TAX TREATMENT OF TOURNAMENT POKER LOSSES
Under Internal Revenue Code § 165(d), tax payer's losses in gambling activities cannot be deducted, except to the extent of the tax payer's gains from gambling activities. However, since tax payer can deduct all qualified expenses generated from business activities under Internal Revenue Code § 162(a), could tournament poker losses be treated as business expenses? In order to meet requirements under Code § 162(a), tax payer must prove that tournament poker is conducted similarly as other professional sport tournaments. In the case Tschetschot v. COMMISSIONER OF INTERNAL REVENUE, 2007 TC Memo 38, tax court refuted tax payer's deduction on poker losses in excess of gains by holding that tournament poker is entertainment gamblers, not professional activities. In the further research, however, conflicts in different settlements on related cases involved professional gamblers and entertainment gamblers were addressed, which arouse concerns regarding the current tax provisions.
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Millions of Americans gamble every day in various ways, including playing slot machines at casinos, placing wagers on horse-races, and trying lucks on lottery tickets. Nowadays, in flipping through your TV channels, you must notice that there are more and more tournament poker live shows which can last from days to weeks. Anyone, over the age of 21, with a $10,000 as an "entrance fee", can gain a seat in the World Series of Poker's Main Event. But different from a regular poker game, participant cannot exit the game and cash out his chips until he loses or becomes the last winner. If you win, of course you have to include the prize amount on your returns that you will have to pay for the taxable year. However, the legal controversy arouses when you lose - mainly focused on the conflicts between Code § 162(a), which allows deductions for "ordinary and necessary business expenses", and Code § section 165(d) limiting gambling losses to the amount of gains.
Different Tax Treatments under Code § 165(d) and Code § 165(d)
The general rule for losses under the federal tax code is that tax payer can generally take deduction in their income taxes for the losses/expenses resulting from: their trade or business; or any non-business activities they are engaged in for profits - which means - money making or income generating.
Thus, accordingly, losses that created from gambling or wagering (for this research purpose, specifically indicate the tournament poker) are generally can be deducted since it can also be classified as gambling is an activity engagement to make profits. Additionally, the legality or illegality of the gambling itself doesn't affect the deductibility of tax payers' losses because as illustrated under Code § 162(a) that "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business".
The key difference between Code § 162(a) and § 165(d) is that "if the deduction is limited"? The tax code § 165(d) clearly provides that "Losses from wagering transactions shall be allowed only to the extent of the gains from such transactions." which specifically limits the amount of gambling losses tax payer can deduct is up to the amount of their gambling gains.
Tournament Poker is Professional Sport or Gambling?
As discussed above, tax treatments’ difference provides an onerous task to involved tax payers that they have to prove the tournament poker is one of the professional sports which are similar as other tournament activities such as tournament golf or tennis - in order to take more deductions, rather than regularlive-action poker gambling which is classified as wagering activity - falling into the limitations.
Tschetschot v. COMMISSIONER OF INTERNAL REVENUE, 2007 TC Memo 38
Tax payer - Mrs. Tschetschot, was a database project engineer and also was a professional tournament poker player in 2000. She earned around $49,000 in wages and won approximately $11,000 from nine poker tournament series she participated in 2000. Mrs. Tschetschot claimed a net loss of $29,933 on Schedule C in that year as business losses due to "professional gambler" activity. The commissioner determined that the deductions should be subjected to the limitation under Code § 165(d) because tournament poker is gambling activity, to the extent of her winnings. Based on this fact, the commissioner assessed a deficiency of tax liability of $10,071 along with accuracy-related penalty of $2,014.
The tax payer argues that tournament poker is an "entertainment and professional sport" (however, the tax treatments for entertainment and professional gambling activities are actually also different, which will be illustrated later) rather than "wagering activity". To support her argument, Gloria Tschetschot claimed that the tournament poker she participated in only requires an entry fee, the whole tournament lasts for days, and the winning prize is withdrawn from part of the entry fee paid by other contestants on that tournament. Accordingly, she concluded that tournament poker is different from regular poker wagering activities.
The Internal Revenue Service has described that "wagering transaction" should consist three elements:
(1) First, the transaction must involve a prize;
(2) Second, the element of chance must be present
(3) Finally, the taxpayer must give some consideration.
And in order to refute tax payer's argument, court applied the definition of the word "wager" as "something risked or staked on an uncertain event" or "a bet". The court in the further pointed out that simply the activities that performed in a tournament format cannot change the tournament poker's "wagering" character; the underlying activity is no different from regular live-action poker games. The court strengthened its standing points by reasoning that no matter how the porker game was conducted concluded that tournament poker was a "wagering activity" the activity involves the "bet" concept.
And in order to refute tax payer's argument, court applied the definition of the word "wager" as "something risked or staked on an uncertain event" or "a bet". The court in the further pointed out that simply the activities that performed in a tournament format cannot change the tournament poker's "wagering" character; the underlying activity is no different from regular live-action poker games. The court strengthened its standing points by reasoning that no matter how the porker game was conducted, once the activity involves the "bet" concept - which indicates that, just like gambling poker players, the tournament participations are still just betting on the games while wish to win by "luck". Thus, tax payer cannot deduct the amount portion as expenses, but only deduct it as loss from such wagering activities up to her winning amount.
As previously mentioned, the tax payer in Tschetschot v. Commissioner case argues that tournament poker is an "entertainment and professional sport", however, there exist different tax settlements for “entertainment” gambling and “professional” gambling.
Code § 165(d) and Entertainment Gamblers: The court listed several facts as: Mrs. Tschetschot, rather than a professional tournament poker player, she is a database project engineer in case Tschetschot v. Commissioner, who earned approximately $49,000 in wages for the year 2000. Accordingly, her tournament poker playing activity should be more suitable be defined as "entertainment gambles sports" than professional tournament poker player and her net loss generated from such activity, therefore, should be limited under Code § 165(d) - restricting losses from wagering activities. The similar situation and tax settlement can be found in the case Valenti v. COMMISSIONER OF INTERNAL REVENUE, 1994 TC Memo 483.
Code § 165(d) and Professional Gamblers: In the case Bathalter v. Commissioner, the taxpayer - a full-time (professional) horse-race gambler successfully deducted the expenses under Code § 162 via Tax Court holding the gambling activity in this case was business activity. As argued by the court, the fact that Code § 165(d) will serve as to prohibit tax payer from applying loss to balance other income, will be deemed as this code section only be adoptable when a tax payer experience a loss instead of a gain from his/her business activities.
Referred to several related cases regarding the tax treatment for tournament porker losses, although the court reiterated that Code § 165(d) applies to entertainment gamblers as well as professional gamblers - the settlements have been held by various courts of appeals that losses from wagering activities cannot be deducted in excess of the tax payer's gains from wagering activities - in fact, have cases been held where treatments were conducted differently to a trade or business as opposed to a hobby. As the Tax Court's decision made in the case Tschetschot v. Commissioner, strongly lies on holding that the underlying nature of the game remains a "wagering" character without taking the differences in fact between tournament poker and regular live-action poker gambling into account.
However, to the end of case Tschetschot v. Commissioner, the court stated that "…… The moral climate surrounding gambling has changed since the tax provisions concerning wagering were enacted many years ago…… the Tax Court is not free to rewrite the Internal Revenue Code and regulations. We are bound by the law as it currently exists, and we are without the ability to speculate on what it should be……". This statement might imply that they aware of the unfairness and unreasonableness to some extent in those settlements, hopefully, such tax treatments under related tax regulations and provisions might be investigated and be taken into re-consideration.
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4. David J. AND Letitia B. Crawford v. COMMISSIONER OF INTERNAL REVENUE, 2010 TC Memo 54
5. COMMISSIONER v. Groetzinger No.85-1226. 480 U.S. 23 (1987)
6. Pete C. Valenti and Peggy R. Valenti v. COMMISSIONER OF INTERNAL REVENUE, 1994 TC Memo 483
TAX TREATMENT OF TOURNAMENT POKER LOSSES