Daily fantasy sports entry fees are wagers for federal tax purposes

Plain-English summary

Chief Counsel considered whether a player's payment to enter a daily fantasy
sports contest is a wagering transaction under IRC § 165(d). The contests are
pay-to-play arrangements in which entry fees fund prizes, the host takes a
commission, and winners depend on the real-world performance of selected
athletes. The memorandum concluded that each entry fee is a wager because the
player risks consideration on an uncertain event and may win or lose based on
the outcome. It rejected the argument that daily fantasy sports are merely
skill contests, reasoning that player-selection skill does not control the live
performance of the athletes and chance ultimately dominates the result. As a
result, losses from these transactions are deductible only to the extent of
wagering gains under § 165(d).

Ruling snapshot

• Question: Is an entry fee for a daily fantasy sports contest an amount
  paid for a wagering transaction under § 165(d)?
• Outcome: Advice given, the entry fee is a wagering payment
• Key authorities: IRC § 165(d); Treas. Reg. § 1.165-10; Rev. Rul. 57-521;
  Rev. Rul. 83-130

Full text (IRS public release)

Office of Chief Counsel
Internal Revenue Service
Memorandum
Number: 202042015
Release Date: 10/16/2020
CC:ITA:B03:Boone
POSTS-115420-20

UILC: 165.08-00

date: September 14, 2020

to: Erin K. Neugebauer
Attorney
(Small Business/Self Employed)

from: Amy S. Wei
Senior Counsel
(Income Tax & Accounting)

subject: Applicability of Section 165(d) to Daily Fantasy Sports Transactions

This Chief Counsel Advice responds to your request for assistance. This advice may not
be used or cited as precedent.

ISSUE

Does the amount paid by a daily fantasy sports player to participate in a daily
fantasy sports contest constitute an amount paid for a wagering transaction under
§ 165(d) of the Internal Revenue Code?

CONCLUSION

The amount paid by a daily fantasy sports player to participate in a daily fantasy
sports contest constitutes an amount paid for a wagering transaction under § 165(d).

STATEMENT OF FACTS

Daily fantasy sports (DFS) are a type of fantasy sports game that evolved over the
last decade into a multi-million dollar industry. A traditional fantasy sports league is
comprised of participants that select players from professional sports teams to create a
“fantasy” team. The selection of professional players occurs during a “draft” held at the
beginning of the season. Each professional player can only be selected once during the
draft, but participants may drop, add, or trade players as they become available
throughout the season. A schedule is created and each week fantasy teams compete

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head to head. The winner of the match up depends on the statistical performance of each
professional player in their respective real-life sports games that week.

DFS modified the traditional fantasy sports model to offer more flexible and fast
paced competitions. Under the DFS model, participants are given a salary cap with which
to select their fantasy team. Multiple participants can select the same professional
players so long as they do not exceed the salary cap. Instead of drafting professional
players for an entire season, the fantasy team exists for a single day or a single week.
Once participants have created their teams, they may select from a variety of
competitions including head to head competitions, cash games, guaranteed prize pools,
and 50/50 competitions:

• Head to head competitions allow two players to challenge each other with the
winner receiving the entire pool.
• Cash games include transactions within a league that identifies winners based on
the best performing teams.
• Guaranteed prize pools are games that have a set entry fee to compete in a fixed
prize pool, regardless of the number of entrants.
• 50/50 competitions involve a transaction in which the top 50% of performers nearly
double their returns on investment while the other half receive nothing.

Each of these contests are structured as pay to play, with the participant submitting an
entry fee for each contest, and the host website taking a commission from fees collected.
Participants receive points based on the live performance of their selected players. The
points for each player on the fantasy team are compiled for a final fantasy score that
determines the winners of the match up.

LAW AND ANALYSIS

Section 165(d) allows taxpayers a deduction for losses from wagering transactions
during a taxable year, but only to the extent of wagering gains. See also § 1.165-10 of
the Income Tax Regulations. There is no statutory or regulatory definition for “wagering
transactions” in § 165(d).

In the absence of a statutory or regulatory definition, a term’s “plain, obvious, and
rational meaning” must be applied. See Liddle v. Commissioner, 103 T.C. 285 (1994);
Boyd v. United States, 762 F.2d 1369 (9th Cir. 1985). In Tschetschot v. Commissioner,
T.C. Memo 2007-38, for purposes of applying § 165(d), the Tax Court examined
dictionary definitions of wager, including Random House College Dictionary’s definition
of “something risked or staked on an uncertain event; bet; the act of betting,” in ultimately
holding a poker tournament is a wagering activity. The Court also considered the following
definition of wager from Black’s Law Dictionary:

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Money or other consideration risked on an uncertain event; a bet or gamble. 2. A
promise to pay money or other consideration on the occurrence of an uncertain
event.

The Court stated that wagering, when used in the Internal Revenue Code (the Code), is
synonymous with gambling. Id.

State courts note the definition of wager requires two or more parties, having
mutual rights in respect to the money wagered, having a chance to win or lose upon the
outcome of an uncertain event. See Las Vegas Hacienda, Inc. v. Gibson, 77 Nev. 25, 27,
(1961); see also Robertson v. United States, 343 U.S. 711(1952); Toomey v. Penwell, 76
Mont. 166 (1926). In this way, a wager is distinguishable from a prize. Unlike a wager,
State courts have found that a prize or reward is compensation for an act done. See Las
Vegas Hacienda, 77 Nev. at 27 (The court held an offer to pay $5,000 for shooting a hole
in one to any golfer paying a small fee is a prize, not a wager); Toomey v. Penwell, 76
Mont. at 172-173 (Requiring owners to pay entry fees to enter their horses in a race does
not constitute a wager, and the purse money awarded to the winner is a prize).

DFS transactions meet the definition of wager as interpreted by the Tax Court and
State courts because there is an uncertain event (such as the live performance of
individual players), winnings if the event resolves in participant’s favor, and consideration
is lost if the event does not resolve in participant’s favor. Each DFS transaction is a pay
to play competition with predetermined winnings for a certain number of participants. The
outcome of the competition turns on the overall statistical performance of live professional
players assembled into the fantasy team. The winning participant receives a return of his
or her initial bet along with wagering gains, while the losing participant walks away empty
handed. This is consistent with the courts’ interpretation of the term “wager.”

It may be argued that DFS is not wagering because it is a contest of skill. As a
general rule, a contest in which a prize is offered based on the mental or physical skill of
the contestant is not considered gaming. The fact that each contestant is required to pay
an entrance fee does not make the payment a bet or gaming transaction unless the
entrance fees alone consist of the winnings to be won by the successful contestant. See
Rev. Rul. 57-521, 1957-2 C.B. 779. Revenue Ruling 57-521 examined a puzzle contest
in which contestants submitted solutions with a fee per submission to play and concluded
that the puzzle game was not a wagering pool or lottery under the excise tax provisions
of § 4421 because the outcome relied entirely on the contestant’s skill in completing the
puzzle. The Service later distinguished this type of contest as a game of skill from poker
tournaments which are considered wagering. See Tschetschot v. Commissioner, T.C.
Memo 2007-38; see also Gustafson v. Alloyd Co., 513 U.S. 561, 570 (1995) (Generally,
an Act of Congress should not be read as a series of unrelated and isolated provisions);
Atl. Cleaners & Dyers v. U.S., 286 U.S. 427, 433 (1932) (There is a presumption that
identical words used in different parts of the same act are intended to have the same
meaning; however, this is not absolute, and the same term may be interpreted differently

POSTS-115420-20 4

when reasonably warranted). DFS transactions are similar to poker and other wagers in
which a player’s skill is a component of the game but it does not dictate the outcome. As
such, the argument that DFS transactions are excluded from wagering as a game of skill
are unpersuasive.

It may also be argued that the DFS pay to play transactions are entrance fees for
their team, comprised of players selected by the taxpayer based on knowledge and skill,
to compete. However, the test is not whether there is an element of chance or skill, but
which is the dominating element that determines the result of the game. See People ex
rel. Ellison v. Lavin, 71 N.E. 753, 755 (N.Y. 1904). While skill may be involved in drafting
the players of a team, the taxpayer’s skill has no impact on the players’ live performances.
Further, DFS is not unlike pari-mutuel betting, long considered wagering, in which an
individual uses knowledge and skill to choose which players or horses to select. See
Lakhani v. Commissioner, 142 T.C. 151, 154 (2014) (pari-mutuel wagering is an event of
chance). Although skill may be an element of the transaction, chance dominates the
outcome of the transactions. See Mayo v. Commissioner, 136 T.C. 81, 91 (2011) (a
wager is where a taxpayer stands to win or lose on the basis of chance); Rev. Rul. 83-
130, 1983-2 C.B. 148 (a raffle ticket is a wager because it is the disposal by chance of a
single prize among purchasers of single chances). Any argument a DFS transaction is
not wagering because it is based on skill must fail because elements of chance beyond
the participant’s control ultimately determine the outcome of the transaction.

This writing may contain privileged information. Any unauthorized disclosure of this
writing may undermine our ability to protect the privileged information. If disclosure is
determined to be necessary, please contact this office for our views.

Please call Elizabeth Boone at (202) 317-4677 if you have any further questions.