Poole Researchers Reveal Tax Implications of Sports Betting in North Carolina

Poole College’s Nathan Goldman and Christina Lewellen examine the implications of North Carolinians being unable to itemize their gambling losses and what that means for them as they bet on sports in North Carolina.

By Nathan C. Goldman and Christina M. Lewellen, associate professors of accounting in the Poole College of Management

On March 11, 2024, sports gambling became legalized in North Carolina. For many watching the NCAA Tournament or driving down a highway, newly legal gambling opportunities became very apparent as the advertisements for providers like Draft Kings or BetMGM were abundant in your life. However, many taxpayers are going to be faced with an unexpected incremental tax burden. While many were expecting this burden if they make money — that is, have net winnings — off their sports gambling, taxpayers in North Carolina will likely owe additional taxes even if they end up with a net loss. In this Poole Thought Leadership article, we discuss the implications of North Carolinians being unable to itemize their gambling losses and what that means for them as they bet on sports in North Carolina.

Taxation of Sports Betting

As we initially reported in our Poole Thought Leadership article in April 2023, sports gambling earnings are treated as income. As the taxpayer wins money, they will be subject to taxation in a very similar way to the same taxpayer making money from salary and wages. This income is then subject to individual income taxes, which range from 10% to 37% depending on their other income.

A unique feature of sports gambling is that your winning bets are subject to income, and the cost of losing bets is an itemized deduction. This means that a taxpayer who takes the standard deduction (2024: $14,600 if filing as a single taxpayer; $29,200 if married) will pay taxes on any winnings but will not be able to deduct the cost of losing bets. This treatment stands in stark contrast to other similar activities like buying a stock or cryptocurrency, where you can net your winners against your losses to determine your net income on those activities and only pay taxes on that net income.

To give an example, consider a taxpayer who wagers $50 a day for 360 days. In this example, let’s assume that the taxpayer alternates winners and losers (i.e., day one, wins $50 and day two, loses $50), and let’s also assume that the bets are paid at even money (i.e., $50 is wagered and $100 is paid out on a win). At the end of the year, the taxpayer will have won $9,000 and lost $9,000, resulting in no net cash flow on this activity. If the taxpayer earns $200,000 from their wages, the taxpayer will increase their gross income by the gambling winnings to $209,000. If the taxpayer does not itemize their deductions, they will pay taxes on that additional $9,000 of income. If single, this taxpayer will have an additional $2,880 (32% tax bracket for the $9,000 of income) in tax liability. However, if the taxpayer itemizes their deductions, then the $9,000 of losses will be deducted, and the taxpayer will essentially pay no taxes on the gambling earnings.

Lastly, losses are only deductible to the extent of the winnings. Consider the example above, except that all of the taxpayer’s winning bets are $50, and all of the losing bets are $100. This means that the taxpayer won $9,000 and lost $18,000. If the taxpayer itemizes their deductions, then they will be able to deduct only $9,000. Even though they lost $18,000, the deduction is capped at the amount of winnings.

North Carolina Taxation of Sports Betting

In addition to paying taxes at the federal level, taxpayers must pay taxes on their gambling income at the state level. In 2024, this tax rate is 4.5%, and it applies evenly to taxpayers at all income levels. However, unique to North Carolina, gambling losses cannot be used as an itemized deduction. This “decoupling” from the federal tax code is not unusual. However, it can present some challenges.

Most notably, taxpayers will owe income taxes even if they do not have net winnings. Using the same example as above, where the taxpayer had winnings of $9,000 and losing bets of $9,000, the taxpayer’s income will increase by $9,000. However, the taxpayer will not be able to deduct the $9,000 in losses against North Carolina income even if he or she itemizes their income at the federal level. The result is that the taxpayer will owe an additional $405 in income taxes in North Carolina ($9,000 at a 4.5% income tax rate). Put differently, even if the taxpayer does not earn net winnings on their gambling, they will still owe NC state income taxes because they must pay income taxes on any winning bet, but the taxpayer cannot deduct the losses on a losing bet.

Tax Reporting of Sports Gambling Activities

Even if taxpayers win or lose modest amounts while sports gambling, they are required to pay taxes on their winnings, not unlike it was earned income at a job. For instance, if a taxpayer makes a $50 bet and wins, that taxpayer must pay taxes on the $50 of earnings. Because of the low amount, the taxpayer must self-report that income. However, if the total winnings exceed $600, then the taxpayer will receive a W-2G, which lets the IRS know about their gambling activities, removing the self-reporting requirement.

What makes this situation potentially more problematic for taxpayers is how traceable the bets are. The sports gambling providers primarily operate through mobile apps that track your location and every single bet. At any given time, a taxpayer can observe their activity broken out by winners and losers as well as neatly summarize their activity over a designated time period. The level of sophistication of sports betting tracking differs substantially from taxpayers gambling in casinos in that every single wager, whether big or small, is carefully tracked and organized. This increase in innovation has dramatic tax implications in that it is significantly easier to report both gambling winnings and losses.

Other Unintended Consequences

Given the unique nature of how sports gambling activities are reported on tax returns, there are potentially unintended consequences to engaging in these activities. One of the most significant effects is how gambling winnings affect a taxpayer’s adjusted gross income (AGI).

Taxpayers owe taxes based on their taxable income, which is a function of AGI less any deductions. While taxpayers who itemize their taxes do not necessarily have more income if their gambling losses exceed their gambling earnings, they do still have a higher AGI. AGI is important for two key reasons. First, AGI is used to determine eligibility for many tax benefits, such as the Child Tax Credit. This credit is limited to single taxpayers who have AGI less than $200,000 ($400,000 limit for married couples). For example, consider a single taxpayer who earns $150,000 and is therefore eligible to receive the Child Tax Credit of $2,000. However, if this taxpayer also has gambling winnings of $100,000 alongside gambling losses of $100,000, their taxable income is still $150,000 (including the $100,000 gambling loss itemized deduction). However, their AGI will now be $250,000, removing the taxpayer’s eligibility for the Child Tax Credit.

Among lower-income taxpayers, gambling income can lead a taxpayer to itemize their deductions instead of taking the standard deduction. Consider a taxpayer with $19,600 of income in 2024. They will use the standard deduction of $14,600 and, therefore, have taxable income of only $5,000, resulting in only a $500 tax liability at the federal level. Now, consider this same taxpayer but with $20,000 of gambling income and $20,000 of gambling losses. The taxpayer now has $39,600 of AGI with a $20,000 itemized deduction. The taxpayer will choose to itemize because their itemized deductions are greater than the standard deduction. Thus, the taxpayer will now have taxable income of $19,600, resulting in $2,120 in tax liability. In other words, the taxpayer has an additional $20,000 of taxable income, but only receives an additional $5,400 in deductions over the standard deduction, resulting in a net increase in taxable income of $14,600. Thus, even though the taxpayer broke even on their gambling income, they will owe $1,620 more in federal income taxes in addition to $900 more in state tax to North Carolina.

What Comes Next?

Before the Supreme Court struck down the American Sports Protection Act in 2018, which allows states to have legalized sports gambling, 10 states did not allow gambling losses as an itemized deduction, including North Carolina. Since then, states like Michigan in 2021, Massachusetts in 2022, and West Virginia in 2023 have amended their tax rules to allow for sports gambling losses as an itemized deduction in the same way as it is at the federal level. However, North Carolina, along with Connecticut, Illinois, Indiana, Kansas, Ohio and Rhode Island, continue to disallow the losses to be deducted. While North Carolina is new to legalized sports gambling, taxpayers in other states have been met with a surprise when they find out that their winnings will be taxed at the state level, even if they have a net overall sports gambling loss.

As many North Carolina taxpayers have now participated in sports gambling since its legalization in March 2024, they may be met with an unexpected tax surprise come next winter when they receive a W-2G with their gambling winnings and losses. They will be even more surprised that they owe the state of North Carolina a significant chunk of their gross winnings and, potentially, have to go out of pocket to pay taxes on their gambling losses. As demonstrated by Michigan, Massachusetts and West Virginia, the states have the choice about laws that allow/disallow taxpayers to itemize gambling losses on their state income tax return. In fact, the law eliminating the deductibility of net gambling losses in North Carolina was put into place in 2015. However, that was passed in a different world where sports gambling restrictions had not yet been overturned by the Supreme Court, and therefore gambling was less prevalent. Thus, it may now be a good time for the North Carolina General Assembly to consider revisiting the tax law to allow the itemization of sports gambling losses, which could prevent North Carolinians from facing unexpected and significant tax liabilities come next tax season.

SOURCE: NC State University.