷ 150,000 interactions = $3 Million, right?
Expanding this (apparently imperfect) example to you when you win the Power ball
If you intend to share if you win, do plan ahead. If you buy the ticket with/for a group, you should put your agreement or evidence of your intent in writing. Otherwise – giving $4.3M to each of your closest family and friends could leave you stuck with a fairly large gift tax bill.
Not all is lost if you wake up tomorrow, find yourself a big winner, and haven’t planned ahead. You still should be thinking about whether or not to take the payment in a lump sum, or spread out the prize as an annuity. With the lump-sum option, the entire prize is taxed when received, if the prize is taken as an annuity, it is only taxed as the payments come in. If you want to share the money with your friends and family, you can still start by giving each person $14,000 a year without worrying about being required to file a gift tax return.
If you are feeling charitable, but also want to share with family and friends, you can set up a charitable lead trust or a charitable remainder trust. Speak with an attorney about this once you get real lucky and you don’t know what to do with your money.
But I think you should just figure out how to spend it all while you are alive. On yourself.