Northwestern University Ruling and Taxing Scholarships, With Professor Amy McCormick, Michigan State University College of Law

The IRS says that college scholarships are not income but in the Northwestern University case, athletic scholarships are like pay and there is a lot of confusion and misinformation on this topic, says Professor Amy McCormick, who specializes in tax law at Michigan State University's College of Law.  The tax treatment of a school doesn't depend on whether an athlete is found under labor law to be an employee and even under tax law, scholarships are taxable or non-taxable without regard to whether an athlete is called an employee.

The tax code says that scholarships aren't income but there's also an exception, notes McCormick, in that same code in that it is treated liked income if the recipient has to provide services in order to get the scholarship.

In the late 1970's, the IRS published a position that they wouldn't tax athletic scholarships but that ruling relied on the assumption athletes could keep getting scholarships even if they quit the sport, which would show they're not required to perform services to get the scholarship, McCormick says.  That's the written law and the problem with that, according to McCormick, is that for many, many years, athletic scholarships at division one colleges and universities have required athletes to perform services in order to get the scholarships.  If an athlete violates team or rules or stops playing, the school has a right to yank the scholarship immediately, which means legally, the scholarship should have been getting taxed all along.  Despite what the law says, the IRS has never opted to tax these scholarships and under the law, they should be viewed as income and McCormick finds it "very curious" why the IRS has never rationalized this.

The Regional Director has made this decision to allow unionization of the football players at Northwestern University and McCormick asks the question, will this prompt change?  If this decision stands, McCormick expects the athletes will bargain for a four-year guaranteed scholarship, which is something the NCAA has not moved to on its own.  That reform would allow athletes to get into compliance with tax law, so they could be certain scholarships wouldn't get taxed.  McCormick notes that the athletes at Northwestern University are not seeking pay for play because if so, they'd get taxed on their play.

McCormick has limited her analysis to football and basketball athletic scholarships because they're the most revenue-generating sports for colleges and universities and therefore, the more likely they'd be viewed as employees.  The way the law is now, it requires that commercial relationship between athlete and school.

Going state by state, the Northwestern University decision is applicable to Northwestern University and if it gets upheld, it will be applicable to private universities.  Athletes at public schools wouldn't be able to use the NLRA to unionize, says McCormick, however, in many states, state laws allow for public employees to unionize.  Athletes would be applying under state law to be recognized as employees, just like Northwestern University athletes filed under federal law to be recognized as employees.  Athletes of public universities can join the same union as athletes of private universities, McCormick adds.

Right to work states make unions harder to exist by saying the union and the employer isn't allowed to come to an agreement that dues will need to be paid as a condition of employment, so it's harder for unions to collect dues, which makes it harder for them to exist, says McCormick.  As a practical matter, it's possible in right to work states, athletes can unionize down the road.

Amy McCormick Professor, Michigan State University College of Law Source: https://www.law.msu.edu/faculty_staff/profile.php?prof=10

Amy McCormick

Professor, Michigan State University College of Law

Source: https://www.law.msu.edu/faculty_staff/profile.php?prof=10

Amy McCormick is a Professor at Michigan State University's College of Law.  For more information on her, click here.  She spoke with the Legal Broadcast Network, providing online, on-demand legal video content.  The Legal Broadcast Network is a featured network of Sequence Media Group.