IRS targets the gig economy — and misses

The IRS is going after the gig economy, dramatically lowering the threshold for reporting income outside traditional workplaces. But if you've been keeping your side hustle off the books, the new rule probably won't be what forces you to come clean.

As of Jan. 1, Venmo and other payment apps are required to alert the IRS when a user receives more than $600 annually for selling goods or providing services. Previously, IRS notification was necessary only when there were more than 200 transactions totaling at least $20,000.

It's a lot harder to shirk tax obligations when income is reported to the IRS because it creates a “paper” trail. The way it's supposed to work now, once a business user hits the $600 limit, the payment app will send them a special tax form to fill out and also notify the IRS. Then, when the person files their taxes, the government can check to make sure they've disclosed the same amount that was reported by the payment network.

It's typically a red flag for the IRS if someone has received one of those forms but hasn't reported any additional income.

Not surprisingly, there's been a backlash against the new provision. Etsy sellers, Airbnb hosts, hairstylists and more say they're being targeted by the IRS while audit rates for the wealthiest Americans have dropped to less than 2%.

But attacks about fairness miss a much more basic fact: The rule is easy to ignore. If lawmakers and the IRS are serious about Uncle Sam getting his bite of gig economy income, they're going to have to put more teeth into it.

IRS notification under the new rule is limited to commercial transactions, while personal reimbursements, gifts and charitable contributions are exempt. But the law was written in a vague and confusing way, giving the payment apps and many of their customers plenty of wiggle room. Overwhelmed by years of underfunding and facing a backlog for this year's filing season, the IRS hasn't offered much clarification or additional guidance. So it's been left to the payment networks to decide for themselves how to comply.

And that's leading to more confusion as compliance rules diverge. For example, Cash App says it will only report on users with business accounts, so those operating a side business under personal accounts may have the easiest time avoiding additional taxes. But Venmo's website says it will send a tax form to any customer with transactions for goods and services above $600 in both personal and business accounts. Meanwhile, Zelle says it doesn't have to comply with the reporting requirement at all.

On Venmo's part, the payment company says it will freeze account holders' funds if they fail to provide their Social Security numbers and other tax information as requested. But to get to that point, payments must have been classified as a business transaction in the first place.

As it stands now, much depends on the person making the payment, who must check the correct box when sending across their money to indicate whether it's business or personal.

Venmo users may not even notice the prompt to toggle yes or no if the payment is for a good or service. Some simply may not care enough to bother, and yet others may have agreed with the recipient of the funds to classify the transaction as personal.

Regardless of the motivation, it's very unlikely that a person making a payment is going to suffer any consequences for getting it wrong. The bar is high to show that the person buying a good or service has intentionally misclassified a transaction or knowingly violated the law, says Steve Rosenthal, a tax attorney and senior fellow at the Urban-Brookings Tax Policy Center.

Some side hustlers may decide they'd rather just deal in cash than have to face new reporting requirements, even if they're easy to dodge. But given the convenience of cashless payment apps, especially as people increasingly transact remotely, most will continue using them. For the government to get its legal share of that growing income category, it's going to have to plug a lot of holes in its rule. Maybe it should start by deciding who it's going to make accountable for compliance.