Death, Taxes, and Diablo III

As I have spent the majority of my 30 years in the Philadelphia area, it’s only appropriate that I start with some words from the greatest Philadelphian in history, Benjamin Franklin.  He did a lot of great things, mainly illustrating his well-versedness in badassery, but it was something he said that was relevant to today’s topic.  While speaking of the Constitution in a letter to Jean-Baptiste Leroy (not of Jenkins lineage), he said: “in this world nothing can be said to be certain, except death and taxes.”  It became a commonly used phrase over the next 200+ years, as the validity of the statement really has withstood the test of time.  And now, in 2012, it can also be applied in our digital age. Surprisingly not even Blizzard’s Diablo universe can escape.

Anyone who plays Diablo III, or actually any player that has played any game in the Diablo series can attest to the first half of ol’ Ben’s epithet.  Death is certain.  That’s become more true with every iteration of the game.  With always-on single player mode, even more so.  In Hardcore mode, even more.  But what they may not realize is that the other half of the saying also holds in the realm of Sanctuary.  Yes that’s right, taxes.

Let me jump back to World of Warcraft for a second before I continue for those of you that aren’t familiar.  In that game, Blizzard had implemented an auction house system to buy and sell items in game between users on the same server.  Someone selling an item could do so by holding an auction or setting an outright buyout price.  This concept spilled over into the world of Diablo III, where the same kind of auction house has been put in place.  The difference is that in WoW all of the transactions (well, legal ones) were strictly based on gold, the in-game currency.  Diablo 3 has a somewhat evolved version of that concept with two auction houses – one for in-game gold transactions, and one for real money.  Yes that’s right, you can buy and sell in-game items with other players for real cash monies – cold hard American greenbacks.   And it’s really changed how the game works.

So this may be a method to cut illegal real money trade for digital goods, but let’s be real, there’s plenty of money to be made in making illegal trade both legal and regulated.  It works as a continuous revenue stream for Blizzard too, since Diablo III’s not subscription based like WoW. Oh yes, they get their cut.

The real money auction house wasn’t available to players until June 12^th, but when it did launch it kind of got my gears turning.  The cost structure is pretty basic – the seller sells, the buyer buys, and Blizzard gets up to 15% of the transaction fee for brokering the deal.  So if one was so inclined, they could turn the game into a personal revenue stream to make a little extra money on the side, after Blizzard takes their fee.  Doing it enough and doing it well could in theory fetch a player some good dough, as players with disposable income clamor for shortcuts to legendary loots.  So once you get to that place, where you’re making some profit from the game, you might have to start thinking about taxes.  No, not the 15% Blizzard cut or the 6% most of you paid when you purchased the game.  I’m talking about income tax that you could owe to the IRS off of your Diablo III profits.

Taxes are a tricky thing, especially in the digital age.  What you owe doesn’t just come from a W-2 or a 1099 anymore.  A lot of stuff people buy is online, untaxed, meaning in most places you have to declare those purchases on your tax returns and pay what’s called a “use tax.”  And sometimes people make money off of other things like hobbies and side businesses.  There have been a lot of arguments on the battle.net and Blizzard forums about this exact topic with respect to the real money auction house – so  yes or no, are your real money auction house earnings taxable?

Tushar’s short answer: YES.

Tushar’s long answer: Anecdotally, yes.  I’m not a tax professional and for any concerns you should contact one should you be living real money auction house fabulous.  Then again I don’t think I really need to be a tax pro for this, because as it turns out, I can read English.

You see unfortunately, reading the terms of use and other end-user agreements isn’t something the average user feels it’s necessary to do, even when there’s money concerned.  So first some advice – if you are one of those people, start reading these things.  Second, it’s laid out plain as day in section 10 of the Diablo III Auction House Terms of Use (that all of you have already agreed to if you’re using it):

10. TAXES. You are responsible for taxes incurred when you use the Auction Houses. All auctions are deemed to occur in the United States of America and are subject to all applicable state and federal tax laws and regulations. Proceeds from auction sales may be considered income for tax purposes. You should consult with a tax specialist to determine your tax liability for these transactions.

There you go kids.  “Proceeds from auction sales may be considered income for tax purposes.”  But now here’s the fun part – you’re the one that has to report it, as folks that make money off of services like eBay do.  Blizzard's not your employer in this scenario.  You made money selling your digital wares to another player, and they were just the agent.  I’m pretty sure you’re not going to be getting a W-2 in the mail from them before tax time.  Chances are if you’re not the type of person that reports online purchases for use tax, you’re not going to be reporting this either, and you’ll probably be ok because you don’t make a lot of money from it.  If you are in fact making a few grand on it, kudos to you and your keen understanding of game economics.

But it gets even more interesting.  Let's consider for a second the stock market.  I buy a $100 issue and tomorrow it increases in value to $110.  Technically I made $10, but I never realized the profit.  It's not real cash in my pocket.  So I don't pay tax on that $10 I made until I sell the stock to realize the profit, and it becomes real cash in my pocket.  Blizzard has a digital wallet system that seems to kind of work the same way and in my opinion a parallel could be drawn.  Technically what's in your Blizzard wallet isn't "real" cash, and may be exempt from taxation.  If you're working through PayPal on the other hand, I believe they're now required by the IRS to report your PayPal income as a third party settlement organization. 

Bottom Line?  If you make income - any income, it's reportable to the IRS.  Not always taxable, but reportable.  There's no explicitly listed  minimum value that makes income reportable.  In this particular case, in my opinion, I would say anything below the cost of the game wouldn't be considered income.  So if you made a few bucks on the real money auction house, just report it.  It'll make your head hurt far less, minimize your tax risk, however little it may be, and you still come out in the black.

Just keep your receipts, kids.