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IRS Offers Safe Harbor on Valuing Pro Sports Trades

Posted on Apr. 12, 2019

A new safe harbor enables pro sports teams to treat trades of players and draft picks as having zero value for federal tax purposes.

The April 11 guidance set out in Rev. Proc. 2019-18 allows teams to avoid the difficult task of assigning a value to contracts and draft picks when determining the amount of any gain or loss, the IRS said.

Teams that qualify for the safe harbor recognize gain only if cash is received in the trade, according to the revenue procedure. The guidance applies not only to player contracts, but also to those of staff members, such as coaches and managers.

The safe harbor is available if four requirements are met: all parties to the trade use the safe harbor; the transfer doesn’t include property other than a personnel contract, draft pick, or cash; the contract or draft pick doesn’t include amortizable section 197 intangibles; and the financial statements of the teams involved in the trade don’t reflect assets or liabilities resulting from the trade other than cash.

The IRS stressed that Rev. Proc. 2019-18 applies only to pro sports trades of contracts or draft picks, not team trades or sales. 

The revenue procedure is effective April 11. “However, a team may choose to apply this revenue procedure in any open taxable year,” the IRS said.

Relief 

Sports team executives will likely be happy with the guidance, David Shechtman of Drinker Biddle & Reath LLP told Tax Notes.

“Unless cash is included in the deal, every professional sports team trade will result either in no gain, if a team has no basis in the contract disposed of, or a section 1231 loss if a team has remaining basis in the contract,” Shechtman said. 

The professional sports world had been clamoring for guidance after trades became taxable events following passage of the Tax Cuts and Jobs Act.

Before the TCJA, section 1031 permitted taxpayers to exchange like-kind property used in a trade or business or held for investment on a tax-deferred basis. Professional sports teams often used section 1031 when trading players or draft picks to avoid current recognition of income. 

With like-kind treatment no longer available after the TCJA restricted section 1031 to real property, teams were wondering how they should assign fair market values to contracts and draft picks for purposes of determining the trade’s gain or loss. 

Tax and accounting experts pointed out that obtaining valuations would be challenging, given that a player or draft pick’s value rests on future performance and can be affected by market conditions, the team’s needs and priorities, and other considerations that are tough to valuate. 

Shechtman said the “zero-value” safe harbor may have been the only practical approach for the IRS to take.  

“Given the large number of trades made every season, the notion of each team and the IRS having to hire sports analytics gurus to value every contract does not seem to be a good use of anyone’s resources,” Shechtman added.  

Shechtman said the paperwork for trades will likely now include boilerplate language, such as: “Each of the parties agrees to report the trade for federal income tax purposes and for purposes of its financial statements in accordance with the requirements of Rev. Proc. 2019-18.” 

Blessing in Disguise 

According to Alan S. Lederman of Gunster, the revenue procedure could have collateral implications.

Lederman pointed to example 3(ii) in the document, which addresses situations in which a trading team has a remaining unamortized basis (from a signing bonus) in its traded contract and receives a replacement contract but no cash. 

The IRS says the trading team can deduct that unamortized basis immediately as a section 1231 loss rather than wait for the continued amortization of that basis, and without offsetting that loss by any value in the replacement contract.

Lederman said that based on that example, teams seeking deferral benefits “could be tempted to trade players with large remaining unamortized bases and significant remaining terms in their contracts for the contracts of new players with approximately equal perceived value, in order to accelerate deduction of the amortizable basis on the traded player’s contract.” 

Shechtman said the treatment in example 3 would likely also apply if a team has remaining basis in its contracts after a recent change in ownership or the death of the team’s owner.  

“It turns out the repeal of section 1031 for intangibles under TCJA will be a blessing in disguise for team owners,” Shechtman said.

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