Deduction for dependent playing professional sports

[evsphd]

Hello. Dependent child starting to play professional sports where prize money is involved.

Since I am paying for all the expenses for training/travel/etc to prepare and participate in these professional events am I allowed to deduct from my taxes any of these expenses? Thanks you

[Opus 17]

No.

If your child is earning money through activity that would be called "work", your child must report the income on a tax return in their own name, using a schedule C.  If they are considered self-employed or an independent contractor, they can deduct their ordinary and necessary business expenses. They pay income tax and self-employment tax on the net profit after expenses.   If the activity is not considered work, then it is treated as a hobby. Prizes are taxable but expenses are not deductible, even by the child.  (And if they are W-2 employees, they can't deduct expenses either, but the employer can reimburse them if the employer chooses--but that does not sound like the case here.)

Whether the activity is a hobby or self-employment (work) depends on a number of factors, including intention and regularity.  See this for more.

https://www.irs.gov/newsroom/heres-how-to-tell-the-difference-between-a-hobby-and-a-business-for-tax...

There's a lot more to know about taxes for self-employed.  I believe some of my colleagues have some key points put together that they can post for you.

@VolvoGirl 

[evsphd]

Thanks for that information. At this point it would be a hobby.

I read on another forum that a parent created an LLC to report the winnings since the child gave the parent the winnings to use for his child competing. And then the LLC pays taxes on the winnings and writes what the parent spends on his sports.

Is that a viable option?

Thanks again.

[Opus 17]

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@evsphd wrote:

Thanks for that information. At this point it would be a hobby.

I read on another forum that a parent created an LLC to report the winnings since the child gave the parent the winnings to use for his child competing. And then the LLC pays taxes on the winnings and writes what the parent spends on his sports.

Is that a viable option?

Thanks again.

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I don't understand the logic of the LLC, it sounds dodgy.

Let me first make sure we are on the same page that the difference between business and hobby does not depend on profit, but on activity and intent.  If the intention is to earn money as a professional athlete, and the person acts toward that intention with ongoing and regular business-like activities--such as training, attending tournaments, etc--then it can be a business even if the expenses are more than the prize money.

Then:

If the child creates a single member LLC in their own name, they can use that to collect the winnings, deduct expenses, and pay tax on the net profit.  The LLC is a disregarded entity so it is reported on the child's tax return on schedule C just as if the child was self-employed without any particular type of organization.  However, this must still be "work" and not a hobby.  You can't report hobby income as an LLC and deduct expenses.  

If the parent creates a single member LLC to collect the winnings, that would result in double taxation, not no tax.  The child must still report the prize money on their tax return.  Then, what does the LLC do?  The LLC is a "manager" that arranges and pays for travel and other expenses?  The owner of the LLC is performing "work" (arranging training and travel) and is being compensated by the athlete via prize money, which is less than the  cost of management services.  If the prizes are more than the expenses, then the LLC will be taxed on the profit, which the athlete has already paid taxes on.  If the prizes are less than the expenses, the LLC will show a loss, which may or may not be deductible against the parent's other income, and may be carried forward until the child's prize money starts to be more than expenses.

Under the "parent/manager LLC" scheme, the child still pays tax.   The parent pays no tax if the child doesn't win (but they wouldn't anyway), but the parent pays double tax if the child wins more than the expenses.  The parent generates a loss for their "business" that they might be able to use to offset their other income.  It sounds like a sham to convert non-deductible expenses of raising a child into a "business loss."

I would suggest you speak to an enrolled agent or tax attorney who can properly advise you and who will provide a defense for you if you are audited.  I would be much more comfortable with the child reporting this as self-employment (if they can). 

[evsphd]

Thanks again.

I believe it is still a hobby as the intent is to play professional tourneys for college recruitment purposes. Universities want to see their recruits playing as high level tournaments as they can compete in.

There is no way prize money will exceed training/travel/equipment expenses so no net profits. Looks like it would come under …

“The LLC is a "manager" that arranges and pays for travel and other expenses?  The owner of the LLC is performing "work" (arranging training and travel) and is being compensated by the athlete via prize money, which is less than the  cost of management services…. If the prizes are less than the expenses, the LLC will show a loss, which may or may not be deductible against the parent's other income, and may be carried forward until the child's prize money starts to be more than expenses.”

Not sure if this would be relevant but one parent does this (arranging training and travel) full-time and does not have any employment income, while I’m working two jobs to pay for all the expenses.

Any advice on what I should be looking for as I seek out an enrolled agent or tax attorney? Any special qualifications/certifications for these types of tax issues?

[Opus 17]

@evsphd 

An accountant who as EA or enrolled agent on their business means they have been specially approved to practice in front of the IRS.  A CPA is a certified accountant but that doesn't mean they specialize in taxes, some do but others specialize in other areas.  You could also try talking to attorneys who specialize in tax law.  The most important thing is to be comfortable with the person you work with, and that they have the specialty you need.  Any accountant can "do" taxes, but for specialized situations you want a specialist--if you find an accountant but they aren't familiar with this particular topic, a good accountant would admit that and recommend someone else.

I think the key point is, can a person (whether parent or not) reasonably be a professional manager, for someone who treats the activity as a hobby? 

Part of the decision tree for whether or not you have a business is the expectation of future profit.  If the parent has no expectation of present or future profit, then the parent is not running a business.  (Does the parent legitimately expect that the child will eventually become so successful that the prize money pays back all the travel expenses?) And if the parent declares a loss 4 years in a row, or 4 out of 5 years, the IRS will default treat it as a hobby and may come back and disallow all the previous deductions.  

Good luck.