Here’s the tricky thing about these fees: the merchant account deposits your net sales in your bank account and it’s not always easy to determine what these fees are or how much your gross sales are by simply looking at your bank statement.
Why does this matter? The IRS expects you to report your gross income (income that you earned before any fees were deducted) on all sales, which means you need to know exactly how much your merchant fees are to add these to your net sales to calculate gross.
What is a merchant fee?
Merchant fees, also known as transaction or seller fees, can include anything from shipping, advertising, or hosting—anything the merchant account charges you for making a sale on their platform.
When you make a sale, the merchant account deposits your net sales into your bank account. This means they’ve already deducted any fees from your gross sales.
For example, if you sell $100 (your gross) worth of product on Amazon and they charge you $25 in fees, only $75 (your net) is going to be deposited into your bank account.
You’ll need to record gross sales and these fees in your bookkeeping for the IRS. Another reason you’ll want to keep track of merchant fees: they’re tax deductible.
Helpful resource: What is a Merchant Account?
Form 1099-K is prepared by third-party processors like PayPal and Amazon to report the payment transactions they process for sellers in the calendar year. The merchant account reports your gross sales (this includes revenue from card payments that were refunded) and files a copy of the 1099-K with the IRS. The amount on Form 1099-K will be different than the amount that was deposited into your bank account. In addition to merchant fees, you may have refunds, chargebacks, or holds. These are all deducted from your gross sales before the final net amount gets deposited into your bank account.
However, the merchant account only prepares this form if you meet the following threshold:
- Over $20K in transactions in the calendar year; and
- Over 200 transactions in the calendar year.
Note that this threshold is set to change for the 2024 tax year. As a result, reporting will NOT be required unless the taxpayer receives over $20,000 and has more than 200 transactions in 2023. The new threshold was to be $600, but this transition has been delayed.
IRS delays implementation of $600 Form 1099-K threshold
The IRS has deferred the implementation of the new $600 Form 1099-K reporting threshold for third-party settlement organizations for the 2023 tax year, reverting to the previous threshold of $20,000 and over 200 transactions. This decision, a response to feedback from small business owners and tax professionals, aims to lessen confusion and administrative challenges. The IRS plans a gradual approach, proposing a $5,000 threshold for 2024 before eventually adopting the $600 limit.
For small business owners, this means a reprieve from the anticipated influx of Forms 1099-K, which could have impacted many unexpectedly. The IRS is also considering simplifications to the Form 1040 and related schedules for 2024, to ease the reporting process for businesses.
Importantly, the delay only affects business transactions. Personal transactions like gifts remain exempt from Form 1099-K reporting. The IRS is seeking feedback from small business owners on these changes, aiming to balance legal compliance with reducing the reporting burden.
Bookkeeping for merchant fees
Luckily, your merchant provider has sales reports online that will show in detail the gross sales, fees, returns, chargebacks, and any other related costs (no need to hit that panic button!). But you need to include all of that information in your bookkeeping.
Let’s take a look at an example below of what these reports could look like and how it gets applied to your books:
Above, we have an example of Amazon’s seller report. This is for a specific date range and outlines all sales, refunds, fees, and rebates.
Here we have an example of what a merchant adjustment might look like in your bookkeeping. This adjustment grosses up your net sales and includes all merchant fees, returns, and other expenses such as shipping.
Say you sell party supplies on Amazon. You make a sale and $100 is deposited into your bank account. You have $10 of operating expenses so your net profit is $90.
$100 (Net Revenue) - $10 (Operating Expenses) = $90 (Net Profit)
Now, let’s take a look at these numbers when you adjust for gross sales and merchant fees in your bookkeeping:
The $100 sale you made on Amazon cost you $10 in merchant fees. You or your bookkeeper would gross up your sales to $110 and include the $10 merchant fee as an additional operating expense.
$110 Revenue (Gross Revenue) - $10 (Operating Expenses) - $10 (Merchant Fee) = $90 (Net Profit)
After this adjustment is complete, you now have your gross revenue and any other associated merchant fees on your books, which is exactly what the IRS is looking for.
In the event that you don’t meet the Form 1099-K threshold (and are off the hook from having to file the form), you’ll have your gross sales number handy come tax time.
When to call in the pros
Worried about doing these adjustments correctly? Try Bench—we’ll take care of your bookkeeping for you (including merchant fees). Plus, if you currently use Square, Stripe, or Shopify, you get 20% off your first 6 months and a dedicated bookkeeper who will do all the heavy lifting for you.