The short answer is yes, lottery winnings are considered taxable income by the IRS. However, the amount of tax you’ll owe depends on several factors.
Lottery Winnings Are Taxed as Ordinary Income
In the eyes of the IRS, money won from the lottery is considered “unearned” income, meaning you didn’t have to work to earn it. As a result, lottery winnings are taxed in the same way as regular income from a job or self-employment.
This means your lottery winnings will be subject to federal income tax as well as possibly state income tax, depending on where you live. The top federal income tax rate is currently 37% for winnings over $539,900 (for single filers). State income tax rates vary widely but can be as high as 13.3% in California.
Withholding Tax on Lottery Winnings
When you win more than $5,000 from the lottery, a certain percentage will automatically be withheld for federal taxes before you receive your prize. The amount withheld varies depending on how much you won:
- Winnings up to $5,000 – 24% is withheld
- Winnings between $5,001 and $10,000 – 24% is withheld
- Winnings over $10,000 – 37% is withheld
Some states also require state income tax to be withheld from lottery winnings. For example, California withholds 7% for state tax when federal taxes are withheld. Lottery winners are issued a W-2G form reporting the amount won and taxes withheld.
Other Factors That Affect How Much Tax You’ll Owe
The amount of tax withheld from your lottery winnings may not cover your total tax bill for the year. Here are some other factors that can impact your taxes owed on lottery winnings:
- How much you won – Larger lottery prizes put you in higher tax brackets, so more of your winnings will be taxed at top rates.
- Other income – If you have income from other sources, it stacks on top of lottery winnings to determine your overall tax bracket.
- Claiming the standard deduction vs. itemizing – You may pay less tax by itemizing if you have deductible expenses that exceed the standard deduction.
- Length of time over which prize is paid out – Annuity prizes spread taxes out over more years compared to lump sums.
- Gambling losses – You can deduct gambling losses to partially offset taxes on winnings.
Claiming Lottery Winnings on Your Tax Return
When tax time comes around, you must report the full amount of lottery winnings for the year on your federal tax return. This gets reported on Form 1040. Any federal taxes withheld will be credited toward the tax you calculate as owed for the year.
If not enough tax was withheld from your prize to cover what you owe, you may have to make an additional payment when you file your return. On the other hand, if too much tax was withheld, you’ll get a refund for the overpayment.
In addition to federal taxes, residents in states with an income tax must also report lottery winnings on their state tax return. The same considerations around withholding and calculating final tax owed apply at the state level.
Strategies to Reduce Taxes on Lottery Winnings
While lottery prizes are fully taxable income, there are some legal strategies winners can use to try to reduce the tax bite:
- Claim the prize over multiple years – Many lotteries give you the choice between an annuity spread over 30 years or a reduced lump sum. Spreading payments reduces tax brackets in any given year.
- Contribute to tax-advantaged accounts – Contributing to 401ks, IRAs, HSAs, etc. can lower your taxable income.
- Donate to charity – If you itemize, charitable contributions are tax-deductible.
- Use losses to offset the winnings – Capital losses or business losses, if any, can be deducted against lottery winnings.
- Make tax pre-payments – In certain situations, pre-paying tax for the following year can reduce your tax for the current year.
That said, because lottery winnings are ordinary taxable income, there’s no way to completely avoid owing taxes. But the above strategies can help reduce your tax bill to some degree if properly implemented.
State Tax Treatment of Lottery Winnings
In addition to federal taxes, lottery winners may also owe state income tax on their prizes. Currently, there are seven U.S. states with no income tax that won’t tax lottery winnings:
- Alaska
- Florida
- Nevada
- South Dakota
- Texas
- Washington
- Wyoming
Among states with an income tax, most treat lottery winnings the same as federal taxes – as ordinary taxable income. Exceptions are:
- New Hampshire – No state tax on lottery winnings, other gambling winnings are taxed.
- Pennsylvania – Flat 3.07% tax on lottery prizes.
- Delaware – No tax on Delaware lottery prizes, other state lottery prizes are taxable.
Check with your state’s tax agency to determine the rules and withholding requirements for lottery prizes.
Federal Tax Reporting Requirements for Lottery Winnings
As mentioned earlier, you must report all lottery winnings when you file your federal income tax return. Specifically:
- Prizes of $600 or more are reported to the IRS on Form W-2G by the lottery operator.
- You must provide your Taxpayer Identification Number (usually SSN) to receive lottery prizes.
- Winnings are reported on Form 1040 as “Other Income.”
- Taxes withheld are claimed as credits against tax owed.
- Failure to report can lead to tax evasion charges, penalties, interest.
Keep detailed records of all your lottery winnings and taxes withheld during the year. Lottery operators are required to provide winners with a W-2G form detailing relevant information that you’ll need for tax reporting.
Federal Tax Rates on Ordinary Income Like Lottery Winnings
Federal income tax rates on ordinary income like lottery prizes are graduated based on income levels. For 2023, the rates are:
- 10% – Income up to $11,000 (single filer)
- 12% – Income from $11,001 to $44,725
- 22% – Income from $44,726 to $95,375
- 24% – Income from $95,376 to $182,100
- 32% – Income from $182,101 to $578,125
- 35% – Income over $578,125
So lottery winnings between $44,725 and $95,375 would pay 22% federal tax. Winnings above $578,125 get hit with the top 35% rate.
State Income Tax Rates on Lottery Winnings
State income tax rates on lottery prizes also vary but are often aligned to federal brackets. Some examples of state rates:
- California – 1% to 13.3% max rate
- New York – 4% to 10.9% max rate
- Texas – No state income tax on lottery winnings
- Florida – No state income tax on lottery winnings
- Pennsylvania – Flat 3.07% tax on lottery prizes
Check with your state tax authority to determine the applicable rates. Some cities also levy local income taxes that may apply to lottery winnings.
Tax Considerations for Non-US Citizens Winning American Lotteries
Lottery winnings earned by non-U.S. citizens are also subject to federal (and possibly state) income taxes. Some key considerations include:
- Non-resident aliens pay 30% tax on gambling winnings, higher than most U.S. rates.
- Tax treaties with some countries allow a credit for taxes paid to the U.S.
- Withholding rules still apply, potentially subject to tax treaty benefits.
- May need to obtain Individual Taxpayer Identification Number (ITIN).
- Estate tax may apply if winner dies within U.S. territory.
Non-citizens should consult a tax advisor to ensure compliance with all applicable rules and regulations when claiming lottery prizes.
Penalties for Not Paying Taxes on Lottery Winnings
There are various civil and criminal penalties for not properly reporting and paying taxes on lottery winnings, including:
- Interest charges applied monthly on unpaid balances
- Failure-to-File penalty – 5% per month up to 25% of unpaid tax
- Failure-to-Pay penalty – 0.5% per month up to 25% of unpaid tax
- Accuracy-related penalties – 20% of underpayment for negligence
- Fraud penalties – 75% of underpayment for fraudulent failure to file
- Criminal sanctions – $250k fine and/or prison for tax evasion
The IRS treats tax issues on gambling winnings, including lottery prizes, very seriously. Accurately reporting taxes due on your lottery winnings avoids potentially steep penalties down the road.
Getting Help with Taxes on Lottery Winnings
Figuring out taxes owed on lottery prizes can be complicated, especially for large jackpots spread over multiple years. Most lottery winners obtain professional assistance with tax planning and preparation.
CPAs and Enrolled Agents can provide guidance on minimizing taxes legally owed. Tax attorneys may also help if issues do arise with reporting of winnings. Reputable tax pros can make the process smooth while optimizing your after-tax prize.
The Takeaway on Taxes and Lottery Winnings
Lottery winnings, whether from Powerball, Mega Millions, or state lotteries, count as taxable income by the IRS and applicable state tax authorities. While withholding takes out a portion upfront, winners should plan for owing additional taxes come filing time, especially for large jackpots.
Strategies like annuitizing prizes and making charitable donations can reduce tax liability. But the bottom line is lottery winnings are fully taxable at your ordinary income rate. So be sure to keep detailed records and consider getting professional tax help when you hit it big!
