Is this money taxable ?

Question

Weird question, but hopefully not too complex for those who know these things.

My good friend started a small business, and was doing pretty well with it. Just him, no employees. He asked me if I wanted in (mainly financially), and I trust him and said yes. We did not have a legally binding arrangement. If we made money, great, I would benefit in years to come.

Things were going well, and business was growing. We did not pay ourselves but just kept investing in the business. He did the bulk of the work, but I also put in hundreds (thousands?) of hours across perhaps 1.5 years. He got married, moved, covid hit, priorities changed. He decided to close up shop. He paid me back the money I had chipped in, plus an extra amount.

Is this extra money taxable? Can it be viewed as a gift? I’m not worried about the government coming knocking for it, but I want to do the right thing.

? · Answer

The extra amount is taxable.  You should have him give you a 1099 or a K-1.

If it is under $300, though, I wouldn't bother.

Paul · Answer

This is the problem with failing to nail down the character of income and expenses. Next time get advice before you conduct the transactions.

When you just do very loose transactions and wait to see what happens, the transactions can be characterized by the IRS in a manner that is not beneficial to you.

For example, say you get audited next year. The IRS will do a bank deposit analysis to make sure you're reporting all the income that went into your bank account. If there is something that was not taxable to you, like an inheritance or repayment of a loan, the IRS will accept it as nontaxable as long as it's documented. If you don't have verification that the money you received was a loan repayment and not earned income, the IRS will call it earned income and you'll owe not only income tax but also self-employment tax (about 15%).

Not that I'd advocate back-dating documents, but if you had a document showing that you loaned your friend money, and documentation that he paid you back without interest, that would be accepted by the IRS as a loan repayment, not taxable to you. If you can't produce that documentation, the IRS will almost certainly assess tax on the amount.

If it's only a couple thousand dollars don't lose sleep over it. It sounds like it was a legitimate loan that was paid back, which would be nontaxable. Convincing the IRS without documentation is the issue.

Wayne Z · Answer

General rule:  Everything is taxable unless Congress says that it isn't.

The profit that you made is definitely taxable.

Gifts must be unconditional.  That means that you must not have done anything to earn this money.  You did do something and in exchange, you made a profit.

Pearl L · Answer

i would ask a tax place about it

Is this money taxable ?

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