Sat. Feb 24th, 2024

Sports teams and their owners are being targeted by a new IRS campaign, as the agency ramps up its efforts to audit partnerships using an infusion of funds from the 2022 tax-and-climate law.

The IRS Large Business and International division recently announced the campaign, saying it plans to look into whether the income and deductions of sports-related partnerships with large losses are reported in compliance with the tax code. The agency hasn’t named specific teams in this latest push on partnership audits.

The IRS received tens of billions of dollars as part of the Inflation Reduction Act, and the agency is planning to use much of those funds to increase enforcement efforts that focus on high-income individuals and complex partnerships. The IRS has audited more large corporations than large partnerships, even as the number of partnerships has soared, according to a Government Accountability Office report from last year.

Sports-related partnerships are arrangements that fit well with the IRS’s enforcement push, said RSM US LLP Partner Nick Passini.

“Who generally owns these sports partnerships? In most cases it’s an ultra high-net-worth individual,” Passini said. “The IRS is really focusing on partnerships that kick off losses. Sports partnerships, because of the amortization benefits and other things, often do kick off losses.”

IRS declined to comment on the campaign beyond what it said in its announcement.

Big Benefits

The tax benefits from owning a team can be huge. Buyers can write off the costs of intangible assets such as player contracts and TV rights over a number of years, which can allow teams and their owners report losses year after year. If the ownership is set up as a partnership, those losses can be used to offset owners’ individual tax bills.

If an individual is sitting on a multimillion-dollar tax bill and “you’re offsetting it with a loss from a sports team, you can see why that would draw attention for the IRS,” Eric Nemeth, Varnum LLP partner, said in an interview.

How team buyers fund their acquisitions can also come with benefits.

“If the purchase is financed with other people’s money (i.e., debt), then, subject to certain limitations on the deductibility of interest, the tax advantages to the team owners (and investors) is even greater,” Hogan Lovells Partner Mark Weinstein said by email.

A 2021 ProPublica report dove into how wealthy individuals can get tax benefits from owning sports teams, naming Los Angeles Clippers owner Steve Ballmer and Jacksonville Jaguars owner Shahid Khan as among those who have benefited.

Gibson, Dunn & Crutcher LLP Partner Eric Sloan said investigations by the IRS could look at individual team owners to make sure they are following all the tax code’s limits on deducting business losses.

Whether an investor is a passive or active investor can play into how much they can make use of tax losses—if at all.

Passini said partnerships must have bulletproof documentation defending how tax benefits are distributed to which partners and to show that the benefits they are claiming come from activities with a true business purpose—not for the sake of the tax benefit.

“I think losses is the biggest thing is: Is that loss allocated to the proper partner?” he said. “The allocations in partnerships are extremely complex.”

Funding Priorities

The new IRS campaign on sports partnerships could be a way for the agency to show to Congress how the tax-and-climate law funding can make an impact. Congressional leaders have reached a top-line spending deal to rescind about a quarter of the IRS’s funds, and House Republicans have previously floated cutting even more of the funding than that.

Nemeth said going after team owners could be a good look for the IRS.

“Frankly, it could be good politics, too. ‘Look what we’re doing. We’re really examining the ultra rich here,’” Nemeth said. “And don’t rule out the possibility that the IRS uses this information, provides information to Congress, and Congress possibly writes some statutes to address certain areas, too.”

But some tax practitioners cast doubt on whether the IRS would find much additional revenue to collect from auditing sports team owners.

“It wouldn’t surprise me that in auditing high-net-worth individuals they see a lot of them are investors in sports teams throwing off losses and the losses were used to offset taxable income elsewhere,” Sloan said. “It’s that 80/20 rule. You say, ‘I see a lot of losses coming from over there, so I should look over there.’ I have a hard time believing that at the end of the day there’s going to be a lot that comes out of there.”

Weinstein said Congress put the current system in place, allowing many of these benefits.

“Not sure the system is being gamed. You buy goodwill, you get to amortize the cost over say 15 years and if the end result is a loss; so be it,” he wrote in a note to an unnamed client and shared with Bloomberg Tax. “This is the law. If the IRS wants to change it, they need an act of Congress.”

—With assistance from Erin Schilling.

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