Keeping Tax Score on NIL for Student-Athletes

College student-athletes can now get paid for certain things, under the National Collegiate Athletic Association's (NCAA) so-called name, image and likeness (NIL) policy. The policy has allowed some student-athletes at large schools to make millions of dollars. But it's important to remember that Uncle Sam must get his cut of the earnings.

Here's what you should know if your child (or another relative) is a college sports prodigy with a legitimate shot at making it in the pros. If you're not careful, the youngster could be whistled by the IRS for a penalty. 

Setting the New Ground Rules

In 2021, the NCAA authorized payments to college athletes for NIL activities, reversing decades of bans against compensating these amateurs. In fact, NCAA investigations previously resulted in stiff sanctions for colleges that committed infractions. Now it's a whole new ballgame.

Student-athletes may be compensated in a variety of ways. For example, they might receive payments for endorsements, sponsorships, guest appearances, autograph signings or just straight-out gifts. They can also profit from sales of apparel, corporate partnerships, sports camps or their own related businesses, just to name a few other possibilities. And it's not just about sneaker deals or video games. Student-athletes can even be paid for simply attending a school.

The most common method of payment is from brand endorsements and social media connections. This has become big business in a short time. Furthermore, there's no ceiling on the amount of money or benefits an athlete can earn from NIL. Highly publicized signings such as for Bronny James, son of NBA superstar LeBron James, and Arch Manning from the legendary Manning football dynasty, will eventually reach well into the millions.

But payments relating to NIL come with a price. For starters, the income is taxable to the recipient, just like other compensation (more details below). In addition, a student-athlete must report the taxable income on their Free Application for Federal Student Aid (FAFSA) form. This could affect the amount of financial aid the athlete is permitted to receive. Similarly, NIL could have an impact on Pell grants awarded to qualified recipients.

Touching All the Tax Bases

Generally, a student-athlete is required to submit Form W-9, "Request for Taxpayer Identification Number and Certification," to receive NIL income from an entity. The IRS will use this information to match what's reported by the entity and the athlete. If the reported information doesn't align, alarms could go off (figuratively).

If a student-athlete is employed by an entity, he or she will have to complete Form W-4, "Employee's Withholding Certificate," just like any other employee. The usual tax rules for employees will then apply. But most students will be independent contractors and, therefore, self-employed.

As an independent contractor, the student-athlete will generally receive 1099s reflecting payments for NIL. (The income threshold is only $600.) The payers also send copies to the IRS. A student-athlete who is single with income above $13,850 must file a return in 2023 ($27,700 for a joint filer.) Income is taxable under a graduated rate structure with rates ranging from 10% to 37%.

And that's just the income tax liability. Self-employed student-athletes must pay two forms of self-employment tax if their income exceeds $400. These taxes are the equivalent of the payroll tax paid by employees, commonly referred to as Social Security and Medicare taxes (or OASDI and HI, respectively). The combined self-employment tax rate is 15.3%, half of which is tax deductible. For 2023, the 12.4% OASDI portion applies to the first $160,200; the 2.9% HI portion applies to all self-employment income.

Furthermore, self-employed student-athletes must complete Schedule C, "Profit or Loss," to report their NIL income. Although the income is taxable, they may be able to offset some tax liability with various deductions—such as travel expenses and supplies—subject to the same rules as other self-employed individuals.

How do student-athletes pay their tax liabilities? Like other self-employed taxpayers, they must pay tax throughout the year by making quarterly estimated tax payments (or withholding if employed). The quarterly due dates are April 15, June 15, September 15 and January 15 of the following year (or the next business day if the due date falls on a weekend or holiday).

Failure to comply with the estimated tax rules may result in additional tax, interest and penalties. However, dire tax consequences can be avoided if the student-athlete qualifies under any one of three safe-harbor rules.

• The athlete pays at least 90% of the current year's tax liability. This requires a calculated "guesstimate" of the current tax situation.
• The athlete pays at least 100% of the prior year's tax liability or 110% if adjusted gross income (AGI) for the prior year exceeded $150,000.
• The athlete pays at least 90% of the current year's "annualized income." This method may work for those who receive most of their income on a seasonal basis.

The main takeaway is that student-athletes can't shut out their tax responsibilities for NIL during the year. 

Tackle State Income Tax Issues

State income tax may also be a concern for student-athletes profiting from NIL. More than half the states have enacted NIL laws. Generally, the laws resemble California's "Fair Pay to Play Act," the first state NIL law of this nature.

Under current NCAA policy, a student-athlete must comply with the law in the state where their school is located. In addition, they may owe tax in the state of their residence, if that's different. Thus, college athletes may have to pay tax to more than one state.

The rules vary state-to-state. Generally, the student-athlete's state of residence will tax the athlete's income from all sources while nonresident states, including the state of the college's location and other states where the athlete plays games, could also tax some of the student-athlete's NIL earnings. For more information consult your SSB tax professional.

Looking Up at the Scoreboard 

There are a few other situations to monitor. Case in point: nonfungible tokens (NFTs). NFTs are a hot investment commodity right now. Briefly stated, NFTs are defined as assets that have been tokenized via a blockchain. To distinguish them from other tokens, they're assigned unique identification codes and metadata. NFTs can be traded for cash, cryptocurrency or other NFTs.

With NFTs growing in popularity, many famous people—including performers, athletes and other celebrities—have licensed their NIL to endorse products in return for publicity rights comparable to copyright and trademark rights. Not surprisingly, college athletes are jumping on the bandwagon. 

Although the tax law in this area is still evolving, the IRS provided some initial guidance in Notice 2014-21, establishing that digital assets like NFTs are treated as property for federal income tax purposes.

Finally, as opposed to professional athletes who usually employ agents or other representatives, student-athletes may rely on the school they're attending to help facilitate NIL licensing. So-called "NIL collectives" provide opportunities and support to the athletes. Agreements with collectives typically include either up-front or periodic payments. To this point, there have been no rulings on the tax ramifications for NIL collectives.

Finish Line

It's a brave new world for student-athletes. They can prosper from NIL but must be careful to observe all the tax rules and stay up to date on the latest developments. Practical advice: Get some "coaching" from an SSB tax advisor.

©  2023