"Dragon Slayers or Tax Evaders?"
Legal Affairs hosts an article by Julian Dibbell about the intersection of tax laws and virtual worlds. Here is an excerpt:
...."In the course of this project, I made a total of $11,000 selling on eBay the items I won playing a game called Ultima Online, $3,900 of which was in the final, most profitable month. I reported my profit to the IRS, and I paid the requisite taxes. But after I did so, a troublesome set of questions continued to nag at me—for which even IRS publication 525, entitled "Taxable and Nontaxable Income," couldn't provide answers.
This was remarkable, for publication 525 would appear to contain every conceivable form of income known to accounting. To read it once is to realize that you know nothing about income. Here you'll find a description of gains, ill-gotten and otherwise, so irregular that they can be taxed only according to that form of guesswork known as fair market value. Here are stocks, options, retirement watches, and stolen goods ("If you steal property, you must report its fair market value in your income in the year you steal it unless in the same year, you return it to its rightful owner").
Most significant for my purposes, here too are items acquired either through barter or as prizes in a game. The rules make clear the IRS's fundamental point: Goods taken in trade or won at play are taxable the moment they fall into somebody's hands, even if they are not sold for money. The more I read, the more I wondered whether reporting the amount I had brought home from selling virtual items on eBay was enough to satisfy the IRS." ....