(Bloomberg) Sergio Garcia, the professional golfer, must pay additional taxes on income from endorsements that he claimed was exempt, the U.S. Tax Court ruled, because too much of the money was attributed to payment for his image.

Sergio Garcia
(photo by This Is Golf)

Garcia argued unsuccessfully that 85 percent of his income from an endorsement agreement with TaylorMade Golf Co. stemmed from image-derived royalty payments shielded from U.S. taxation because they flowed through a Swiss business entity and because he’s a resident of Switzerland.

Judge Joseph Goeke in Washington ruled that “the compensation paid by TaylorMade under the endorsement agreement is allocated 65 percent to royalties and 35 percent to personal services.”

Goeke said that the royalty portion of the income was exempt from U.S. taxes under the Swiss Tax Treaty and that all payments for personal services earned in the U.S. are taxable.
Garcia’s case centers on a disputed $1.7 million in his taxes in 2003 and 2004.

The opinion didn’t say how much he would have to pay the government if the ruling stands.

While Goeke’s ruling increased Garcia’s U.S. tax burden, it’s actually a big win for the golfer and a loss for the IRS, said Matthew Kadish, of Kadish, Hinkel & Weibel in Cleveland.

The agency has been trying to convince judges that all endorsement earnings should be treated as personal services income, said Kadish, whose firm represented golfer Retief Goosen in a similar tax court case decided in June 2011.

IRS Losses
“This is two big cases in a row where they’ve lost on that,” the lawyer said in a phone interview.
Both the Garcia and Goosen cases involved the division of payments between those for made for a golfer’s image and those based on “personal services,” which include factors like how well he plays.

The difference is important because royalty earnings typically are taxed less heavily under tax treaties than personal services income.

Taken together, the two cases send the message that “the bigger name is going to get more favorable tax treatment,” said Tony Nitti, a partner at the accounting firm of WithumSmith & Brown in Aspen, Colorado.

“If you’re a bigger name than Sergio Garcia, you can start formulating an argument that ‘OK, more than 65 percent of my endorsement income should be allocated toward royalty,’” Nitti said in a phone interview.

Comments Sought
Jenny Austin, of Baker & McKenzie LLP, an attorney for Garcia, declined to comment on the ruling. Dean Patterson, a spokesman for the Internal Revenue Service, didn’t immediately respond to an e-mailed request for comment.

The Spanish-born Garcia, nicknamed “El Nino,’ has been a professional golfer since 1999 and has played on both the PGA and European tours.

“Petitioner is notable for his charismatic and fiery personality which differentiates him from most others who play the ‘gentleman’s game’ for a living,” Goeke wrote in his opinion.

In the Goosen case, a judge ruled that image and performance were both important factors in endorsement deals between the South African golfer and six companies including Rolex Group, Upper Deck Co., Acushnet Co. and TaylorMade.

Looking specifically at Goosen’s deal with TaylorMade, Judge Diane Kroupa ruled that 50 percent of the income was attributable to royalty and 50 percent to personal services.

Goosen Comparison
In his ruling, Goeke reviewed the Goosen case and determined that image was a bigger part of Garcia’s agreement with TaylorMade than it was for the South African.

Garcia, 33, was designated a “TaylorMade Global Icon” while Goosen was merely a “brand ambassador,” Goeke noted.

Garcia’s special marketing status “is strong evidence that his TaylorMade endorsement agreement was more heavily weighted toward image rights that Mr. Goosen’s,” Goeke found.

On the other hand, Garcia’s claim that the TaylorMade deal was 85 percent based on royalty, “does not comport with the economic reality of the endorsement agreement,” Goeke wrote.

The case is Garcia v. Internal Revenue Service, 10-13649, U.S. Tax Court (Washington).