Congress Closes the PayPal 1099-K Reporting Loophole

When Congress passed the American Rescue Plan Act in March, it made a little-noticed change in the tax reporting rules that will make it almost impossible for independent contractors and other businesses to hide their income from the IRS by receiving electronic payments.

The big change takes effect in 2022, but there’s much to know now.

Third-Party Information Reporting

The government knows this universal truth: taxpayers are much less likely to report all their income on their tax returns when the IRS has no way of independently verifying their income. That’s where third-party information reporting (such as 1099s) comes in.

The IRS has a series of 1099 forms that financial institutions, employers, and businesses use to report various types of payments. The countless 1099s are information returns in which the payor reports the amounts paid to the recipients during the year.

The IRS matches these figures with the amount reported on the recipient’s tax returns to determine whether underreporting has occurred.

Most Famous 1099 Replaced

You likely know of Form 1099-MISC, which was in use for tax years before 2020. You generally used it to report your business’s payments to unincorporated independent contractors.

You no longer use Form 1099-MISC to report non-employee compensation. Beginning with the 2020 tax year, you file Form 1099-NEC for such payments when your business pays $600 or more to

  • an unincorporated service provider, or
  • an incorporated attorney, physician or other health care provider.

Statistics Prove the Case

Form 1099-MISC and the other 1099 information returns effectively combat underreporting of income.

Individual taxpayers fail to report about 55 percent of income from sources for which there is no information reporting. In contrast, only 5 percent of income listed on 1099 goes unreported.


As we explained in Three Strategies That Avoid 1099 Reporting and Penalty Headaches, there is a big exception to 1099-NEC (formerly 1099-MISC) reporting. A payor must file a 1099-NEC only when it pays a recipient $600 or more during the year by check, cash, money order, or direct deposit.

Since 2011, you have been able to avoid Form 1099-MISC (and now 1099-NEC) if your business pays through a third-party settlement organization (TPSO) such as PayPal or Payable, by credit card, or by debit card.

With this strategy, you push the reporting requirements to the TPSO.

Current law requires that the TPSO file IRS Form 1099-K with the IRS and send it to you when

  • your gross earnings are more than $20,000, and
  • you have more than 200 transactions

Example. You hire a consultant to help with your business planning, and you pay the consultant $30,000 via PayPal. PayPal does not give the consultant a 1099-K because this fails the more than 200 transactions in a calendar year test.

In fact, this consultant could have 10 clients, each paying $10,000 via the PayPal method, and he would not receive a 1099-K.

Credit Cards are Different

Credit card companies and banks also must use Form 1099-K to report payments by credit cards or debit cards. But for that reporting, there is no “more than $20,000 and more than 200 transactions” threshold for such reporting.

A business that accepts credit cards receives a 1099-K that shows all the monies paid by the credit card company to the business. The 2011 creation of the 1099-K did away with a big chunk of the underground economy whose members avoided paying their fair share of the taxes.

For an example of how effective the 1099 can be, see Yikes! New IRS Audit Tool: The Form 1099-K Letter.

Goodbye, 1099-K Loophole

Starting January 1, 2022, the American Rescue Plan Act kills the two-step “more than $20,000 and more than 200 transactions” threshold for TPSO filing of 1099-K and replaces it with the single “$600 or more” reporting threshold.

The Joint Committee on Taxation estimates that it will gain more than $8 billion in new taxes over the next 10 years with this change.

You may be surprised by how this change will snag millions of taxpayers, including gig workers such as Uber, Lift, Instacart, and Grubhub drivers; eBay and Etsy sellers; and of course, contractors and others who were using the loophole to their advantage.

States That Closed the Loophole

Several states have already closed this reporting loophole on the state level:

  • Maryland, Massachusetts, Mississippi,, Vermont, and Virginia currently require a 1099-K to be filed with the state tax agency if a TPSO pays a state resident $600 or more during the year.
  • Illinois and New Jersey have a $1,000 1099-K threshold (plus, for Illinois, a requirement of at least four transactions).
  • Arkansas has a $2,500 threshold.
  • Missouri has a $1,200 threshold.

Additional Clarification

Congress also amended the tax code to make clear that third-party network transactions requiring a 1099-K include only transactions for goods and services.

For example, a 1099-K need not be filed where an individual uses PayPal or a similar service to reimburse friends or relatives for expenses or to make charitable contributions. Nor does the TPSO need to send a 1099-K payment of royalties or rents. This change is effective March 12, 2021.


As a taxpayer, you want your fellow taxpayers to pay their fair share. The changes in the TPSO should stop $8.4 billion of cheating over the next 10 years. That’s a good thing.

Under current law, as in effect for 2021, when you use a TPSO (such as PayPal) to pay your independent contractors and other Schedule C businesses, you don’t need to report your payments on 1099. The TPSO has that responsibility.

For the tax year 2021, the TPSO reports the monies on 1099, but only when the contractor or other recipient has both

  • more than $20,000 in receipts for the year, and
  • more than 200 transactions during the year.

Beginning seven months from now, on January 1, 2022, for the tax year 2022, the TPSO has to send the recipient a 1099-K when the recipient has receipts of $600 or more during the year.

Keep in mind that the definition of a TPSO includes firms such as PayPal but also firms such as Uber, Lyft, Instacart, Grubhub, eBay, and Etsy.

As for now, for the tax year 2021, be alert to state law. Several states, including Arkansas, Illinois, Maryland, Massachusetts, Mississippi, New Jersey, and Vermont, already have enacted a lower reporting threshold for Form 1099-K.


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