The US Tax Court has ordered professional golfer Sergio Garcia to pay tax on endorsement income he had claimed was tax-free under the US-Switzerland tax treaty.
The court decided Garcia's contract with his sponsor TaylorMade had attributed too much of the money to royalty payments for image rights, which the treaty exempts from US tax.
Garcia entered into a seven-year endorsement agreement with sponsor TaylorMade Golf Co. (TaylorMade), allowing TaylorMade to use his image, name, and voice - "image rights" in advertising and marketing campaigns worldwide.
Garcia also agreed to perform personal services for TaylorMade including using its products in all his golf play, posing and acting for advertisements, and making personal appearances for the company.
In return for his services and use of his image rights, TaylorMade agreed to pay Garcia a base compensation of $7 million during the years at issue.
The original endorsement didn't specify the percentage of remuneration attributable to personal services or "image rights." In a later amended agreement provide for 85% of the compensation to be allocated to royalties for his "image rights" and 15% to personal services.
Garcia paid no U.S. tax on the royalty payments and paid lower tax rates under Swiss law. He did, however, pay U.S. tax on the U.S.-source personal service payments, of which he reported a portion on Forms 1040-NR.
IRS challenged the 85%-15% allocation between royalty and personal service payments, claiming that the royalty portion was overstated and issued Notice of Deficiencies in the amount of $930,249 and $789,518 for tax years 2003 and 2004, respectively.
1. Compensation paid by TaylorMade under the endorsement agreement is allocated 65%to Royalties and 35% to Personal Services.
2. None of the Royaltycompensation is taxable to petitioner in the United States, but
3. All of the U.S. source Personal Service compensation is taxable to petitioner in the United States based on his failure to timely raise the issue of whether the golfer's U.S.-source personal service income was exempt from U.S. tax.
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