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Ability to Pay and the Taxation of Virtual Income


Adam Chodorow


Arizona State University (ASU) - Sandra Day O'Connor College of Law

September 27, 2008

75 Tennessee Law Review 696 (2008)

Abstract:     
Should virtual income be subject to real world taxes? For most people, intuition suggests that the answer to this question is no, at least if the income is left in-world. However, virtual income can have significant real-world value, making it difficult to square intuition with existing tax doctrine and policy. Those who have attempted to do so have justified exclusion by classifying virtual income as falling either outside the theoretical definition of income or into an existing tax category that is excluded from the real-world tax base. In this Article, I argue that the analysis to date and the proposals they produce are not fully satisfactory.

Instead, I offer a new approach that focuses on virtual income's impact on a taxpayer's ability to pay real-world taxes. The ability to pay is a core tax concept, and using it yields results consistent with intuitions, existing doctrine and tax policy. Relying on ability to pay, I argue that the taxation of virtual income should be a function of a taxpayer's ability to cash out. Virtual income from worlds that preclude participants from cashing out should be excluded from the tax base, as the receipt of virtual income does not increase their ability to pay real-world taxes. Virtual income from worlds that permit participants to cash out should be taxed.

However, practical concerns regarding tax evasion and costs may warrant overriding these initial conclusions. To account for these concerns, I propose that Congress empower the IRS to issue world-specific rulings on the taxability of virtual income and adopt a de minimis threshold based on the $600 reporting threshold found in the code. Taxpayers whose virtual income in a taxable world exceeds the threshold would owe tax on all their virtual income from that world.

Number of Pages in PDF File: 58

Keywords: tax, taxation, federal income tax, virtual worlds, virtual reality

JEL Classification: H20, H24, H29, K34

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Date posted: September 28, 2008 ; Last revised: August 9, 2012

Suggested Citation

Chodorow, Adam, Ability to Pay and the Taxation of Virtual Income (September 27, 2008). 75 Tennessee Law Review 696 (2008). Available at SSRN: http://ssrn.com/abstract=1274731

Contact Information

Adam Chodorow (Contact Author)
Arizona State University (ASU) - Sandra Day O'Connor College of Law ( email )
Box 877906
Tempe, AZ 85287-7906
United States
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