T.C. Memo. 2007-38
UNITED STATES TAX COURT
GEORGE E. AND GLORIA TSCHETSCHOT, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 9498-03. Filed February 20, 2007.
R disallowed losses in excess of Ps’ winnings from
gambling and determined both a deficiency and a penalty
for substantial understatement for 2000. After
conceding that H’s net gambling losses were not
properly deductible, Ps argued that, as a professional
tournament poker player, W’s net losses should be
treated the same as those of any other professional
sport participants.
Held: W’s net gambling losses are not exempt from
the limitations of sec. 165(d), I.R.C.
Held, further: We leave for the parties to
determine as part of their computations under Rule 155,
Tax Court Rules of Practice and Procedure, whether
there was a substantial understatement for the taxable
year in issue; if so, Ps are liable for the accuracy-
related penalty.
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Gloria Tschetschot, pro se.
J. Anthony Hoefer, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
ARMEN, Special Trial Judge: Respondent determined a
deficiency in petitioners’ Federal income tax for the taxable
year 2000 of $10,071, as well as an accuracy-related penalty for
a substantial understatement of income tax of $2,014. The
grounds for the deficiency were the limitations of section 165(d)
as applied to Gloria Tschetschot’s (Mrs. Tschetschot)
professional tournament poker playing and George E. Tschetschot’s
(Mr. Tschetschot) status as a nonprofessional gambler.1 At
trial, petitioners conceded that Mr. Tschetschot was not a
professional gambler but argued that Mrs. Tschetschot’s
professional tournament poker playing is not gambling and thus
not subject to the limitations of section 165(d) on losses from
gambling. Respondent conceded that Mrs. Tschetschot’s business
expenses related to her professional gambling activity were
deductible. Thus, the two issues for decision are: (1) Whether
Mrs. Tschetschot’s tournament poker losses are limited by section
165(d) to the amount of her tournament poker winnings, and (2)
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code of 1986, as amended, and all Rule
references are to the Tax Court Rules of Practice and Procedure.
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whether a penalty under section 6662(a) for a substantial
understatement of income tax is appropriate.
FINDINGS OF FACT
At the time the petition was filed, petitioners resided in
Cedar Rapids, Iowa.
Mrs. Tschetschot is a database project engineer. She was
also a professional tournament poker player in 2000.2 Mr.
Tschetschot is not a professional gambler but occasionally plays
slot machines and blackjack while accompanying his wife on her
poker tournament trips.
Tournament poker is somewhat different from “live-action”
poker. A poker tournament consists of a series of individual
events hosted by a casino, and it can last anywhere from several
days to 2 weeks. Unlike live-action poker, tournament
participants cannot exit the game by cashing out partway through
the tournament; tournaments are played until there is one player
left with all of the chips.
All tournaments have a “buy-in”, or entrance fee, that is
paid by the tournament participants to the tournament organizer.
A portion of this amount is an administrative fee kept by the
casino hosting the event, and the remainder goes directly into
the prize fund “pot” that will ultimately be paid out to the
2
Respondent stipulated this fact for purposes of this case
only. There are no substantiation issues in this case.
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tournament’s winners. No portion of the administration fee is
included in the prize fund, and the entire prize fund is
dispersed to winning participants. The buy-in may or may not
correlate dollar-for-dollar with the amount of chips received at
the start of the tournament, and the chips themselves have no
intrinsic monetary value. Although “re-buys” are sometimes
allowed, tournament play contemplates that each player has only a
fixed number of chips and that each player begins the tournament
with the same number of chips. When a player runs out of chips,
he or she is out of the game. Cash prizes are awarded to a
predetermined number of finishing places in the tournament.
Because of the buy-in system, the only monetary loss a tournament
participant may incur will be the amount of the buy-ins and any
re-buys the participant might make; no participant will be able
to bet--or subsequently lose--any greater amount. Similar to
live-action poker, however, a player’s tournament success depends
on a combination of both luck and skill.3 A player might have a
decent hand, but as Kenny Rogers tells us in “The Gambler”, he or
she would still have to “know when to hold ‘em, know when to fold
‘em, know when to walk away and know when to run” to actually be
a success.
3
A court in England recently had the opportunity to decide
whether Texas Hold ‘Em was a game of chance or a game of skill,
and the jury decided on the former. See
http://news.bbc.co.uk/1/hi/england/london/6267603.stm.
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For 2000, the taxable year in issue, Mrs. Tschetschot earned
approximately $49,000 in wages. She also participated in nine
poker tournament series, winning in excess of $11,000.4
Mrs. Tschetschot claimed a net loss of $29,933 from her
“professional gambler” activity in 2000 on her Schedule C, Profit
or Loss From Business. Mr. Tschetschot claimed a net loss of
$9,000 from his “professional gambler” activity in 2000 on his
Schedule C.
Respondent determined a deficiency of $10,071 based on the
view that the deductions claimed by petitioners related to their
gambling activities were not appropriately Schedule C deductions,
but rather deductions allowable on Schedule A, Itemized
Deductions, but only to the extent of petitioners’ winnings.
Respondent also determined an accuracy-related penalty under
section 6662(a) of $2,014.
At trial, petitioners conceded the issue as to Mr.
Tschetschot but disputed the determination as to Mrs.
Tschetschot. Respondent conceded Mrs. Tschetschot’s status as a
professional, as well as the corresponding treatment of certain
expenses related to her professional gambling activity.
4
The amount of Mrs. Tschetschot’s stipulated winnings
totals $13,269, whereas she reported only $11,708. Respondent
discusses this discrepancy in his posttrial brief by saying that
“Respondent did not adjust this discrepancy because the
unreported winnings would have been offset by allowance of losses
that were disallowed.”
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Respondent maintains that section 165(d) limits Mrs.
Tschetschot’s losses and that petitioners remain liable for an
accuracy-related penalty. Petitioners contend that Mrs.
Tschetschot’s professional tournament poker playing activity is
more properly classified as “entertainment and professional
sports” than professional gambling and should bear the resulting
tax treatment; i.e., that her net loss should not be limited by
section 165(d) restricting losses from wagering activities.
Petitioners also contend that they do not meet the threshold
amount for the imposition of an accuracy-related penalty based on
a substantial understatement of income tax.
OPINION
I. Tournament Poker5
Central to petitioners’ contention is the thesis that
tournament poker, unlike other types of poker, is not a wagering
activity.
The term “wagering” has different meanings depending on the
context in which the term is used. More often than not, and as
it is used in the Internal Revenue Code, the term is synonymous
with “gambling”.6
5
The issue related to tournament poker is essentially
legal in nature; accordingly, we decide it without regard to the
burden of proof.
6
The legislative history of sec. 23(g) of the Revenue Act
of 1934, ch. 277, tit. I, 48 Stat. 680, 689 (subsequently
(continued...)
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Congress has made a policy decision such that, while section
165 generally allows losses to be deducted from gross income,
“[l]osses from wagering transactions shall be allowed only to the
extent of the gains from such transactions.”7 Sec. 165(d); see
also sec. 165(a). However, neither the Internal Revenue Code nor
the regulations define what constitutes a wagering activity.
When a term is not defined, we must apply the term’s “plain,
obvious, and rational meaning.” Liddle v. Commissioner, 103 T.C.
285, 293 n.4 (1994), affd. 65 F.3d 329 (3d Cir. 1995); see also
Boyd v. United States, 762 F.2d 1369, 1373 (9th Cir. 1985).
According to the dictionary, a “wager” is defined as “something
risked or staked on an uncertain event” or “a bet”. Random House
College Dictionary (1968). Similarly, “to wager” is
6
(...continued)
redesignated sec. 23(h) by the Revenue Act of 1938, ch. 289, 52
Stat. 461 and then continued as such in the 1939 Code until
enacted as sec. 165(d) in the 1954 Code) uses the terms
“wagering” and “gambling” interchangeably.
7
Sec. 165(d) applies to both professional and recreational
gamblers. See, e.g., Boyd v. United States, 762 F.2d 1369 (9th
Cir. 1985); Offutt v. Commissioner, 16 T.C. 1214 (1951);
Heidelberg v. Commissioner, T.C. Memo. 1977-133. One of the
consequences to professional gamblers is that the loss carryover
provisions of sec. 172 are unavailable for amounts attributable
to wagering activity. That is not an issue in this case as Mrs.
Tschetschot had other income to absorb her expenses properly
deductible as a professional. One of the consequences to
nonprofessionals is that they may only deduct gambling losses if
they itemize deductions on their tax returns. Sec. 62(a); see
also Heidelberg v. Commissioner, supra.
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defined as: (1) Something risked or staked on an uncertain
event; bet; (2) the act of betting. Random House College
Dictionary (1973). Courts have often had to differentiate
between wagering and related activities on the one hand and those
activities not falling into that category on the other. See,
e.g., Allen v. U.S. Govt. Dept. of Treas., 976 F.2d 975 (5th Cir.
1992) (“tokes” paid as tips to casino dealers are not gains from
wagering transactions); Offutt v. Commissioner, 16 T.C. 1214
(1951) (betting on horse races is wagering); Libutti v.
Commissioner, T.C. Memo. 1996-108 (gambler’s receipt of
complimentary goods from a casino was sufficiently tied to
gambling participation that they were gains from wagering
transactions); Whitten v. Commissioner, T.C. Memo. 1995-508
(expenses incurred to be a contestant on Wheel of Fortune were
not wagering expenses); Heide v. Commissioner, 2 B.T.A. 451
(1925) (playing bridge for stakes is wagering). However, courts
have routinely held that poker is a wagering activity. See,
e.g., Boyd v. United States, supra. But here, petitioners ask us
to treat tournament poker differently than other kinds of poker.
After a careful review of the record, it is clear that while
there are differences between tournament poker and other types of
poker,8 none rise to the level of meaningful, substantive
8
The most significant difference is that unlike playing in
a live-action poker game, when one buys into a tournament game,
(continued...)
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differences that would warrant different tax treatment under the
current Internal Revenue Code.
A. Tournament Poker as a Sporting Event
Petitioners argue that tournament poker is conducted in much
the same way as other professional sporting tournaments.
Participants pay an entry fee and compete to win prizes through
their good fortune and superior skill. But simply because a
sport or activity is played or conducted in a tournament setting
does not transform the underlying activity into something
different.9
Tournament poker play, much like live-action poker,
necessitates the use of the word “bet” or “wager” even to
describe how the game is played. Petitioners argue that the
usage of the word “bet” in this context is insignificant. The
Court sees it differently.
Betting is so intrinsic to poker that it is nearly
impossible to avoid using a word that implies gambling in any way
8
(...continued)
each player receives the same fixed amount of chips. The game is
played, and when a player runs out of chips, the player is out of
the tournament. The playing continues until one player has all
of the chips. It may take a different skill set to play
tournament poker because no endless stream of funds is available,
and endurance is a crucial factor to a participant’s success.
9
Similarly, a casino’s decision to issue a Form W2-G,
Certain Gambling Winnings, or a Form 1099-Misc., Miscellaneous
Income, does not affect the nature of the winnings for tax
purposes.
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when discussing the topic. Bets are placed on each hand, and
each round of betting has consequences. Whether or not the chips
being used to make these bets have immediate and tangible
monetary value does not change the fact that the players are
still placing bets, hoping to win. This is true even in a
tournament setting.
Petitioners agree that the first poker tournaments held
were, in fact, “wagering events”. For example, in those early
games, “Each participant put up $10,000 and received $10,000 in
chips.” The fact that the chips being used to place bets in
tournament poker today only bear some fractional relationship to
the dollar values of the prizes and/or entry fees does not change
the basic nature of the game as a wagering activity.
B. Professional Tournament Poker as a Business
Petitioners also raise an equal protection argument and
argue that there is no valid reason to treat tournament poker
differently, for tax purposes, from tournament golf or tennis.
Petitioners argue that the benefits of being able to offset
“exaggerated income” from very successful years by losses
sustained in less successful years should be available to
professional tournament poker players as much as they are to
other professions.
Congress made a policy decision to treat businesses based on
wagering activities differently. In the absence of Congressional
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action, we are not free to correct any perceived unfairness
stemming from a rationally based policy choice. In Valenti v.
Commissioner, T.C. Memo. 1994-483, the Court noted that treating
businesses based on wagering and gambling differently from other
businesses is a rational differentiation and not one that rises
to the level of being violative of due process or equal
protection. See also Steward Mach. Co. v. Davis, 301 U.S. 548,
584 (1937) (holding that Congress, like the states, has the
freedom to tax businesses differently). Thus, it has been held:
[A] classification that differentiates the business of
gambling from other business has “a rational basis, and when
subjected to judicial scrutiny, it must be presumed to rest
on that basis if there is any conceivable state of
facts which would support it.” * * *
Valenti v. Commissioner, supra (quoting Carmichael v. Southern
Coal Co., 301 U.S. 495 (1937)).
II. Substantial Understatement of Tax
With respect to a taxpayer’s liability for any penalty,
section 7491(c) places on the Commissioner the burden of
production, thereby requiring the Commissioner to come forward
with sufficient evidence indicating that it is appropriate to
impose the penalty. See Higbee v. Commissioner, 116 T.C. 438,
446-447 (2001). Once the Commissioner meets his burden of
production, the taxpayer must come forward with persuasive
evidence that the Commissioner’s determination is incorrect. See
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id. at 447; see also Rule 142(a); Welch v. Helvering, 290 U.S.
111, 115 (1933).
Section 6662(a) imposes a penalty equal to 20 percent of the
amount of any underpayment attributable to a substantial
understatement of income tax. Sec. 6662(b)(2). An
understatement is the amount by which the correct tax exceeds the
tax reported on the return. Sec. 6662(d). The understatement is
substantial if it exceeds the greater of $5,000 or 10 percent of
the tax required to be shown on the return. Sec.
6662(d)(1)(A)(i) and (ii).
Section 6664(c)(1) provides that no penalty shall be imposed
if the taxpayer demonstrates that there was reasonable cause for
the underpayment and the taxpayer acted in good faith. The
determination of whether a taxpayer acted with reasonable cause
and in good faith depends on the facts and circumstances of the
situation and includes an “honest misunderstanding of fact or
law”. Sec. 1.6664-4(b)(1)(c), Income Tax Regs. Insofar as Mr.
Tschetschot is concerned, petitioners have not demonstrated
either good faith or that there was reasonable cause for their
position. As to Mrs. Tschetschot, petitioners were clearly aware
of the mandate of section 165(d); their wish that it be
inapplicable to tournament poker does not constitute the type of
misunderstanding contemplated by the statutes or the regulations.
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An understatement is reduced by the portion of the
understatement that is attributable to the tax treatment of an
item for which there is substantial authority or with respect to
which there is adequate disclosure and a reasonable basis. See
sec. 6662(d)(2)(B); sec. 1.6662-4(a), Income Tax Regs. However,
no substantial authority exists to support petitioners’ position
as to either the inapplicability of section 165(d) to tournament
poker or Mr. Tschetschot’s status as a professional gambler.
Substantial “authority [exists] for the tax treatment of an item
only if the weight of the authorities supporting the treatment is
substantial in relation to the weight of authorities supporting
contrary treatment.” Sec. 1.6662-4(d)(3)(i), Income Tax Regs.
Types of authority on which a taxpayer may rely include the
Internal Revenue Code and regulations, revenue rulings and
procedures, technical advice memoranda, and private letter
rulings. See sec. 1.6662-4(d)(3)(iii), Income Tax Regs.
Additionally, whether or not there was adequate disclosure, there
is no reasonable basis to support petitioners’ position on
tournament poker given the clear mandate of section 165(d) and
the existing caselaw interpreting it. Accordingly, we are not
permitted to make a reduction in the understatement attributable
to respondent’s determination on that issue.
In view of respondent’s concession that Mrs. Tschetschot’s
expenses are deductible, it is unclear whether there exists a
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substantial understatement of income tax. We therefore leave for
the parties to determine as part of the Rule 155 computation
whether there was, in fact, a substantial understatement for the
taxable year in issue. If a substantial understatement exists
for the year in issue, petitioners are liable for the accuracy-
related penalty.
III. Conclusion
The moral climate surrounding gambling has changed since the
tax provisions concerning wagering were enacted many years ago.
Not only has tournament poker become a nationally televised
event, but casinos or lotteries can be found in many States.
Further, the ability for the Internal Revenue Service to
accurately track money being lost and won has improved, and some
of the substantiation concerns, particularly for professionals,
no longer exist. That said, the Tax Court is not free to rewrite
the Internal Revenue Code and regulations. We are bound by the
law as it currently exists, and we are without the ability to
speculate on what it should be. Accordingly, we hold that
tournament poker is a wagering activity subject to the
limitations of section 165(d).
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To reflect the foregoing,
Decision will be entered
under Rule 155.