A&A ACCOUNTING AND AUDITING I state & local taxation

TENNESSEE’S FAILED ATTEMPT TO BE A TAX TITAN

By Jason Feingertz and Jonathan Nehring

State legislatures and tax departments sometimes find out-of-state professional athletes who play games in their states an irresistible source of taxable income. , IN however, bit off more than it could chew when it imposed a uniquely onerous “jock tax” on out-of-state athletes from 2009 to 2014. The authors tell the story of the rise BRIEF and fall of Tennessee’s jock tax, as well as a discussion of the many constitutional issues the tax posed while it was in effect.

2 JANUARY 2017 / THE CPA JOURNAL n July 2016, the state of Tennessee differed from other states’ taxes on pro- Hockey League (NHL), only NBA and settled tax disputes with the National fessional athletes, and the legal challenges NHL athletes were subject to this Basketball Players Association it faced. Tennessee privilege tax. (NBPA) and National Hockey NBA or NHL athletes—as long as I League Players’ Association History of Tennessee’s Jock Tax they were employed by a team for more (NHLPA) on behalf of their respective Although Tennessee does not tax than 10 days, were present in Tennessee, players. The underlying issue for these dis- wage income, in July 2009 it began and eligible to participate in a game putes was over Tennessee’s privilege tax assessing a privilege tax on professional played in Tennessee—were subject to on professional athletes playing games in athletes playing at professional athletic Tennessee’s jock tax [Tenn. Code Ann. the state (popularly known as the jock tax), events in Tennessee. While Tennessee is section 67-4-1702(a)(7)]. This privilege which the state repealed in 2014. This arti- host to professional athletic events for tax was assessed at a flat rate of $2,500 cle discusses the developments leading up the National Association for Stock Car per game, up to a $7,500 maximum per to the repeal of the Tennessee jock tax, Auto Racing (NASCAR), National year [section 67-4-1703(d)]. including the settlements with the NBPA Basketball Association (NBA), National Revenue from jock taxes imposed by and NHLPA, how Tennessee’s jock tax Football League (NFL), and National most other states typically goes into the

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states’ general fund; however, Tennessee’s [This repeal] ends the inappropriate one of the four major professional sports jock tax revenue was used “exclusively use of the state taxing authority … the leagues, Tennessee’s jock tax was unique. for the payment of, or the reimbursement bill [passed in 2009] was constitution- Typically, a state imposes its general indi- of, as directed by the facility manager, ally suspect from the very beginning vidual on the income of pro- expenses associated with securing current, … because … it affected just two par- fessional athletes earned within the state. expanded or new events for indoor sports ticular kinds of professional sports and In many states, however, there is height- facilities located in Tennessee” [section not all professional sports. In addition ened enforcement of nonresident income 67-4-1703(e)]. Although the Bridgestone to that, the tax itself was not fairly taxation on professional athletes who have Arena (home of the NHL’s Nashville related to the services provided by the earned income within the state. These Predators) and the FedEx Forum (home state. (Debate on HB1134, House heightened enforcement schemes are also of the NBA’s ) are Floor Session Apr. 7, 2014.) often referred to as jock taxes. owned by the public, the facility managers This legislation immediately repealed States typically deem an athlete to of these arenas are the private owners of the tax against NHL players, but delayed have earned wage income in the state the Grizzlies and Predators, who were repeal for NBA players until after the when it can be apportioned to the state. therefore able to direct the use of the tax 2015/16 season. As of June 1, 2016, NBA Income is generally apportioned among revenue. Thus, the athletes were effective- players no longer have to pay Tennessee’s the states based upon the percentage of ly taxed by the state to fund the expenses $2,500-per-game privilege tax. Instead of total “duty days” an athlete spends within of the team owners for putting on events waiting for this legislated end date, NBA a state, typically defined as any day an at publicly owned stadiums. player Marcus Thornton, followed by sev- athlete does some form of work for their eral others, filed suit in December 2014 employer, such as a media appearance, Background Behind Repeal and with the continued guidance of the NBPA. team practice, or game. Then the appor- Settlement Before the judiciary could decide the mer- tioned income is multiplied by the state’s The beginning of the end for its of the lawsuits, however, both the individual income tax rates. Tennessee’s jock tax came during NHL NHLPA and NBPA settled their respective These general methods of taxing the collective bargaining negotiations. In players’ refund claims with the Tennessee income of nonresident professional athletes 2013, the NHLPA negotiated a provision Department of Revenue. differ greatly from how Tennessee’s jock into the 2013 Collective Bargaining In total, Tennessee collected about tax was assessed. Tennessee’s unique Agreement (CBA) that required the NHL $18.8 million from the professional priv- regime gave little consideration to the actu- to pay Tennessee’s jock tax on behalf of ilege tax on NHL and NBA athletes from al taxpayers. For example, beyond creating all of the players. This portion of the 2010 through 2015 (Andrew Ballard, unique rules that led to an additional com- CBA effectively resulted in a cash trans- “Game Over for Tennessee's ‘Jock Tax’ pliance burden, Tennessee created a tax fer from the other 29 NHL clubs to the on NBA Players,” Bloomberg BNA, June due date extremely burdensome to the Predators because the tax revenue was 3, 2016, http://bit.ly/2fPGHdJ). In June entire population of subject taxpayers. spent at the discretion of the owner. 2015, the NHLPA settled for a refund of Instead of following the typical tax year, In addition, several NBA players, with $3.27M of the $6.6M in jock tax they Tennessee’s tax year for its jock tax was the guidance of the NBPA, filed refund paid to Tennessee during 2009–2012 June 1 through May 31, with the tax claims with the Tennessee Department (Liz Mullen, “NHL Players Reach returns and tax payments due on June 1. of Revenue in December 2013. These Settlement with State of Tennessee about Because both the NBA and NHL playoffs refund claims were for the privilege taxes Jock Tax, Sports Business Daily, June continue beyond June 1, if a Tennessee assessed against the players for the 30, 2015, http://bit.ly/2gvK9Jj). Nearly a team were to make a deep playoff run, the 2009/10 regular season. month later, the NBPA and the state set- opposing athletes would be required to pre- Responding to the growing pressure tled for a refund of $5.3M of jock tax pare file a unique tax return at a crucial of the NBPA and NHLPA, the paid since 2009 (http://bit.ly/2ghJbxl). moment. In addition, the $7,500 reset on Tennessee legislature passed legislation The final refund payments were made June 1, hypothetically allowing the state in 2014 that repealed Tennessee’s jock by Tennessee in June 2016. to tax athletes up to $15,000 during the tax. Tennessee Representative David span of one NHL or NBA season. Alexander, lead sponsor of the repeal leg- Tennessee’s Jock Tax Compared to islation (2014 HB 1134), provided the Other States’ Legal Analysis following statement regarding the need Compared to the tax regimes in the 26 Not only did Tennessee’s jock tax dif- for this repeal: other states that host at least one team from fer from how many other states taxed

4 JANUARY 2017 / THE CPA JOURNAL professional athletes, it seemingly income is to be taxed by the state. The in various jurisdictions that had each expanded beyond judicial interpretations U.S. Supreme Court has established two adopted Tennessee’s jock tax scheme, that of the U.S. Constitution. Under Article components that are necessary to equate same athlete could owe up to $205,000 1, section 8, clause 3, also known as the fairness in apportionment. in state taxes. The fact that such a player Commerce Clause, Congress is given the The first … component of fairness would owe significantly more in taxes power to “regulate commerce … among in an apportionment formula is what than the player who restricted his play to the several states.” The converse of this might be called internal consistency— within the state demonstrates that power, commonly referred to as the that is, the formula must be such that, Tennessee’s jock tax acted as a deterrent Dormant Commerce Clause, has been if applied by every jurisdiction, it to interstate commerce. interpreted by the U.S. Supreme Court would result in no more than all of the Tennessee’s jock tax would likely not as disallowing any state from passing [taxpayer]'s income being taxed. The fare much better under the external con- legislation that discriminates against second and more difficult requirement sistency test. Although neither the “commerce … among the several states” is what might be called external con- Supreme Court nor any Tennessee courts [see generally Reading R.R. Co. v. sistency—the factor or factors used in have issued guidance on what would con- Pennsylvania, 82 U.S. 232 (1873); the apportionment formula must actu- stitute a reasonable apportionment formula Cooley v. Bd. of Wardens, 53 U.S. 299 ally reflect a reasonable sense of how for the income of professional athletes, (1851); Willson v. Black Bird Creek income is generated. [Container Corp. other courts have. In 2015, the Ohio Marsh Co., 27 U.S. 245 (1829); Gibbons of Am. v. Franchise Tax Bd., 463 U.S. Supreme Court ruled that Cleveland’s v. Ogden, 22 U.S. 1 (1824)]. In Complete 159, 169 (1983).] method for apportioning the income of Auto Transit, Inc. v. Brady, 430 U.S. Simply put, the internal consistency professional athletes was unconstitutional 274, 279 (1977), the Supreme Court set test asks, “If every state were to adopt [Hillenmeyer v. Cleveland Bd. of Rev., out a framework for analyzing whether Tennessee’s version of its jock tax, 144 Ohio St.3d 165 (2015)]. According state tax legislation violates the dormant would interstate commerce be at a dis- to the court, Cleveland’s apportionment commerce clause. Under this framework, advantage compared to intrastate com- method, which apportioned income based a state’s tax is likely unconstitutional if merce?” The external consistency test on the percentage of total games played it 1) is applied to an activity that lacks asks, “Does the method Tennessee uses in Cleveland, did not “reasonably associ- substantial nexus with the taxing state, to apportion income reflect how that ate the amount of compensation taxed 2) is not fairly apportioned to activities income was earned?” with work the taxpayer performed within carried on by the taxpayer in the state, Tennessee’s jock tax likely ran afoul the city.” The court also said that 3) discriminates against interstate com- of the internal consistency test. The tax Cleveland should utilize the duty-days merce, or (4) is not fairly related to the was a flat privilege tax that was not method. As mentioned above, the duty services provided by the state. apportioned to reflect any factor other days method apportions a professional Substantial nexus. While establish- than the amount of times an athlete athlete’s income based on each day that ment of a substantial nexus between a entered Tennessee to play a game. If athlete performs some official duty for the taxpayer and a state has been the subject every state were to adopt a for team that employs him, which includes of much litigation [see Quill Corp. v. the privilege of playing professional offseason training camps and workouts. North Dakota, 504 U.S. 298 (1992); hockey or basketball in their state, ath- The Ohio Supreme Court also held that Moorman Mfg. Co. v. Bair, 437 U.S. 267 letes would be incentivized to play in as Cleveland could not tax an NFL player (1978); Nat’l Bellas Hess, Inc. v. Dep’t few jurisdictions as possible. State laws for a game his team played in the city of Revenue of Ill., 386 U.S. 753 (1967); that deter interstate commerce in favor while he was absent because of injury, Scripto, Inc. v. Carson, 362 U.S. 207 of intrastate commerce are exactly what ruling that it amounted to extraterritorial (1960); Miller Brothers Co. v. Maryland, the dormant commerce clause was taxation [Saturday v. Cleveland Bd. of 347 U.S. 340 (1954)], it is likely that an intended to invalidate. Rev., 142 Ohio St.3d 528 (2015)]. NBA or NHL player’s physical presence The $7,500 per player per year cap on Assuming his team does not make the in Tennessee provided the state with suf- the jock tax also posed internal consisten- playoffs, an NBA player participates in ficient nexus to impose its jock tax. cy problems. If an NBA player played all approximately 195 duty days, and an NHL Fair apportionment. A taxpayer may 82 of his regular season games in player participates in 215 duty days have substantial nexus with a state, but Tennessee, he would owe no more than [Jonathan Nehring, “Pro Athletes Shut Out that state still must determine in a fair $7,500 under Tennessee’s jock tax. If, Cleveland ‘Jock Tax’ at Home,” State Tax manner what portion of the taxpayer’s however, he instead played his 82 games Notes, June 1, 2015, http://bit.ly/2gJoCKO].

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Under this analysis, a minimum-salary tical effect” to determine if interstate an Equal Protection Clause challenge. NBA player would earn $2,429 per duty commerce is treated discriminatorily. The NBPA complaint also alleged that day, and a minimum-salary NHL player Because Tennessee’s jock tax was a flat professional athletes did not fall within would earn $2,419 per duty day. (This cal- tax and limited to $7,500 per player, pro- any of the categories of professions upon culation uses the average minimum salary fessional athletes visiting the state for only which the legislature was authorized to for the NBA and NHL from 2009 to 2014, a few games would owe much more tax levy a privilege tax under the Tennessee the years Tennessee’s jock tax was in to Tennessee on a per game basis than constitution. effect.) With NBA and NHL teams not typ- one playing a full slate of home games. ically staying longer than one day at an The amount of tax due per game for a Beyond the Foul Line away team’s location, Tennessee’s flat tax professional athlete visiting Tennessee for Because Tennessee settled with the of $2,500 per game played in the state one game would be $2,500; in contrast, NBPA and the NHLPA, whether would represent an effective tax rate of a Tennessee athlete’s tax due per game, Tennessee’s jock tax violated the U.S. more than 100% for some players. As a assuming 40 games played in Tennessee Constitution’s Commerce Clause will consequence, even if Tennessee courts were and the maximum jock tax limit of never be resolved. The recent actions of to deem the duty days apportionment $7,500, would be a mere $188. This Tennessee’s legislative and executive method reasonable, they would still likely shows a likely discriminatory effect to branches, however, imply a lack of faith determine that taxing more than 100% of interstate commerce. As opined in Am. that the jock tax could have withstood a professional athlete’s income earned in Trucking, the “imposition of … flat taxes legal scrutiny. Tennessee would fail the external consis- for a privilege that is several times more States should think twice before tency test. valuable to a local [taxpayer] than to its imposing discriminatory taxes. While the Even if the judiciary wished to leave out-of-state competitors is unquestionably high revenue, publicized schedules, and the definition of a reasonable apportion- discriminatory and thus offends the inability to vote will always make non- ment method to the legislature, Commerce Clause.” resident professional athletes an easy tar- Tennessee’s jock tax would still likely Fair relation to services provided by get, the demise of Tennessee’s jock tax fail the external consistency test. Tennessee. The final prong of the indicates that athletes with proper pro- Container Corp. requires the “factor or Complete Auto test requires Tennessee’s fessional advice can successfully defend factors used in the apportionment formu- jock tax to be fairly related to the services their constitutional rights. q la [to] actually reflect a reasonable sense provided by Tennessee. While this prong of how income is generated.” It is unlike- generally gets little attention in the typical Jason Feingertz, JD, CPA, is a state tax ly that a court would find a flat fee on dormant Commerce Clause analysis, lit- associate at Reed Smith LLP, New York, travel into Tennessee to reflect a reason- igation over this Tennessee jock tax N.Y., with experience representing sports able sense of how professional athletes could have presented a fact pattern insti- franchises and players. Jonathan generate income. gating analysis on this less heralded por- Nehring, JD, is a tax attorney at Discrimination against Interstate tion of the Complete Auto test. Macquarie Group, New York, N.Y., and Commerce. Under the Complete Auto This analysis does not exhaust all of maintains a blog on tax issues within the test, a tax cannot in effect discriminate the potential legal and constitutional chal- sports and entertainment industry at against interstate commerce in favor of lenges that could have been raised www.taxaball.com. intrastate commerce. As the Supreme against Tennessee’s jock tax. The com- Court detailed in Am. Trucking Ass’ns, plaint brought by the class of NBA play- Inc. v. Scheiner, 483 U.S. 266, 275–87 ers alleged that Tennessee’s jock tax also (1987), this third prong of the Complete violated the U.S. Constitution’s Equal Auto test varies from the “internal con- Protection Clause, as well as various por- sistency” portion of the test. The internal tions of Tennessee’s constitution. The consistency test analyzes how interstate fact that Tennessee’s jock tax did not tax commerce is treated under a hypothetical the income of professional athletes par- fact pattern where every state adopts that ticipating in other sporting events within same tax scheme; however, the third Tennessee, such as the wages of NFL prong of the Complete Auto test avoids players, allows a case to be made that looking at “the formal language of the Tennessee’s jock tax did not even satisfy tax statute but rather [examines] its prac- the rational basis necessary to withstand

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