By Teresa Ambord
As the 2012 presidential election played out, some pro baseball players watched from the edges of their chairs wondering what was about to happen to after-tax income. Once it became clear that Barack Obama would retain the office, the sweating began in earnest.
For Major League Baseball (MLB) contracts, the minimum salary is $480,000, well above the level designated by the Obama administration as "wealthy." At the other end of the spectrum is Alex Rodriguez, with a ten-year, $275 million contract that will complete in 2017.
With the election behind us and a strong probability of more tax hikes ahead, free agents have rushed to the negotiating table in the hope of pulling as much of their future income as possible into 2012.
"Front-loading would make sense if at all possible, as tax rates will definitely go up on January 1 on all high-income taxpayers," agent Greg Genske told reporters at Insider Wealth. "The only question is, how much will the rates increase?"
Here's what we already know:
- Beginning in January, on wages above $200,000 for single filers and above $250,000 for married filing joint couples, there will be an additional .9 percent Medicare tax. Even on a minimum MLB salary of $480,000 for a joint filer, that's nearly $21,000 in additional tax.
- Barring a deal between Congress and the president, the Bush tax cuts will expire, and the highest marginal rate will rise from 35 percent to 39.6 percent.
- Some states that have big league teams already have high state taxes: California at 10.3 percent, New York at 8.82 percent, the District of Columbia at 8.95 percent. Others - Florida, Texas, and Washington - have no state taxes.
Front-Loading Signing Bonuses
Josh Hamilton's agent - Michael Moye - is negotiating hard with the Philadelphia Phillies to get his client a $15 million signing bonus in the waning weeks of 2012 to minimize the player's taxes on his seven-year, $140 million deal. If this works, Hamilton stands to save $825,000 in federal taxes.
According to Forbes magazine, the calculations for 2012 look something like this:
Hamilton's base salary is $13.75 million, so clearly he's at the current top marginal rate of 35 percent. A $15 million bonus also will be taxed at 35 percent. That equates to a tax bill of $5.25 million to Uncle Sam, and $217,500 in payroll taxes, for a total bite of $5,467,500.
If the agent isn't successful in getting a fat signing bonus in 2012, the tax scenario looks more like this (assuming the Bush tax cuts do expire):
The federal tax bill rises to $5,940,000 based on ordinary income tax rate of 39.6 percent. The additional Medicare tax of .9 percent on income greater than $250,000 for married joint filers adds another $352,500, bringing the total to $6,292,500, an increase of $825,000.
Some players and their agents are maneuvering to shift part of their compensation from the salary column into the signing bonus column as a way to hold down the state tax bite.
Sports agent Scott Boras told CNBC.com that he asked a tax attorney on his staff to run some numbers of possible tax scenarios. Assume a player who's a resident of Florida and plays in Florida, with a salary of $10 million and average deductions. Even without state taxes being a factor, this player's taxes will rise from $3.45 million in 2012 to $4.09 million in 2013, based on the changes we already know.
If the same player were traded to the Toronto Blue Jays, as several recently were, his tax bite would be $4.27 million. And worst of all possible fates, if he was traded to California, his taxes next year would rise to $4.4 million, according to the calculations provided by Boras' attorney.
Will higher taxes impact the games?
In the end, speculated sports agent Craig Landis, taxes or not, free agents will go where they want to play rather than where the tax deal is sweetest. "[Tax] is a factor, maybe even a small factor. If there [are] fifty variables, you can now make it a fifty-first. It's not usually going to be the drive, but it's something to consider."
State tax issues aside, players like Josh Hamilton, Nick Swisher, and Zack Greinke are looking at new multiyear contracts worth in excess of $100 million. The individual athletes choose where they want to play, and it's the job of their agents to get a deal on paper before January 1, with as much as possible front-loaded into a 2012 signing bonus.