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IRS: Daily fantasy sports is gambling, not a game of skill

| Oct 26, 2020 | Tax Controversies |

In a recent ruling, the IRS has determined that daily fantasy sports, which allows you to renew your roster every week, is not a game of skill. Instead, the agency found that it is gambling.

The good news is that, according to PLR 202042015, daily fantasy sports (DFS) players can deduct their entry fees to offset their winnings. But those winnings are considered “wagering transactions,” and that could have far-reaching implications for the DFS industry.

In New York, gambling is generally illegal, while games of skill are not. There are exemptions to that general rule, such as the state lottery and a limited number of casinos, but those are put in place by ballot initiative. The general prohibition on gambling is in the state constitution.

So, when the DFS industry began operating in New York, it relied on the argument that DFS was a game of skill.

In 2015, New York Attorney General Eric Schneiderman issued a cease-and-desist order to FanDuel and DraftKings, claiming that DFS was a game of chance — players risk something of value but have no control or influence over the outcome.

FanDuel and DraftKings filed lawsuits to overcome the cease-and-desist order. They claimed that each player’s success depends on their research, investigation skill and analysis. To succeed, the players must monitor and assess conditions, such as the opposing team’s defense in real games and each athlete’s production. They must monitor each athlete’s strengths, weaknesses, health and per-minute production.

Unfortunately for FanDuel and DraftKings, the judge determined that DFS players ultimately rely on someone else’s skill when wagering on an outcome. Therefore, he issued a temporary injunction prohibiting the two operators from accepting entry fees, bets or wagers from New York residents.

Then, however, in 2016, the state senate voted to legalize DFS — but skipped the ballot initiative process. In 2018, a court held that this had violated the state constitution. The ruling was upheld on appeal and is now before the state’s highest court. In the meantime, DFS operators are allowed to collect entry fees from New York residents.

The Court of Appeals could take the IRS’s argument into account

The IRS, for its part, defines DFS transactions as wagers, as opposed to prizes. This means that there is an uncertain event, winnings if the event resolves in the participant’s favor, and losses if it does not. This is the second time the IRS ruled that DFS transactions are wagers, not prizes.

Will New York’s Court of Appeals follow the IRS’s reasoning? Or will it determine that DFS is a game of skill, thus exempt from the constitutional prohibition?