Cross border Taxation – How Professional Athletes are taxed in the U.S.

Cross border Taxation – How Professional Athletes are taxed in the U.S.

Our guest blogger for November is Jonathan Miller, CPA (www.millerjcpa.com) and through an interview, he has given the Money Smart Athlete an overview and insights on how taxes work for athletes in the United States.  Jonathan is the co-founder and president of the Sports Financial Advisors Association in the United States and his CPA practice in Arizona has been advising a number of athletes for more than 30 years.

MSA:  How are professional athletes taxed in the US for salary and non-salary (endorsements, etc) revenue?

[JM]  These two types of income are taxed differently in the US. First, salary is paid to an employee, and in the four major sports athletes are employees by law and by IRS rules.  Thus, they are paid by salary and have taxes withheld from their paychecks estimated on what they will owe with that salary.  If the athletes play in a different “solo” sport, such as golf, they can create a corporation to receive the income from their winnings.  Similarly, an athlete who gets paid as a contractor for appearances or receives royalties, can be paid through his/her corporation and can use business deductions to reduce the taxable income.  The recent changes in the US tax law in 2018 have created the necessity for all athletes to have a “loan out” corporation that “loans out” the services of the athlete for appearances, endorsements or other uses of their name and likeness “off the field”

MSA:  What is the difference in taxation for professional athletes in team sports versus individual sports?

[JM]  As I mentioned above, the huge difference is that athletes who are part of team sports are, by IRS definition, employees of their team and thus are paid by W2; changes in the tax law for 2018 have eliminated 100% of the ability to deduct any expenses related to their job that they pay out of pocket, including commissions to their agents, which sometimes can be in the hundreds of thousands.  This one change alone has cost athletes in team sports tens of thousands of dollars in taxes.  Those in individual sports can create a corporation and have their winnings paid to their corporation and claim tax deductions directly related to their sport directly as a reduction of that income, thus considerably reducing their tax liability.

MSA:  How important is the state where an athlete is domiciled?

[JM]  For some athletes it is critical.  But for a team sport, it may not matter if none of your games are played in your home state.  If you reside in Florida, which has no state tax, but play in California, then you are taxed based on where the games are played and, your team plays half their games in California.  The only time where state residency can be beneficial is for endorsements, royalties or other income that is not “earned” in any particular state or it is earned while the athlete is in his home state.  However, there have been cases where race car drivers with endorsements on their cars, have been sued by the IRS for not reporting earnings in proportion to the percentage of the endorsement earned while the car is driving in a particular state or country.

MSA:  What is the ‘Jock tax’ and how does it work?

[JM]  I believe that the Jock tax is nothing more than being taxed where you earn your money.  Every state wants their share of income taxes on every employee.  So an athlete who plays in a state, earns a portion of their salary during the game and should pay state taxes in that particular state.  But fear not, most states allow a credit for taxes paid in other states to avoid double taxation.  Actually, the Jock Tax is no more than an inconvenience of having to file in multiple states.  This is no different than an entertainer who goes on tour:  their tour revenues are earned and should be taxed in each state that concerts are held.

MSA:  What types of deductions are athletes generally allowed in their tax returns (federal and state)?

[JM]  As mentioned above, as of 2018, NONE for unreimbursed employee business expenses!  Athletes are allowed the same deductions that all of us can take including Home Mortgages, Charity, State and local income and property taxes.  The new IRS laws have limited some of these deductions as well.

MSA:  How has the recent tax reform act affected the taxation of professional athletes in the US?

[JM] As discussed above most of the deductions previously allowed for athletes are no longer deductible.  Now, it is CRITICAL that all athletes meet with a CPA who is experienced and knowledgeable about how to structure a loan out corporation to limit the amount of federal taxes and to take advantage of all of the deductions that the IRS allows for business expenses while “off the field”.

MSA:  What should a professional athlete look for when choosing his/her tax advisor?

[JM]  Experience and Knowledge, as well as the ability to UNDERSTAND and TEACH the clients!  It is important that athletes understand their taxes and their tax return.  They sign it UNDER PENALTY OF PERJURY!  An error by a CPA will not give the taxpayer freedom from the IRS.  It’s the TAXPAYER who pays the tax, pays the penalties and can go to jail, even if he/she has “relied” upon their CPA for advice.  Also athletes need to make sure that the tax preparer is a CERTIFIED PUBLIC ACCOUNTANT.  There are a lot of “tax preparers” who are allowed to legally prepare taxes and file them with the IRS but do not have the hundreds of hours of education and continuing education requirements that a CPA must have.  Many financial advisors have tax people who prepare returns to save money for their clients and the tax preparers are not familiar with athletes.  Also, there are many tax preparers and CPA’s who will take advantage of a wealthy athlete.  Tax returns should not cost 5,000 to -10,000 thousand dollars just because there are a lot of zeros on the income component of the tax return!  Most tax returns for W2 (salaried) athletes can be done in a few hours at a cost of less than US$2,000.  I recently heard of a young man who played in the G-league for the NBA quoted US$2,000 to US$3,000 for his tax return.  Because most athletes have never had a CPA before, they don’t know that they are getting ripped off.

MSA:  Any final word of advice to U.S. athletes?

[JM]  My final word of advice to athletes:  Do not be too cheap when it comes to your tax return.  Pay a fair price for a good return but most of all, understand what the CPA is doing because YOU are the one who will get in trouble and the tax preparer may be long gone 3 years later when the IRS comes calling!

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