Edwin Castro from California won a record-breaking $2.04 billion in a lottery drawing held in November 2022, and Maine witnessed another historic moment as one of its residents won $1.35 billion in the Mega Millions jackpot. Irrespective of the amount won, it is crucial to carefully plan what to do with the prize money to avoid falling into the same pattern as many lottery winners who squander their wealth quickly. The time to claim lottery winnings varies by state, and it is essential to take some time to plan how to handle the money before claiming the prize. It is also important to be aware of the tax implications of winning a large sum of money, file tax returns, and pay the taxes owed to avoid interest and penalties. Seeking professional help from financial, tax, and legal advisors is recommended to navigate the complexities of winning a large prize.
Take your time. Lottery winners typically have a specific length of time to claim their winnings, although the deadlines vary by state. For example, under title 8, section 382 of the Maine Revised Statutes, the Maine Mega Millions winner has one year after the drawing to claim the money. If it is never claimed, it will be transferred to the state’s general fund. In North Carolina, however, the prize must be collected within 90 or 180 days of the end of the game or drawing, depending upon the type of lottery prize you have won. Although it is not wise to delay too long, you should take time to think carefully about what you would like to do with the cash you have won, preferably even before you claim your prize.
Manage expectations. If your lottery winnings have substantially increased your wealth, you may discover that your popularity has also grown. Some family members, acquaintances, and scammers are likely to want a piece of your winnings. Do not feel pressured to do anything that you do not genuinely feel good about, and be firm about your choices, regardless of attempts to make you feel obligated or guilty. Nevertheless, you may choose to be generous with your winnings, making gifts to family members, loved ones, or charities. However, keep in mind that large gifts may have tax consequences. In 2023, the annual gift tax exemption amount is $17,000 per recipient. This means that, with a few exceptions, if you give more than $17,000 to someone other than your spouse or a dependent, you may be subject to gift tax. However, many people avoid owing taxes by filing a Form 709 and subtracting any amount exceeding $17,000 from their lifetime exemption amount ($12.92 million for 2023).
Keep an eye on income tax consequences. Although the winner of California’s lottery opted to receive a lump sum of $997.6 million, he will not actually receive that amount, which is the amount of his winnings before taxes. Mr. Castro should hold off on buying any private islands until all of the taxes on his winnings are paid. Before the state of California gives him any of his winnings, 24 percent—$239.4 million—will be withheld and sent directly to the Internal Revenue Service (IRS). In addition, because the highest federal income tax rate is 37 percent, an additional 13 percent—$129.7 million—will be due in April 2023. After these federal tax payments are made, Mr. Castro will be left with a relatively paltry $628.5 million. Depending upon the state and city in which lottery winners live, their prize may also be subject to a state tax.
It is important to file tax returns reporting your winnings and pay taxes owed to avoid interest and penalties. There is a 5 percent per month penalty for each month after the due date up to a maximum of 25 percent for failure to file your tax return on time. If you file your tax return on time, but do not pay all of the tax you owe on time, there is a failure-to-pay penalty of one-half of one percent per month up to a maximum of 25 percent of the amount of unpaid taxes. The amount of the penalty will increase if the IRS issues a notice of intent to levy property as a means of collecting the amount due. If your prize winnings are substantial, these penalties could also be sizable.
It is also crucial to make a good faith effort to ensure that your tax return accurately reports your winnings and not take any steps to willfully evade paying taxes owed. In 2021, an Ohio man who won $1 million in the lottery was charged with filing a false tax return to avoid taxes. According to court documents, the man, who pleaded guilty, had falsely claimed large gambling losses and transferred significant sums of money to foreign bank accounts that were not disclosed to the IRS in an effort to avoid paying taxes on his winnings. The maximum penalty for filing a false tax return is three years in prison and a fine of up to $100,000.
Contact professional advisors. The financial, tax, and legal issues that arise when you win a large prize can be overwhelming if you do not seek help. Before you make any major purchases or gifts, it is important to immediately contact a team of professionals to help you think through how to handle your winnings. If you would like to preserve your new wealth and enable it to grow, it is important to contact a financial advisor who can help you make wise financial decisions that are most appropriate for your unique situation. A tax advisor will also help you make important decisions such as determining whether there are more tax savings from receiving the lottery winnings as a lump-sum or installment payments, as well as make sure you file an accurate and timely tax return and pay taxes owed by the IRS’s due date.
In conclusion, winning the lottery can be an exciting and life-changing event, but it also comes with significant financial, tax, and legal implications. To ensure that you make the most of your newfound wealth, it is crucial to carefully consider your options and seek the advice of professionals such as financial advisors, tax advisors, and estate planning attorneys. By doing so, you can make wise financial decisions, avoid tax penalties, and protect your assets for yourself and future generations. With the right guidance and planning, winning the lottery can truly be a once-in-a-lifetime opportunity to achieve financial freedom and create a lasting legacy.
Call us today to set up an appointment so we can help you create a plan that will maximize the benefits from your lottery prize during your lifetime and create a lasting legacy for your loved ones. Call Santaella Legal Group, serving all of California, at (925) 831-4840, or reach out to us here.