NIL Collective Denied Tax Exemption, IRS Disavows Prior Rulings to the Contrary

In Private Letter Ruling 202414007, released last Friday, the Service denied tax exempt status to an NIL collective for private benefit and operating for a substantial non-exempt purpose.  Elaine Waterhouse Wilson posted about NIL collectives just last week, a few days before the Service released the ruling.  The ruling makes a point of disavowing unspecified prior rulings that granted tax exempt status to similar collectives.  It also describes some interesting details providing food for thought.  For example, the ruling states that student-athletes sign "independent contractor" agreements with the organization.  In turn, the organization enters into "letters of understanding" with local charities by which student athletes promote the charity via personal appearances and social media posts. 

The treatment of student athletes as independent contractors vis-à-vis the collective caught my attention.  I kinda doubt that student athletes can free lance their services to other collectives.  Exclusive services to one organization does not automatically result in employee status, but it cuts against independent contractor status.  And I bet student athletes don't do anything other than show up and do exactly what they are told when they are told to do it. All by that single NIL collective. There are not enough facts to really analyze whether the collective should be treating the student athletes as employees subject to employment tax withholding and matching.  But the question seems worth exploring.  The Service seemed only to briefly question the characterization.  It implied that employee or independent contractor status would not change the outcome.  Here are some of the facts:  

You are a nonprofit organization incorporated in C on D. You were formed to engage student athletes at the college level to lend their Name, Image and Likeness (NIL) to other charitable organizations in the vicinity. This arrangement for student athletes is to monetize their NIL by matching the selected students with deals in which they are paid by you to promote local charitable organizations. The student athletes selected will make personal appearances and social media posts for the charity. Initially you will work with student athletes at the E. Your revised budget indicates approximately w percent of your gross receipts will be paid to student athletes for their services. You expect no more than x percent of your total gross receipts will be paid to student athletes utilizing their NIL.

. . . 

You assert that not only will student-athletes benefit monetarily from NIL opportunities by working with you, but also, the community will benefit as well. The proposed NIL approach to philanthropy will create relationships with charitable and educational organizations which will advance the economic interests of the charities and benefit education as well. You will bring together private donors, local businesses and fans with student athletes from the E. You will instill in student athletes the importance of humanitarian work and philanthropy as a part of education. This exempt purpose may be accomplished by creating an NIL platform with student athletes and other charities in the community. The student athletes will benefit monetarily from the NIL opportunity, and the community will also thrive through this philanthropic and educational approach to giving.

You plan to engage in direct contact with existing charitable and educational organizations, implementing "sports clinics targeted to community youth." You also stated that you plan on directly funding, in the future, charitable and educational initiatives maintained by other tax-exempt organizations in the community. Your funding will come from fans, alumni of the E and generous private donors. You anticipate direct advertisement to the students and the public will also be used but that has not yet been developed.

The ruling concludes that student athletes do not compose a charitable class, though the collective described college students generally as "poor and distressed."  The ruling states that student athletes' financial status has nothing to do with their engagement by the collective.  But don't students and college athletes compose a charitable class without regard to financial status anyway?  Schools give scholarships to rich smart kids all the time.  Why should hiring rich physically gifted kids be any different?  That's the only part of the analysis that is giving me pause.  I'm not sure it's necessary to say that student athletes do not compose a charitable class to deny exemption to collectives.  I think the assertion represents an analytical weakness, though not a fatal one because running a talent agency -- which is what NIL collectives are doing -- seems unrelated to the any charitable purpose.   

Another assertion caught my eye as well.  Some NIL contracts pay student athletes millions.  Perhaps in an effort to avoid unreasonable compensation issues the collective disavowed any notion that the student athletes perform services for the charities:

You stated that you do not pay student athletes for providing services for charities. You engage the student athletes to conduct activities which promote the mission of selected charities by utilizing the student athlete's NIL. These activities include social media posts and personal appearances on behalf of the charity. You state such activities are not services to the charities by you or the student athlete but are actions on behalf of the charity designed to expand the charity's visibility in the community. 

Finally, the ruling states that even if the Service granted tax exempt status to other NILs, it would not consider itself bound by those rulings.  Our man Phil Hackney offers thoughts on that topic in this Sportico article:

To the extent that a number of collectives have received 501(c)(3) determination, Hackney thinks that likely owes to administrative error. “If you got status, it just means you got it through an overwhelmed process,” Hackney said. Hackney notes that the IRS’s gutting in the wake of the 2010 Tea Party targeting scandal, when the agency, then under President Barack Obama’s administration, was found to have targeted conservative organizations seeking tax-exempt status. In May 2013, the Treasury Inspector General for Tax Administration released an audit report that found IRS officials had been “using inappropriate criteria to identify organizations” seeking 501(c)(3) status, which included their searching for applicants with “Tea Party” in their name. In the political fallout, conservatives successfully prevailed upon Congress to slash the IRS’s funding—cutting the budget of its Exempt Organizations division from $102 million in 2011 to $82 million in 2016, according to the Washington Post—all while the number of applications for tax-exempt status were growing by leaps and bounds. According to the IRS, it now receives more than 95,000 applications each year.

darryll k. jones