Cash News
Two multi-state lotteries are simultaneously boasting massive jackpots. After 30 drawings without a win, the Mega Millions jackpot stands at $1.1 billion, and the Powerball prize is worth an estimated $865 million.
The odds of winning a lottery jackpot are slim — 1 in 292.2 million for Powerball and 1 in 302 million for Mega Millions, to be exact — but we’re saying there’s a chance.
So imagine for a moment you do win. How much of the prize would you take home after taxes? We’ll break it down — and suggest five ways to invest your windfall safely.
How are lottery winnings taxed?
No matter how lucky you are, Uncle Sam will still come knocking. The IRS taxes lottery prizes differently depending on how the winner chooses to get paid. You have two choices: lump sum payout or annual payments spread over 30 years. In truth, most lottery winners opt for the cash lump sum upfront, even though it ultimately means fewer dollars in their pocket — but still a whole lot.
What do federal taxes look like on a lump sum payment? The federal tax rate on any prize over $5,000 is 24%, which gets immediately deducted from your winnings. And for a large prize like the Mega Millions, that lump sum will also catapult you into the highest income tax bracket, so you’ll pay the top federal tax rate of 37% the following year.
The annuity option, which serves as a protection against high inflation, gives you the whole $1.1 billion pot over a longer time span. But you’ll still see that 24% taken off the top of every payment. You’ll also be in the highest federal income bracket and have to pay federal taxes you owe beyond that withholding.
There’s also the state tax bill
Just when you thought you’d paid the piper, here come state taxes. How much you’ll pay in state income taxes depends on where you live. New Yorkers pay the highest state tax rate at 13%, but the applicable state tax rate across the country varies from 2.9% to 8.82%.
If you’re extra lucky, you might live in one of these states that doesn’t charge state tax on income:
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Alaska
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Florida
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New Hampshire
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Nevada
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South Dakota
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Tennessee
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Texas
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Wyoming
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Washington
What would you pocket after paying Mega Millions taxes?
Odds aside, let’s say you’re the unbelievably lucky winner of that $1.1 billion Mega Millions jackpot. If you choose the lump sum payout, you’ll be paid $537.5 million up front.
However, because your winnings are also subject to a 24% tax withholding, that cash value means you’ll walk away with “only” $408.5 million to put in the bank. Depending on your filing status the following year, that sum is also subject to a tax rate as high as 37%, which means you’ll pay a bunch more to Uncle Sam at tax time. (You’d still be a millionaire many times over, don’t forget.)
If you’re willing to wait for three decades, the annual payments start at $17 million the first year and increase by 5% every year, topping $70 million by year 30. That’s before federal and state taxes.
What would you pocket after paying Powerball taxes?
Now, say somebody else wins the Mega Millions. You’ve still got a chance at Powerball. If you win and choose the lump sum, you’ll take home $413.6 million up front.
Next comes the 24% tax withholding, which means your cash value declines to $260.6 million. Then, next April, your marginal tax rate will be 37%, and you’ll pay another chunk of your riches to the government.
Under the annuity option, your annual payments start at $13 million, increase by 5% every year, and level off at nearly $54 million, before taxes, at the end.
If you want to run the numbers and see the fine print, you can use the Powerball Taxes Calculator to learn more.
5 investments that make lottery winnings pay off
Enough with the tax talk. Let’s say you hit the jackpot (literally) and have joined the billionaires club. Here’s what experts say lottery winners should do to maximize their winnings and secure a less stressful financial future.
1. Hire a financial adviser
Before you even roll up to claim the check, it makes sense to hire a financial adviser and a tax attorney or accountant who can help you manage your tax liabilities and invest money wisely.
2. Diversify your banking strategy
You might think you’re being responsible for stashing money in the bank, but remember banks are only insured for deposits up to $250,000. So be intentional about where you’re putting your money and how you’re splitting it up.
Learn more about high-yield savings, money market, and CD savings accounts.
3. Pay off outstanding debts
It’s going to be a big relief to live debt-free, potentially for the first time. Paying off outstanding loans like mortgages or credit card debt is generally a smart idea as it prevents interest from accumulating. However, keep an eye on your credit scores before leaning into living off cash on hand.
4. Invest wisely
Having extra income might tempt you to try new investment strategies, but be careful about jumping feet first into financial products you don’t understand. Stick with low-risk investments like bonds and safer stocks or equities for the first few months before branching out — and get educated about the power of compound interest.
5. Consider establishing a charitable foundation
While you might choose to keep the fact that you won the lottery quiet, family and friends will inevitably find out. It’s helpful to have a charitable foundation set up to deal with requests or gifting strategies that won’t incur an additional tax burden.