IRS Guidance on Taxation of Professional Team Trades

Shearman & Sterling LLP

The Internal Revenue Service (“IRS”) issued Revenue Procedure 2019-18 that provides a safe harbor provision for professional sports teams that allows a team to treat the value of a traded player, draft pick, or staff members, such as coaches and managers, as zero effective for personnel trades after April 10, 2019. According to the IRS, the rules avoid “highly subjective, complex, lengthy, and expensive disputes between professional sports teams and the IRS.”

Prior to the enactment of the Tax Cuts and Jobs Act (“Tax Act”) that was signed into law on December 21, 2017, professional sports teams were able to trade players with little to no tax impact except where one team received cash as part of the trade under rules referred to as like-kind exchanges under Section 1031 of the Internal Revenue Code. Since the enactment of the Tax Act revoking Section 1031 treatment, professional sports teams have been required to recognize gain or loss with respect to a trade of a player contract or a draft pick if the value of that contract changed.

As you may imagine, a player contract or draft pick can be difficult to value. There are several considerations that factor into valuing a player contract, including, for example, a change in the player’s performance, a change in fans’ preferences with respect to the particular player that could impact game attendance, the player becoming injured, or other players on the team outperforming the player in question. It may also be difficult to determine the correct amount of income when trades are between more than two teams or when a team pays cash in addition to assigning a player contract.

Under the rules of Revenue Procedure 2019-18, a safe harbor may be used if all teams involved in a trade agree; the trades only involve personnel contracts, draft picks and cash; no team attempts to amortize the acquired player contract under Section 197; and the teams that are parties to the trade do not reflect the assets or liabilities that result from the trade, other than cash on its financial statements. Generally, the safe harbor provides that when teams trade a player contract for another player contract, neither team has taxable income. In cases where one team provides cash to the other team in addition to a player contract, the team that receives the cash recognizes income and acquires tax basis in the acquired player contract that equals the cash received. For example, if a team paid a signing bonus before the trade to the player that will be traded, the team that has been claiming depreciation deductions for the signing bonus may claim a tax loss for the unrecovered amount or use the basis to offset any cash the team receives in the trade. When a team receives multiple player contracts in a trade in addition to cash, the team must allocate its basis (i.e., the cash received in the trade) between the contracts by dividing the amount of cash received by the number of player contracts.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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