This is the second article in a four-part series about paying taxes on daily fantasy sports.
Part 1: Daily Fantasy Sports And Taxes: Dissecting The 1099s
Last time we became familiar with the tax forms typically issued as a result of DFS play. How does a player’s income from DFS play get reported on the player’s tax return?
It depends on these two primary things:
- Whether DFS play is considered gambling
- Whether the player is a professional or amateur
Is DFS gambling?
Obviously there is strong disagreement over the answer. What ultimately matters here, however, is whether DFS is considered gambling for tax purposes.
As mentioned, the Internal Revenue Service has not commented to date on whether it considers DFS play as gambling. Some DFS game formats may look more like gambling than others. We will consider the tax differences between the two. We assume, for this post, we are talking about only amateur DFS players. The next post will address the issues for professional players.
Either way, DFS income, whether gambling or not, is reported on Line 21, Other Income, of Form 1040. That’s where the similarities end.
Reporting winnings and losses: Not gambling
If DFS is not gambling for tax purposes, the activity falls under the hobby rules in the tax code.
Here are two different possible formulas to compute winnings:
- Net method = Prize Winnings – Entry Fees Paid for Winning Contests + All Bonuses
- Cumulative net method = Prize Winnings – All Entry Fees paid + All Bonuses
There is no definitively correct formula, as the IRS has not commented on this specific issue. As a result, this article does not endorse one particular formula over another. As discussed last time, Formula (1) was suggested by the IRS in a ruling that holds no precedential value. Formula (2) is applied by FanDuel when determining a player’s total winnings. We note that other sites may apply different formulas not listed here.
Losses from DFS play are reported as a miscellaneous itemized deduction on Line 23, Other expenses, of Schedule A of Form 1040. In addition, a player may also deduct “ordinary and necessary” expenses incurred in connection with DFS play. DFS losses and the “ordinary and necessary” expenses are deductible only to the extent of DFS winnings.
Generally, ordinary expenses are common and accepted in the trade or business, and necessary expenses are helpful and appropriate for the business. For DFS, expenses such as NFL Sunday Ticket and website subscriptions may qualify.
There is another limitation on deducting DFS losses and associated expenses if DFS play is not considered gambling. Miscellaneous itemized deductions are deductible only to the extent they exceed two percent of the taxpayer’s adjusted gross income for the year. The significance is that not all DFS losses may be deductible against DFS winnings.
If deductions are claimed, remember that the burden of proof is on the taxpayer to substantiate the deductions to the IRS if questioned.
Reporting winnings and losses: Gambling
If DFS is gambling for tax purposes, the formula is entirely different. In general, a taxpayer must separately record each gambling winning “session” and gambling losing “session.”
The taxpayer’s total “winning” sessions for the year are reported on Line 21, Other Income, of Form 1040, as noted above. The total “losing” sessions are reported on Line 28, Other Miscellaneous Deductions, of Schedule A. Gambling losses are deductible only to the extent of gambling winnings.
Gambling losses are not subject to the two percent limitation. Some states, however, do not allow gambling losses as a deduction at all. As a result, it is not necessarily a benefit from a tax perspective for players if DFS is considered gambling for tax purposes. More comparisons will come to light when we discuss professional DFS players in the next article.
Unfortunately, neither the tax code nor the IRS provides any guidance on what constitutes a gambling “session.” In at least one court case, the U.S. Tax Court inferred a taxpayer may net all slot winnings and losses from a single day of play at a casino as one gambling session. Applying this logic to DFS play, a taxpayer may have support to net all winnings and losses from a single day of play as a single gambling “session.”
In Publication 529, the IRS states a taxpayer must keep an accurate diary or similar record of all winnings and losses, and that the diary should contain:
- The date and type of the specific wager or wagering activity
- The name and address or location of the gambling establishment
- The names of other persons present at the gaming establishment
- The amount(s) won or lost
Many DFS sites make available an account’s transaction history. Some sites enable customers to download a CSV file containing the information. Blind reliance on this data is dangerous, however, as it may not contain all of the information required to support a position on a tax return. Remember, the burden of proof is on the taxpayer to substantiate deductions.
Next time, we will discuss the tax implications for professional DFS players.
Disclaimer: Nothing contained in this article is specific tax advice, as each person’s situation is different. Consult a tax professional to discuss particular facts and circumstances.