Pro sports franchise owners will lose out on millions of dollars in tax savings due to a new Internal Revenue Service rule.

The IRS issued a final regulation Jan. 18 that lumps sports teams in with other kinds of services that don’t qualify for a 20 percent income tax deduction. Sports interests called foul—claiming athletes make up a small part of a team’s business—but the IRS said the main thrust of sports is the service those athletes perform.

A different interpretation would have meant big money to teams organized as pass-through entities, such as limited liability companies and limited liability partnerships, Alexander Reid, a partner in the Washington office of Morgan Lewis & Bockius LLP, told Bloomberg Tax Jan. 23. The regulation means teams may also be looking into how to restructure their businesses to take advantage of the deduction in the ways left to them.

Little is known about the finances of pro sports teams. But a disclosure from the publicly owned Green Bay Packers—the squad in the NFL’s smallest media market—indicate that team took in $441.4 million in revenue in 2017, the latest year for which data is available.

While Green Bay isn’t a pass-through entity, nearly all sports franchises are. And Green Bay’s filing shows the NFL shared $8.1 billion with all the teams that year.

The IRS is putting its foot down to hold back a tide of businesses seeking the deduction, but the reasoning doesn’t necessarily add up for pro sports, Reid said.

“The IRS seems to think sports franchises are performing services to fans in the same way accounting firms are providing accounting services to clients,” Reid said. “It’s pretty obvious to everyone else that’s wrong. The players are providing services to teams and the franchises are providing entertainment for a royalty to the fans.”

Capital Versus Labor

The 2017 federal tax law (Pub. L. No. 115-97) created the 20 percent deduction for pass-through entities as an attempt to lower the tax-burden for pass-through owners to a level comparable to the income tax for shareholders in corporations, Reid said.

But the law also disqualified some services, known as “specified service businesses,” from this deduction in an attempt to retain taxes on labor, which isn’t very mobile, while decreasing taxes on business capital, which can be moved out of the U.S. more easily.

Major League Baseball implored the IRS to take a different stance. In an October 2018 letter to the agency, MLB Commissioner Robert Manfred Jr. said baseball clubs were multi-faceted operations, and not just services.

“In fact, in most cases, the activities of a major league professional athlete make up a de minimis amount of the total activities of all employees of a professional sports franchise,” Manfred said. “This is in stark contrast to the activities of consulting firms, investment banking firms, and health care firms whose activity is substantially all in the performance of disqualifying services.”

The IRS said in its final ruling that although sports club owners aren’t performing athletic services directly, the law considers whether there’s “income attributable to a trade or business involving the performance of services in a specified activity, not who performed the services.”

Restructuring for Tax Advantage?

While owning a sports franchise doesn’t by itself doesn’t qualify for the deduction, the IRS does allow owners to receive the deduction on revenue a separate team business earns from third-parties, Dustin Stamper, tax legislative affairs leader with Grant Thornton LLP’s Washington National Tax Office told Bloomberg Tax in a Jan. 23 email.

“Many teams already structure arena and broadcasting activities as separate trades or businesses. Others may consider reorganizing their activities to qualify,” Stamper said.

The end result might be a “blessing in disguise” for teams that run losses, he said.

“To the extent a team is removing loss activities from the deduction because they represent a separate disqualified trade or business, the owners have actually increased the amount of income left in the qualifying activities that are eligible for a deduction,” Stamper said.