Over the past few months, I have taken up the hobby of signing up for points and miles credit cards. I signed up for 8 so far. I have bene saving up my points and miles for a trip (hopefully in a premium class) to New Delhi to see my college roommate get married!
These points and miles from these cards have real value. I signed up for the Chase Sapphire Preferred card that pays a bonus of 40,000 Chase Ultimate Rewards points after meeting minimum spending requirements. That is worth about $500 in free travel! Multiply by 8 cards…. You get the picture. How is this not taxable?
Being a tax lawyer, I worry whether I am generating some unknown tax liability that could come back to bite me in the butt. I did some research.
Earlier this year, Citibank sent out 1099’s to customers who received American Airlines miles bonuses for signing up for a checking account. Curiously no 1099’s were issued for those who sign up for credit cards. Whew! I have two AA Citibank cards myself!
IRS Announcement 2002-18 states the IRS position that it will not tax “frequent flyer miles or other in-kind promotional benefits.” That is federal income tax. What about the other taxes?
Hawaii’s general excise tax imposes a 4% tax (4.5% in Honolulu) on “gross income” from business, which includes “all activities (personal, professional, or corporate), engaged in or caused to be engaged in with the object of gain or economic benefit either direct or indirect, but does not include casual sales.” The Hawaii Supreme Court has said that the GET can cover “virtually every economic activity imaginable.”
The casual sale exception might exempt people who open one or two cards a year. What about someone like me that opened 8 cards potentially worth $4,000 in travel ($500 x 8)? Did I somehow start a points and miles credit card business that is subject to the GET?
Considering the definition of “engaged in,” the Hawaii Supreme Court in Pratt v. Kondo offered an example of when one’s side activities cross the line into a taxable business activity: “We would not think, for instance, that a house painter who serves as an executor of one or perhaps two small estates over a period of years has ‘engaged’ in the business of settling estates. On the other hand, a person who settles one substantial estate could be found to have ‘engaged’ in such a business.” When I read this, I think of two things, (1) frequency of the activity and (2) substantiality of engagement.
I am a tax lawyer that has applied for 8 credit cards (more than one or two) that each potentially pay out $500 in travel points or miles after I jump through some minimum spending hoops. So, although it is not my primary occpation, the frequency of my credit card applications/transactions could potentially give rise to a taxable business. On the other hand, the substantiality of my engagement with this purported business may be low because all I do is sign up for the card, use it to make purchases up to the minimum spending requirement for a bonus, and repeat for the next card.
Compare my activity with the person who receives 1% cash back on all credit card purchases and is presumably not subejct to GET on those earnings. That person’s activities are very frequent (daily purchases) but the earnings are insubstantial compared with the purchase, $1 in cash for $100 in purchases. My activities are less frequent but the earnings are far more substantial, i.e. $500 in travel for making $3000 in purchases, 16.7%. Of course, if I continue to use the card, the rewards to purchases percentage falls closer to the 1%.
Hopefully, my situation is similar enough to the every day points and miles card user that I do not need to be worried about incurring GET liability. Even if I do need to pay the tax, 4.5% of $4000 is not a big deal. But this example goes to show how activity that is not taxed by the IRS could easily be subject to Hawaii’s GET.