Taxable Talk

Suppose you’re a poker player, and you are backed (sponsored) by a friend. You’ve agreed with your friend that for the money that he has given you, you will give him 50% of your winnings. You complete the IRS Form that has been created for this exact situation (Form 5754), enter a poker tournament, play well and win a prize. As you are ready to receive your prize, the casino asks for your social security number so that they can issue you a Form W-2G). You give them the Form 5754 and the casino tells you, “Sorry, we only issue the W-2Gs to the recipient. You are responsible for the tax situation for your win.”

Well, that exact situation will be facing entrants into this year’s World Series of Poker held at the Rio Hotel & Casino in Las Vegas and run by Harrah’s. I was told yesterday by the Assistant Tournament Director that while the casino will have copies of Form 5754 at the Cashier’s Cage, they will issue the W-2Gs and prize winnings only to the actual winner of a prize.

For the professional gambler who is backed, this is only an inconvenience. His accountant can, at year-end, create W-2Gs to correctly appropriate the winnings. However, for the amateur player this could be a lot more than an inconvenience.

The amateur gambler is now on the hook for the taxes on winnings that aren’t his. It’s even possible that the gambler will have to pay taxes on “phantom” winnings. Say that the gambler won $5000, but $2500 of it belongs to someone else. During the remainder of 2007, the gambler has losses of $3000. If the gambler completes his tax return without making any adjustments, he’ll show $5000 of winnings on line 21 (Other Income) and $3000 of an itemized deduction on Schedule A—he’ll pay tax on $2000 of income that he didn’t earn! And if our “lucky” gambler happens to reside in a state that doesn’t allow gambling losses, he’ll pay state tax on the full $5000!

I received an inquiry today asking,

“We have a small group of players who put up equal shares of money to create a pool sufficient to pay for a main event entry. We give the winner of a private tourney 50% of the equity in any win (and the right to play with the group’s money) and the remainder is divided evenly between the rest of us. In the past, we have provided them with a Form 5754 that spelled out the various equity holders and received individual W-2Gs from Harrahs.

What is the correct way for us to handle this in the future? Should the winner issue 1099-MISC or W-2Gs to the stakeholders? What if the winner was a net loser in gambling for the year prior to the win at the WSOP? Can he still write off the payments to his backers or can he only do that to extent of his winnings, like a gambling loss.

Besides lobbying Harrah’s to change the rules (and perhaps complaining to Nevada gaming regulators, there’s little you will be able to do to change this policy. But I think there are ways for the amateur gambler to still appropriate his winnings, should he be lucky enough to cash at the World Series of Poker.

First, make sure your syndicate/backing agreement is in writing. It should be signed and dated by all participants before the event(s) that the gambler will play in. You may even want to get the document notarized to prove that it was signed and dated before the event.

I would still before the actual event complete Form 5754, and bring it with you to the casino. Harrah’s is supposed to obey the rules (and that includes paying people based on what’s on Form 5754). When you cash, bring the Form 5754 to the Cashier. Harrah’s will likely tell you that they won’t look at it and that it’s your responsibility to do the taxes. You have two choices at that time. You should have a witness at the cage who can swear that Harrah’s refused to honor the Form 5754.

You could at that time call the Enforcement Division of the Nevada Gaming Commission/State Control Board (their Las Vegas phone number is (702) 486-2020). Based on information I have from various gamblers, it’s very doubtful that the NGC will do anything about this problem. And since Harrah’s has the right to refuse entrance into any other tournament should you criticize the World Series of Poker, you risk not being able to play in anything else ever again at the WSOP if you choose this path. But it is available; one of the responsibilities of the Enforcement Division is to “arbitrate disputes between patrons and licensees.”

Alternatively, the winner accepts the W-2G. When he returns home, he gives his accountant the correct payout information (the Form 5754). The accountant then splits his winnings: his share remains as gambling winnings (line 21); the portion belonging to others is moved to a Schedule C as receipts (income) (and the accountant or the winner mails checks to the other participants). The accountant issues W-2Gs (or Form 1099-MISC’s) to the other participants; the total of these are listed as expenses. The net income from this “business” is zero (so there’s no self-employment tax owed).

NOTE (Added in 2013): Based on how the IRS handles W-2Gs from individuals, individuals should issue Form 1099-MISC’s, not Form W-2G’s.

The accountant should attach an explanation to the return explaining exactly what was done and why; I would file a paper return and not file electronically.

This should pass muster with the IRS because the income is being moved to the individuals who really received the income. This is what the law requires—individuals are supposed to pay tax on their income, not the income of others.

For the record, I believe that Harrah’s is required to issue W-2Gs as per a correctly submitted Form 5754. Nevertheless, I’m not surprised at all by Harrah’s new rule. In 2006, Harrah’s would only follow Form 5754 if the other recipients were physically present (this is not a requirement of Form 5754); I had to send out W-2Gs for clients impacted by that rule. Unfortunately, it will take Nevada regulators and/or the IRS complaining to Harrah’s for this bad policy to change.

Tags: WSOP

This entry was posted on Thursday, May 17th, 2007 at 2:04 pm and is filed under Gambling. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.