Following a lengthy legal battle, the AP reports that Judge Claudia Wilken has approved a deal between the NCAA and lawyers representing NCAA athletes. While the deal is nuanced, the key takeaway from this deal is that schools can now begin paying athletes directly. This change represents a significant departure from the NCAA’s longstanding tradition of its athletes being student-athletes, hence remaining amateur (and unpaid) during their time in college. Although this coming year will be the first time that college athletes will begin to get paid directly by their schools, athletes receiving millions of dollars has become a mainstay in recent years. This ruling will allow schools to pay a total of $20.5 million in total to their student-athletes in the initial year.
While these significant cash flows for the athletes can be very beneficial, they also carry tremendous tax burdens that the athletes may or may not be prepared to accept. In this article, I highlight three important tax considerations that college athletes should consider as we head into a new era of collegiate athletics compensation.
1. All Compensation Is Subject To Taxation
Section 61(a) of the Internal Revenue Code tackles this topic. It states, “Gross income means all income from whatever source derived.” This line item means that as athletes receive money from schools, NIL collectives, or sponsorships, they will be required to remit taxes on those funds received. As many deals are worth millions of dollars, it is important to highlight the ramifications of receiving these funds.
For instance, consider Duke standout forward Cooper Flagg, whose Fox Sports reports received $28 million in compensation during his one year as a college basketball star. This amount of income firmly puts him into the top tax bracket at the federal level, meaning that all income over $626,350 will be taxed at a 37% tax rate. This means that without any other deductions, Flagg would owe over $10 million in federal income taxes. Furthermore, Flagg will have considerable state income tax liabilities due to the tax levied in his domiciled state of North Carolina as well as will have to pay the self-employment taxes (15.3%).
What can also be problematic is that all compensation is subject to taxation, including in-kind compensation. According to Opendorse, athletes need to be aware of compensation beyond just the cash payments they receive. For instance, if an athlete has a partnership with a local car dealership and, as part of that partnership, they get a free car lease, the fair market value of that car lease that the athlete is not paying is a form of compensation. Similar rules apply to athletic gear, meals and entertainment, travel expenses, and other forms of in-kind compensation.
What potentially gets lost in the equation is that these athletes do not have an employer who takes taxes out of their paycheck, as do most taxpayers. Instead, they must make quarterly payments to the taxing authority for their portion of the taxes owed. Thus, if an athlete receives a $1 million check, the athlete must put aside a significant portion (potentially more than half of it) of those funds to pay their taxes. This withholding will become even more important as athletes begin derive even more compensation directly from their schools.
2. College Athletes Also Need To Pay The Jock Tax
A critical wrinkle in the taxation of sports-related income is the jock tax. According to H&R Block, the jock tax is an extra layer of taxation levied on athletes when they play in a different taxing jurisdiction. This tax is levied on the athlete’s salary. However, some jurisdictions will include bonuses that were achieved if the conditions of receiving those bonuses were met while performing in that other jurisdiction.
The jock tax has led to numerous headlines in the media. According to Kiplinger, the jock tax led to a back-and-forth tax battle between California and Illinois over Michael Jordan’s income during the 1991 NBA Finals. Their article also highlights how players like Stephen Curry and Nikola Jokic routinely pay over $1 million in jock tax on an annual basis.
The precise formula for calculating the jock tax is messy and varies substantially based on where the athlete plays. For a college athlete now being compensated by their school, they will need to determine the portion of their income earned while playing at universities and tournaments in different states and ensure that they comply with the tax laws in those states.
3. States Income Taxes Come Into Play
Even after an athlete pays federal income taxes and jock taxes, they will then need to pay their state income taxes. The state income tax rate can fluctuate drastically, as high as 13.3% in California and as low as 0% in several states, including Texas, Florida, and Washington. Thus, an athlete may want to consider their state tax liability when selecting their school. As I reported in Forbes, an athlete like Arch Manning decided between playing at Alabama, LSU, and Texas. While there were clearly many factors in play, Manning chose to play at Texas (0% state income tax rate) over the other schools in states that impose a state income tax, saving him hundreds of thousands of dollars per year.
This nuance has led to states like Alabama and North Carolina to consider exempting NIL from state income taxes. In fact, as I reported in Forbes, Arkansas has gone the entire way and passed a law exempting this income from state taxation. Interestingly, many of these proposed and passed laws were directed at NIL income without considering the possibility that these athletes might eventually get paid directly by their schools. Thus, the House v. NCAA ruling has tremendous impacts on state income taxation considerations for these athletes, and the athletes will need to carefully consider and monitor their income to ensure that they comply with state tax laws.
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