Article: Contest winner turns down prizes because of tax

Contest Winner Declines
'Free' Airline Tickets
July 6, 2005; Page B1

One winner of a recent American Airlines contest says he would have been better off losing.

The contest, launched as part of the airline's We Know Why You Fly marketing campaign, awarded free tickets to travelers submitting the best videos, essays or photographs about their flying experiences. The grand prize winners were offered 12 round-trip restricted coach tickets for two from the U.S. to anywhere in the world American flies. In exchange, American has the right to use the winning materials for promotional purposes.

The contest's fine print explains that winners must pay federal and state income taxes, where applicable, on American's "approximate retail value" of the 12 round-trip tickets for two, which the airline valued at $52,800, or $2,200 per ticket.

Jack McCall, a New York resident who won American's grand prize in the video category by submitting a video montage of snapshots he and his wife collected during their travels around the world, estimates that federal, state and local taxes on the prize could amount to roughly $19,000, given the couple's probable federal tax bracket and because they live in New York City, where income taxes are high. That's equivalent to about $800 for each of the 24 tickets.

And in today's cut-rate airline pricing environment, American's valuation is far more than a winner would likely pay if he or she simply bought the tickets. The result: The tax bill could be higher than the tickets actually sell for.

"I don't know where they got that $2,200 from," says Mr. McCall. "I've never spent more than $1,000 for a plane ticket in my life." Mr. McCall, who is declining the prize, says he could do far better purchasing them himself.

AMR Corp.'s American said the grand prize was valued at $52,800 because the IRS requires it to value the prizes and file 1099 tax forms at their "maximum potential value." An American spokesman says the formula for setting that value "has consistently been used for a long time," and is based on a range of potential itineraries, including the most distant international destinations. "It certainly includes some tickets that might be more expensive than the ones" Mr. McCall ultimately could have used, the spokesman said.

The same formula is used to determine the value of free travel given to outside directors. But in those cases, American opts to pay the taxes itself because the tickets are included in compensation packages. Employees, including executives, who travel free of charge, aren't liable for income taxes on the value of the flights.

The contest has certain restrictions. The vouchers must be used by the winner and a guest, according to contest rules, and travel must be completed within 12 months. That leaves little time, especially for more costly and time-consuming international trips.

The tax consequences of American's contest are similar to what winners can face in other contests, including television game shows or sweepstakes. The difference is that the plane tickets are nontransferable, according to the contest rules, and the winner can't sell the prize to settle the tax bill. Last fall, 276 audience members on the Oprah Winfrey show won Pontiac G6 General Motors Corp. cars valued at $28,500 apiece. Winners could decline the prize, accept the car and pay the taxes, or immediately sell the car and get the difference in cash (and pay taxes on that). At least one couple who won two cars sold one to pay student loans.

Valuing plane tickets also isn't nearly as straightforward as valuing, say, a new car or stereo, since coach fares on the same flight can vary broadly depending on ticket restrictions, dates of travel and how far in advance a ticket is bought.

While Mr. McCall saw the $52,800 valuation figure in the fine print of the contest rules before he entered, he says he didn't understand that the number would be treated like income, since it wasn't a cash prize.

Since winning, Mr. McCall says he discussed his problem with both American and its contest administrator. American offered him alternatives, including the choice of fewer vouchers. Those trips, however, would still be valued at their maximum potential value, and Mr. McCall declined the offer.

Contest winners do have alternatives, according to tax experts. Those who don't agree with the way a company has valued a prize can submit an alternative price with their tax returns, says Martin Nissenbaum, the national director of personal income tax planning for Ernst & Young LLP in New York. He once had a client who won a stereo on "Jeopardy!" that the show valued at $2,000. His client saw an advertisement with a much lower price and sent the Internal Revenue Service the ad with her return to support the lower valuation. It often helps to submit an expert opinion; one from a travel agent would help in Mr. McCall's case, Mr. Nissenbaum said.

Mr. McCall says he was aware of the possibility of challenging American's valuation of the vouchers on his tax return, but he thought that tactic was too risky. "The problem with that is that if the IRS didn't buy it, I'd be" in trouble, he says. "And if I report something different than what American does, that's a red flag for an audit. And who wants to be audited by the IRS?"

Nora Butler, an IRS spokeswoman, says an audit wouldn't necessarily result from such a return. Still, she said the agency might need further clarification. "The best option for a person in this situation is to try to work it out ahead of time" with the company giving the prize away, she says.