Tax Treatment of Gambling Loss as in Tschetschot Case
Abstract In Tschetschot v. Commissioner, 93 TCM 914 (2007), the tax court ruled that taxpayer’s losses from participating in tournament poker were limited to the amount of her winnings.
The court held that tournament poker is, despite its differences from other types of poker, essentially a wagering activity and therefore should not be treated differently from other forms of gambling for tax purposes. The court also rejected the taxpayer’s equal protection argument to treat tournament poker as sports, on the basis of the policy decisions of the congress to treat business based on wagering activities differently.Introduction Gambling is becoming increasingly popular in today’s society. Major casinos and online gambling sites attract countless people who are lured by the fortune, fascinated by the chance, and entertained by the excitement offered by gambling. With the popularity on the rise, the skills of professional gamblers as well as the form of organizing gambling activities also evolve, and various gambling tournaments emerge as a result.
Tournament poker, in particular, is probably the most well known and widely participated one.Numerous tournaments are held, either in casinos or online, and professional players gain celebrity status as the games are televised and watched by people from all over the world. Tournament poker, different from “live-action” poker normally played in casinos or elsewhere, consists of a series of individual events. Each participant pay an entrance fee to the organizer of the tournament, and the collective amount is used to administrate the event and form the prize “pot” that will be ultimately paid to the winners.Generally each participant begins with a same number of chips and plays with others. A player cannot exit halfway through the game until he or she has lost all of his or her chips, and the tournament ends when there is one player left with all of the chips.
The organization of the tournament, however, also raised questions about the tax effects on players as a result of competing in the tournaments, especially their losses. In Tschetschot v.Commissioner, 93 TCM 914 (2007), such a question of how the losses from participating in tournament poker events should be deducted on the individual tax return was brought to the tax court. The court ruled that these losses should not be treated differently from other gambling losses based on the reasoning that tournament poker is essentially still a wagering activity which predicates its tax treatment. Before analyzing the tax court’s decision, however, a brief overview of the current provision regulating the deduction of gambling losses is necessary.Overview of Current Provision Currently, the deduction of gambling losses is identified in Section 165(d) of the Internal Revenue Code of 1986, as amended (Code).
While the general rule of Code §165 stated that any loss sustained during the tax year and not covered by insurance or otherwise compensated should be allowed as a deduction, Code §165(d) specifically provides that “[l]osses from wagering transactions shall be allowed only to the extent of the gains from such transactions. (emphasis added) Though the word wagering has different meanings depending on the context, legislative history of the Code suggests that this term is synonymous with “gambling. ” Therefore, while Code §165 generally allows losses to be deducted from a taxpayer’s gross income in Schedule C, one can only deduct gambling losses when itemizing deductions, and the deduction is limited to the amount of the winning, i. e. if a taxpayers has a net gambling loss for the tax year, that amount is not deductible.The difficulties involved with Code §165(d) is usually due to the fact that neither the Code nor the regulations define what constitutes a wagering activity, and it is often left to the court to differentiate wagering and related activities from other activities.
And Tschetschot is no exception: the main issue in dispute is whether tournament poker falls into the category of wagering activities. Tschetschot v. Commissioner The facts in Tschetschot were quite simple, and there was not any dispute regarding them.It is nevertheless helpful to single out the facts that are more relevant to the issue on hand, which would help in following the court’s reasoning in reaching its holdings. Mrs.
Tschetschot works as a database project manager, and was also a professional tournament poker player in 2000. She then claimed a net loss from her tournament poker activity as business losses on her Schedule C. The commissioner determined that this deduction related to the tournament poker should be subject to the limitation provided in Code §165(d) as an itemized deduction, to the extent of the Mrs.Tschetschot’s winnings. Based on that, the commissioner assessed a deficiency of income tax as well as an accuracy-related penalty under Code §6662(a).
The tax court ruled in favor of the commissioner, rejecting the petitioner’s argument that “tournament poker, unlike other types of poker, is not a wagering activity. ” The court reached its decision by first defining the term “wagering” using the term’s “plain, obvious, and rational meaning. ” Therefore, the court adopted the dictionary meaning of “to wager,” which is defined as “to bet” or “the act of betting. Based on this, the court concluded that “while there are differences between tournament poker and other types of poker, none rise to the level of meaningful, substantive differences that would warrant different tax treatment under the current Internal Revenue Code” because “tournament poker play… necessitates the use of the word ‘bet’ or ‘wager’ even to describe how the game is played” and “Betting is so intrinsic to poker that it is nearly impossible to avoid using a word that implies gambling in any way when discussing the topic. While the court conceded the petitioner’s argument that tournament poker is conducted in much the same way as other professional sports tournament, it held that the nature of tournament poker as a gambling activity does not change merely because it is organized differently, and it is this very nature of gambling that predicates the tax treatment of losses from the activity.
The court also rejected the petitioner’s equal protection argument that there is no valid reason to treat tournament poker differently from other tournament sports for tax purpose.The court reasoned that the decision made by congress to treat business based on wagering activities differently is rationally made, and the court is mandated to base their decisions on the Code and other regulations. Analysis of the Court’s Decision The court successfully established that the nature of tournament poker still falls in the category of wagering activity by investigating the meaning of the term “wagering” both from legislative history and the application of the “plain, obvious, and rational meaning” of the word, as well as assessing the importance of the word “wager” or “bet” to tournament poker.And the court reached its decision that this nature of the taxpayer’s tournament poker losses forms the basis of the treatment for the amount. Furthermore, this categorization of professional gambling as wagering activity is confirmed in cases such as Mayo v.
Commissioner, 136 T. C. 81. The court, in establishing its conclusion, did not oppose the petitioner’s argument of treating tournament poker as business; rather, it concluded that even with this treatment in place, losses from the business of gambling is still subject to the limitation of §165(d).This, at first glance, might seem contradictory to the Supreme Court’s holding in Commissioner v. Groetzinger, 480 U. S. 23 (1987), in which the court ruled in favor of the taxpayers who was a professional gambler, and whose gambling activities were regarded as trade or business. On close examination of the two cases, however, it is obvious that the facts in Tschetschot and Groetzinger are different. In Groetzinger the status of taxpayer’s gambling activities as trade or business is applied to the determination of his minimum tax, which is different than assessing the deduction of gambling loss as in Tschetschot.
The court did, however, express its opinion regarding the different treatment of business based on wagering activities. While the tax court acknowledged the legal basis of Code §165(d) and rendered its decision accordingly, it did raise question about the “perceived unfairness” about the treatment. As is stated in the conclusion of the case, “[t]he moral climate surrounding gambling has changed since the tax provisions concerning wagering were enacted many years ago…[and] the ability for the Internal Revenue Service to accurately track money being lost and won has improved. The purpose of congress enacting §165(d) as interpreted in Groetzinger, which is to prevent the abusing of gambling loss deductions, is probably worth further review now. But as the court pointed out, this “perceived unfairness” is not a sufficient reason for the court to not follow the existing code which is formed on a rational basis. Conclusion and Recommendation The tax court’s holding in Tschetschot represents the current standard of the tax treatment of gambling losses from professional gambling activities.
Despite its rapid development in terms of organization and departure from traditional gambling, tournament gambling, and more specifically in this case tournament poker, still falls into the category of wagering activity and therefore the losses incurred during the games are subject to the limitations provided in Code §165(d). While the tax court hinted of possible future development of the tax code to reflect the rapid changes the gambling tournaments are undergoing nowadays, there is not yet any indication of such a change to be immediate.Also, the reasoning in Tschetschot case to determine tournament poker as wagering activity has been adopted by other tax court cases, and would likely be referred to even in other jurisdiction. It is thus recommended for taxpayers who face similar situations to observe Code §165(d) and deduct gambling losses from tournament poker, or other tournament gambling activities, as itemized deduction on Schedule A to the extent of the winnings.Departure from this practice would most probably not supported by court rulings, and a deficiency, as well as accuracy-related penalty would be assessed and imposed by the Internal Revenue Services, as evident in Tschetschot. But taxpayers who are professional gamblers will still be able to deduct the expenses related to his or her professional gambling activities based on the court ruling in Mayo.
In conclusion, the tax treatment of gambling activities is still unfavorable.While given the development of professional gambling and other social factors, many would conceive this to be a relatively outdated bias, the court, as is in Tschetschot, has to adhere to the current laws and regulations and uphold this treatment. Professional gamblers, therefore, are ultimately faced with this Royal Flush called current law of the Internal Revenue Services, and keep their losses to themselves, off their tax return. References Tschetschot v. Commissioner, 93 TCM 914 (2007) 26 U. S.
C. §165 Commissioner v. Groetzinger, 480 U. S. 23 (1987) Mayo v.
Commissioner, 136 T. C. 81