How to Calculate Tax on Prizes Won

by Michael Keenan
Finding a cash prize in your mailbox excites you and the IRS.

Finding out you've won a prize is always exciting, especially when it's a big one. However, you're not the only one who gets excited about your new-found wealth: Uncle Sam and your friends at the IRS are also excited on your behalf because they're going to take a slice of your prize in taxes. How much they take depends on how much money you won -- or the fair market value of the items you won -- and your other income. The higher your other income, the higher your tax bracket. The higher your tax bracket, the bigger your tax bill on your prize.

Add up all your taxable income for the year except for your prize. For example, if you have $35,000 from your job and a $500 bonus, your total income is $35,500.

Subtract any deductions you're eligible to claim on your income taxes, including the standard deduction and personal allowance. As of 2013, the standard deduction for singles is $6,100 and each personal allowance is worth $3,900. Continuing the example, if those plus a $500 student loan interest deduction were your only write-offs, your income would drop from $35,500 to $25,000.

Find your marginal tax rate by comparing your taxable income to the tax brackets for your filing status. In this example, if you're single in 2013, $25,000 falls in the 15 percent tax bracket, which covers income from $8,926 through $36,250.

Subtract your taxable income from the top end of the tax bracket. If the difference is more than the value of your prize, your entire prize is taxed at that marginal rate. However, if the difference is smaller, the excess prize value is taxed at the rate of the next tax bracket. In this example, subtract $25,000 from $36,250 to get $11,250. If you win a $10,000 prize, the entire $10,000 is taxed at 15 percent because it doesn't push you into the next tax bracket. However, if you win $15,000, the first $11,250 is taxed at 15 percent and the remaining $3,750 is taxed at the next highest tax rate, in this case 25 percent.

Calculate the additional taxes you owe because of your prize by multiplying the applicable tax rate or rates by the amount of the prize. Finishing the example, if you won $10,000, you would multiply $10,000 by 15 percent to find it would boost your tax bill by $1,500. If you won $15,000, multiply $11,250 by 15 percent and $3,750 by 25 percent and add the results together to find your tax bill goes up by $2,625.

References

About the Author

Mark Kennan is a writer based in the Kansas City area, specializing in personal finance and business topics. He has been writing since 2009 and has been published by "Quicken," "TurboTax," and "The Motley Fool."

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