Journal of Financial Planning: February 2025
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Ivan Roten, Ph.D., CFP®, is a finance professor at Appalachian State University. He teaches investments and corporate finance. Dr. Roten’s research interests include investments, financial planning, and real estate. He focuses on research for practitioners and academics.
Jarrod Johnston, Ph.D., CFP®, is a professor of finance at Appalachian State University. He has taught corporate finance, international finance, and financial planning classes. Dr. Johnston has research interests in financial decisions, financial markets, financial planning, and government policy.
Marshal Roten graduated with a master’s in accounting from Appalachian State University in August 2024. He entered the workforce in October 2024 as an auditor in the public accounting sector, specializing in lending. He is passionate about complex accounting issues and strategies for navigating GAAP.
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The U.S. Supreme Court ruling in Murphy v. NCAA on May 14, 2018, was a pivotal moment that allowed states to individually decide the forms of gambling that would be legal in their jurisdictions. This ruling quickly led to the legalization of sports betting in many states and was a significant step toward generating revenue from the taxation of sportsbooks.1 As of 2024, 38 states and Washington, D.C., have legalized sports betting, with 31 of these jurisdictions allowing online sportsbooks. While sports betting allows individuals to earn money from sporting events, there are significant adverse effects, including a substantial tax burden. This article provides planners and individuals insight into navigating U.S. and state tax laws related to sports betting, focusing on understanding tax implications, minimizing tax exposure, and expectations for the future.
First, we explain how winnings from sports gambling impact reported income and federal taxes. Gambling losses can be used to offset wins only for taxpayers who use itemized deductions. Taxpayers using the standard deduction pay additional income tax on the gambling wins with no reduction for their losses.
Second, we discuss the unique approach of nine states—Connecticut, Illinois, Indiana, Kansas, Louisiana, North Carolina, Ohio, Rhode Island, and Vermont—which are “decoupled,” or independent, from the federal code. These states do not allow gambling losses to offset wins. This can create a substantial and unexpected state tax burden even when an individual is itemizing their deductions and has net losses from gambling.
Third, we analyze the financial opportunities and challenges clients may face when engaging in sports wagering, guiding how to navigate the complex financial regulations and tax implications. In order to use gambling losses as offsets against wins, gamblers must keep detailed records of all their betting activity. Additionally, gambling winnings increase a taxpayer’s adjusted gross income (AGI), which can limit eligibility for some federal programs.
Federal Taxation Laws
Deducting Losses
According to section 61(a) of the Internal Revenue Code, gross income, unless otherwise provided by law, is “all income from whatever source derived.” This rule applies to winnings from sports wagers. However, individuals have different interpretations of what constitutes “winnings.”
Section 1222(11) of the Internal Revenue Code allows for the netting of capital gains. Taxpayers can use capital losses to offset capital gains in the same tax year. Similarly, taxpayers can reduce gambling winnings by losses in the same year. However, the treatment and reporting of losses differ between capital gains and gambling winnings.
Capital gains are reported on Schedule D of the individual’s tax return, with the “net” amount flowing through to page 1 of Form 1040. In contrast, section 165(d) of the revenue code allows individuals to itemize their gambling losses. All gambling winnings must be reported on line 8 of Form 1040 as “other income.”
Individuals can choose between taking the standard deduction or itemizing deductions, typically opting for whichever is greater. For the 2024 tax year, the standard deduction is $29,200 for married couples filing jointly and $14,600 for single filers. To benefit from itemizing, individuals must accumulate deductions exceeding the standard deduction amount.
Professional Gambler Requirements and Benefits
The IRS has established special rules for professional gamblers. Professional gamblers may be subject to self-employment income if they qualify as a business under the tax code. According to section 183 of the Revenue Code, hobby losses cannot be deducted on Schedule C as business losses. The distinction between a hobby and a for-profit business is ambiguous and often subject to interpretation.
For sports bettors to qualify as professionals and utilize Schedule C as a self-employed business, they must be engaged in sports betting primarily for profit rather than only as a hobby. If a taxpayer utilizes Schedule C, they will report winnings as revenues and losses as deductions. The net amount will flow through to Form 1040. Professional gamblers only have to report the net amount for tax purposes. However, self-employed individuals are subject to the self-employment tax. For 2024, the self-employment tax is 15.3 percent, half of which may be deducted.
Operator Reporting Requirements
Gambling operators are required to report gambling winnings to the IRS when certain conditions are met. For sports gambling, a W-2G is issued when the winnings from a single wager are $600 or greater and at least 300 times the amount of the bet. A 1099-MISC is issued when a gambler’s net winnings for the year exceed $600. Taxpayers are legally obligated to report all gambling winnings on their tax returns, regardless of whether they receive a W-2G or 1099-MISC.
Adjusted Gross Income (AGI)
Income reporting is significant because taxpayers’ eligibility for certain tax credits and deductions may be limited by their AGI, and Medicare premiums may rise. For example, in 2024, the child tax credit is available to individuals with an AGI of less than $400,000 if filing jointly ($200,000 for single filers). Additionally, the adoption credit and lifetime learning credit are phased out as an individual’s AGI reaches certain thresholds.
Individuals who do not file as professional gamblers must report their total amount of winnings, which may significantly increase their AGI. AGI is entered on line 11 of Form 1040, while itemized deductions are on line 12. Therefore, the AGI for individuals who itemize will include gains but not losses from gambling. This has the potential to significantly impact taxpayers who typically receive tax credits and may substantially increase their AGI in subsequent years.
State Taxation Laws
States generate revenues from gambling by taxing operators, gamblers, or both. They typically tax a percentage of an operator’s revenue generated within the state. This percentage varies widely among states, averaging around 15 percent. For example, Tennessee imposes a modest 1.85 percent tax on gambling operators’ revenues, while New Hampshire and Rhode Island charge a significantly higher rate of 50 percent tax on revenues generated within their states.
States also tax gamblers’ winnings through personal income tax, typically treating them as ordinary income. Most states follow the federal tax code regarding deductions. As shown in Table 1, 22 states and Washington, D.C., allow gambling losses to offset wins when itemizing, and seven states have no income tax. However, nine states—Connecticut, Illinois, Indiana, Kansas, Louisiana, North Carolina, Ohio, Rhode Island, and Vermont—do not allow itemized deductions for gambling losses. In these states, the state tax code does not follow federal rules. Additionally, itemized deductions are phased out based on income in Maine, and Massachusetts only allows deduction of gambling losses from operators licensed by the state. This can result in gamblers paying state taxes on their gross winnings without the ability to offset them with their losses, leading to a higher tax burden.
Let’s consider two scenarios to illustrate how gambling wins and losses are treated for tax purposes:
Client A has $8,000 in sports gambling wins and $5,000 in losses for the year. If they use the standard deduction, they cannot benefit from deducting their losses. As a result, they will pay both federal and state taxes on the full $8,000 of winnings.
Client B has $75,000 in gambling wins and $125,000 in losses over the year. At the federal level, if they itemize deductions, they can offset their wins with their losses, but only up to the amount of their winnings. Thus, they can deduct $75,000 of their $125,000 in losses, effectively reducing their taxable gambling income to zero for federal purposes. However, if Client B resides in a state that does not allow deductions for gambling losses, they would still owe state taxes on the full $75,000 in winnings, despite having incurred a net gambling loss of $50,000 for the year.
These examples demonstrate how state and federal tax treatments can differ, potentially resulting in tax liability even when a gambler has net losses.
The determination of which state has the authority to tax the gambling winnings depends on the individual’s location when the bet was placed, including online sports betting. If a resident has gambling winnings in a state where they do not reside and meet that state’s income requirements, they will be required to file a non-resident state tax return in the state where the gambling occurred. The individual must follow the tax laws of the governing state. Therefore, if winnings or losses occur in a state where the tax laws are decoupled from federal regulations, professionals should exercise due care to ensure the winnings and losses are accounted for properly. Gambling winnings will be taxed at the state level based on the respective tax rate in each state. Losses can be used to reduce their tax burden in states that allow itemized deductions. Similar to the federal level, if the standard deduction exceeds the itemized deductions, it would be in the taxpayers’ best interest to utilize the standard deduction. Therefore, gambling losses will not always benefit taxpayers who may have a limited amount of itemized deductions.
Challenges for Taxpayers
While providing revenue generation and entertainment opportunities, the legalization of sports betting also introduces several challenges for taxpayers. These challenges include the burden of accurate recordkeeping, complex tax laws, and the potential financial and legal repercussions of non-compliance. This section explores taxpayers’ primary difficulties when engaging in sports betting and offers strategies for navigating these challenges.
Recordkeeping Requirements
One of the most significant challenges for taxpayers is understanding and complying with the intricate federal and state tax laws governing sports betting. Section 165(d) of the Internal Revenue Code allows taxpayers to deduct gambling losses, but only to the extent of their gambling winnings, and these deductions must be itemized. This creates a complicated scenario where taxpayers must meticulously track and report their winnings and losses throughout the year.
Accurate recordkeeping is essential for taxpayers involved in sports betting, yet it presents a considerable burden. Taxpayers must maintain detailed records of each wager, including the bet’s date, type, amount, and outcome. For professional gamblers, the requirements are even more stringent, as they must also document their business expenses and prove that their gambling activities constitute a trade or business. In many states, sportsbooks are required to retain comprehensive records of each wager, including the amount, type, location, and IP address of the bettor. This requirement indirectly affects taxpayers, as they must ensure their records align with those maintained by sportsbooks to avoid discrepancies and potential audits.
Complex Tax Laws
Additionally, federal tax laws require individuals to report all gambling winnings as part of their gross income, as section 61(a) of the Internal Revenue Code outlines. However, accurately determining and reporting these winnings can be confusing. Taxpayers must distinguish between casual and professional gambling, each subject to different tax treatments and reporting requirements. Professional gamblers, for example, must report their winnings as business income on Schedule C, while casual gamblers report their winnings as other income on Form 1040.
Financial Impact
Sports betting can significantly impact taxpayers’ financial situations, particularly concerning their tax liability. High levels of gambling activity can lead to substantial winnings, which must be reported as income, thereby increasing the taxpayer’s AGI. A higher AGI can reduce eligibility for various tax credits and deductions, such as the child tax credit, adoption credit, and lifetime learning credit. For example, in 2024, the child tax credit is phased out for individuals with AGI exceeding $400,000 for joint filers and $200,000 for single filers. Furthermore, taxpayers classified as professional gamblers must pay self-employment tax on their net gambling income, which is 15.3 percent in 2024. This additional tax burden can be significant, especially for those who rely on gambling as their primary source of income. Taxpayers must also navigate state-specific regulations, which can vary widely.
Strategies for Managing Challenges
To manage these challenges, financial planners should consider the following strategies:
- Recommend a tax specialist. Advising clients to consult with a tax professional or accountant specializing in gambling income can help them navigate complex tax laws and optimize their financial and tax outcomes.
- Encourage detailed recordkeeping. Instruct clients to keep thorough and accurate records of all gambling activities, including winnings, losses, and expenses. This will ensure compliance and accurate tax reporting.
- Stay informed about state laws. Educating clients about state-specific regulations, particularly in decoupled states, helps them comply with local tax obligations and avoid legal issues.
- Plan for tax liability. Recommending that clients set aside a portion of gambling winnings to cover potential tax liabilities can help avoid financial strain during tax season.
By understanding and addressing these challenges, financial planners can help their clients better manage the tax implications of sports betting and ensure compliance with federal and state tax laws.
Conclusion
The legalization of sports betting has introduced a new set of financial challenges for individuals and complexities for financial planners. As this article has highlighted, the tax implications of sports betting can be significant and often unexpected, particularly due to the interplay between federal and state tax laws.
Clients may face substantial tax liabilities, even when experiencing net gambling losses, due to the limitations of the standard deduction or residing in states that do not allow itemized deductions for gambling losses. Moreover, gambling winnings can significantly increase a client’s AGI, potentially limiting their eligibility for various federal programs and tax credits. To navigate these complexities, strict and detailed recordkeeping is crucial for clients engaged in sports betting to ensure accurate tax reporting and compliance. It’s important to note that while operators are required to report certain winnings to the IRS, the majority of a client’s betting activity will likely not be reported. Despite this, clients are legally obligated to report all gambling winnings on their tax returns, regardless of whether the operators have reported them.
In conclusion, while sports betting can offer entertainment and potential profits, it also brings significant financial and tax considerations. By understanding these challenges and implementing proactive strategies, financial planners can help their clients navigate the complex landscape of sports betting taxation. This approach ensures compliance while optimizing financial outcomes. As the regulatory environment continues to evolve, staying informed and adaptable will be key to providing valuable guidance in this emerging area.
Endnote
- This paper will refer to interactive sports wagering operators as sportsbooks.