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I have a Discover credit card that pays 1% cash back on and 5% on select categories. My question is: why isn't that cash back "bonus" taxed when stuff like canceled debt (1099-C), interest (1099-INT), etc, is?
I mean, I'm glad that it isn't taxed lol but it just kinda feels strange that it isn't.
Since you get the rewards for spending, they are effectively a reduction of your purchase price (like buying items "on sale").
For most of these rewards that are given to consumers, the IRS treats them as discounts rather than income.
Cash back bonuses are viewed the same way as old-school rebates, it's seen as a savings on a purchase you've made (versus actual income) and thus isn't taxed. Similar also to how a discount received as a sale isn't taxed. One way to think of it is, you've already been taxed on your paycheck, which you used to make a purchase. It doesn't make sense to tax the 1% you get as a discount on the purchase because the income you used to make the purchase has already been taxed. You can't get your hands on that 1% cashback without already having been taxed on income.
Interest on investments, on the other hand, is new, fresh income and taxed as such. Canceled debt is essentially income (the creditor is literally paying your debt for you) and, again, is treated as such.
Of course, this all needs to be taken in the context that tax rules are often somewhat arbitrary and not always done in a way that lets you point to a consistent over-arching rule or decision process.
It makes sense that cash back from personal credit cards is not taxable since it is simply reducing an expense which typically is not tax deductible. But the water gets murky when the cash back comes from a business credit card. The reason is that business purchases are typically tax deductible expenses, and cash back to the business owner should theoretically either reduce the deductible expense, or count as income to the business (or owner). For now though the IRS seems to have a don't-ask-don't-tell policy for business cash back too.
The basic principle for taxation is that your income should be taxed once. You make purchases with money on which you have already paid income tax. Taxing your cashback would be double taxation. That is why you are not charged tax on cash backs.
Getting back your own money is not income.
If you pay $40 for something and get $1 back, it is precisely the same as if you paid $39 for that thing. Since you would not be taxed on $1 of income if you paid $39 for something, you are not taxed on $1 of income if you pay $40 for something and get $1 back.
Bonuses and rebates that behave like discounts are taxed like discounts. The IRS doesn't care what you call something, they care what the actual economic reality of the transaction is.
