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Student athletes: Payment for services?
Will the O’Bannon case cause you to change?
A California court decision may impact your operations in 2016. Those football and basketball stars at your school may soon start receiving taxable payments under the O’Bannon ruling.
In O’Bannon et al. v. NCAA, a judge for the Federal District Court for the Northern District of California ruled that NCAA regulations barring payments to college athletes were in violation of antitrust laws. The lead plaintiff in the class action lawsuit was former U.C.L.A. basketball player Ed O’Bannon.
After more than 10 years after graduation O’Bannon discovered that his likeness was being used on a videogame without his consent or compensation. He filed a lawsuit. The court ruled in favor of O’Bannon. This ruling allows colleges with football teams in the top 10 conferences and colleges with Division I basketball teams to offer recruits a share of:
- the revenues generated from their use of recruits names, images and likenesses while they are in school. This compensation can be in addition to a full scholarship.
- The revenue from licensing is to be deposited annually into trust funds for the student athletes and paid to the recruits when they leave school, or when their eligibility expires.
The ruling is set to go into effect July 1, 2016 and applies only to football bowl subdivision football recruits and Division I basketball recruits. The NCAA has appealed the ruling.
Steve Hoffman, The [email protected] 2015
Athletes and Scholarships and Tax Info
“Qualified” scholarships are excluded from gross income under Section 117 of the Internal Revenue Code. This means the recipient does not pay tax on the scholarship funds if certain requirements are met.
1. The student must be a degree candidate at an eligible educational organization and
2. The scholarship must be used for “qualified” expenses.
Qualified expenses are tuition and fees, as well as books, supplies and equipment required for course work. Room and board, travel, and other costs are not qualified expenses.
It has long been held in the employment tax area that if the student is required to perform services for the school to receive the scholarship, the funds attributable to the services provided to the school are equivalent to taxable wages. This IRS language brings about questions about whether an athletic scholarship really qualifies as true educational systems or crosses the line as payment for services to the school.
It has long been held that an athletic scholarship is nontaxable, under the following conditions
1. the scholarship does not exceed expenses for tuition, fees, room, board, and necessary supplies
2. the school ‘expects’ but does not require the student to participate in a particular sport
3. the school does not require any particular activity in lieu of participation and doesn't cancel the scholarship if the student cannot participate
The first item above does not mean that an athletic scholarship can be used to provide students with tax-free room and board. Rather, it means that the total scholarship awarded (both taxable and nontaxable) must not exceed the total cost of attending the school. If this and the other two conditions are met then the
Steve Hoffman, The [email protected] 2015
portion of the athletic scholarship covering qualified expenses will be tax-free and not treated as payment for services.
The second item above, the schools expectation of participating in sports, may be a sticking point as the facts and circumstances of a sports scholarship is that it may become a required participation in sports – in other words, no play, no scholarship. So, it appears clear that if a ‘sports scholarship’ is conditional upon participation in sports, then it is not a scholarship, but rather payment for services rendered to the university by the athlete.
So Now What?
The O’Bannon decision refers to ‘student athletes’ share of revenue from the use of their names and likenesses as “compensation”. This clearly represented to the Federal District Court that these payments were subject to taxation. The students share of licensing revenue would likewise have to be treated as taxable compensation. The fact that deposits might be made to trust funds does not necessarily mean that the funds won’t be immediately taxable. While athletes may not have access to the trust funds while they are in school, the athletes would likely be taxed when the compensation is paid to the trust. Further, any interest earned on the trust funds would be taxable in the year earned. Thus, it is likely that these amounts might just show up on a Form 1098T in the scholarship and grant box.
The whole question of student athletes and taxability of payments to them is very much like the prior case involving medical residents. The question really becomes one of whether a star player is really a student first and an athlete and paid employee of the school second.
Steve Hoffman, The [email protected] 2015
At this point no one knows what will happen in 2016. The NCAA might win on appeal. Or not. Then, schools and conferences would have a lot to consider when deciding what to offer future recruits.
IMPACT
The colleges and universities affected by this ruling, should it continue to be held, will require monitoring and tracking of revenues received by each athlete for inclusion on the Form 1098T. Further, I suggest the offer letter to student athletes be reviewed for its meaning and content to insure full disclosure to the student and for compliance with tax law by the school The Athletics Department and the area that prepares the Form 1098T will need to work closely together to insure proper reporting.
MY PERSONAL OPINION
I believe the NCAA will not succeed in their appeal. Receipt of a scholarship by student athlete brings about a certain responsibility for the athlete to perform “services”. That is, to receive a scholarship. The student is expected to participate in a particular sport. To me, it is clearly an exchange of services for compensation.
The NCAA itself has come under the scrutiny of Congress in the past. Congress has requested information from the NCAA and questioned the tax-exempt status of the NCAA. It appeared to Congress that the NCAA acted more like a large corporation, with billion dollar revenues and asked for the amount of support actually provided to athletes by the NCAA.
Colleges, universities, and all nonprofits are being challenged by the IRS to validate their continued tax-exempt status. The perception of what tax exempt status means has changed from a right to a privilege. We live in interesting “tax times” and much will change for higher education and nonprofits in the next 10 years.
Steve Hoffman, The [email protected] 2015
