How taxes affect free agency in pro sports
By Stefanie Loh
Last month, when the Dallas Cowboys were trying to woo free-agent linebacker Andrew Gachkar away from the Chargers while fending off a competing offer from the New England Patriots, one of the first things they sent Gachkar and his agent was a spreadsheet outlining the tax rates of each state and the impact this would have on the player’s potential earnings.
California’s state income tax: 13.3 percent.
Massachusetts’ state income tax: 5.15 percent
Texas’ state income tax: Zero.
“Their first proposal included the tax impact of every state because they made us the offer before they knew where we were gonna go; they were afraid he would go back to San Diego,” said David Canter, Gachkar’s agent. “We talked about that probably 10 times in our conversations. From the minute we knew there was interest from (Dallas) in us, taxes were definitely in the conversation.”
Gachkar ultimately left San Diego and signed a two-year deal with the Cowboys that will pay him $2.2 million in guaranteed money in 2015.
The former Chargers seventh-round draft pick calculated that selecting Dallas over New England will save him a total of about $300,000 in state taxes over the next two years. The contrast between San Diego and Dallas is even more stark: Gachkar says signing with the Cowboys instead of returning to the Chargers probably will save him almost $600,000 in the same time frame.
You might not think that the state tax rate plays any role in the heartbeat of free agency in pro sports. But thanks to what’s commonly known as the “jock tax,” state tax rates can influence where your favorite player ends up signing.
In addition to their state and federal tax responsibilities, professional athletes pay taxes to every state that has an income tax in which they earned money during the year. How much “jock tax” money an athlete owes each state depends on how many “duty days” he spent there. That term includes games, practices and any other team-related activity.
Twenty-six states and the District of Columbia feature teams in the five major U.S. professional sports leagues — NFL, MLB, NBA, NHL and MLS. Of those 26, only three are tax-free states, with a fourth, Tennessee, featuring a “privilege tax” that exempts NFL and NHL players from paying any state taxes.
When athletes command a seven-figure paycheck, all those state W-2 forms for the jock tax can add up quickly, especially on top of what’s deducted for the federal return and the taxes for the state in which they reside.
Throw in some high foreign tax rates — such as the United Kingdom’s 45 percent top tax bracket — that affect the teams involved in the NFL’s International Series, and some athletes can end up losing close to 60 percent of that week’s paycheck to taxes.
Whether you’re Dodgers ace Clayton Kershaw (with his $30 million base salary for 2015) or Gachkar (who will make $2 million this year), that’s a significant tax burden that will hurt any wallet.
California’s 13.3 percent tax rate — the highest in the nation — weighed heavily on Gachkar’s mind as he was deciding where to sign.
“That 13.3 percent in California plays a huge role for guys like me in that every dollar I get, it’s extremely important to me and my family,” Gachkar said. “If you have a $100 million contract, what’s (an extra) $5 million because you’re still gonna live the greatest life in the world.
“But when you’re at a lower dollar amount and you’re not set for the rest of your life, you have to make as much as you can, especially with the sport we play. It’s not like baseball where it’s all guaranteed money.”
All about the money?
An athlete’s chosen state of residence is especially important in football because there are fewer road games than in the other major pro sports.
Robert Raiola, a certified public accountant who works for the New York-based firm O’Connor Davies, said state taxes can have a significant effect on free agency in the NFL “because you spend 80 percent of your time in the state you play in.”
For instance, an NFL player who lives and plays in Seattle or Dallas would pay the jock tax in whichever states his team travels to during the season, but would not pay any income tax to his home state.
On the other hand, Chargers cornerback Brandon Flowers’ new four-year, $36.4 million deal comes with $20.5 million in guaranteed money. But that also guarantees that he’ll lose more than $10.2 million to taxes by the end of his contract.
And you’d better believe that rival teams are ready and willing to use the number 13.3 against the three California franchises during negotiations.
Especially teams in tax-free states: namely, the Seahawks, Texans, Cowboys, Titans, Jaguars, Dolphins and Buccaneers.
“I think those teams have a massive competitive advantage,” said Canter, the president and CEO of DEC Management. “When my clients come to South Florida, they immediately establish domesticity in Florida.”
While not one of Canter’s clients, Ndamukong Suh is probably in the process of doing exactly that. The former Detroit Lions defensive tackle was the biggest prize of this NFL free-agency cycle, and despite interest from the Lions and Raiders, he signed a whopping, six-year, $114 million contract ($60 million guaranteed) with the Miami Dolphins.
According to ESPN.com, Detroit offered Suh a comparable deal that would have guaranteed him $58 million. But given the 4.25 percent state tax rate in Michigan and local taxes, and Florida’s status as a tax-free state, Raiola estimates that the Lions would have had to offer a deal with $64.9 million guaranteed to match the roughly $34.7 million that Suh will net in Florida after taxes.
Teams can’t make many moves like that without bumping up against the salary cap. They have to look out for their bottom line. But players have to look out for their own bottom line, Canter said.
“It’s all about the money — 99.9 percent of the time, money talks. Any agent who says otherwise is lying,” Canter said. “These guys have a very limited opportunity to make as much money as possible. … Why shouldn’t they go to tax-advantageous states?”
Not always about the money?
But not every agent sees eye to eye with Canter.
Kenny Zuckerman of Priority Sports & Entertainment says state tax really comes into play only when an athlete is weighing an offer from a team in a high-tax state against a team in a tax-free state.
“It’s not a big player in free agency. … I still think one of the most important aspects is that you want to pick a great situation, a place where you can flourish as a player,” Zuckerman said. “I wouldn’t say it comes up too much in a final decision.”
Don Yee, whose firm Yee & Dubin represents Patriots quarterback Tom Brady, thinks the state tax issue has been overblown by the media in recent years.
“I personally have never been in a situation where that issue has become relevant to any significant degree,” Yee said. “In the process of comparing offers, generally speaking, you’re going to go through several levels of analysis. One of those levels is strictly economic, another might be competitiveness, another is the team dynamic and livability of the city.
“Each athlete is going to weigh those factors in a different way. I’ve never dealt with an athlete who weighed the economic considerations entirely.”
In the case of Padres pitcher James Shields, the economic considerations weren’t much of a factor at all.
Shields signed a four-year, $75 million contract with the Padres this spring over a reported three-year, $60 million offer from the Chicago Cubs.
That $15 million differential may seem like a lot, but after you factor in taxes, Raiola estimates that Shields will net about $38.97 million in San Diego over the course of his deal, while he would have made $34.52 million in Chicago.
Could the Cubs have reeled in Shields if they’d nudged their package price up just a little more?
Maybe, but it’s not likely.
A native of Newhall, a suburb of Los Angeles, and a resident of Rancho Santa Fe, Shields picked the Padres in part because he likes living in California — high tax rate and all.
“Considering that I live here, it doesn’t really matter to me,” Shields said, when asked if the state tax rate factored into his decision to sign with the Padres. “I guess wherever I play, California plays into my game. It doesn’t matter.
“This is a way of life, this is where I want to be. There’s no amount of money for happiness.”
Yet the tax issue can’t be dismissed entirely. And it’s not just a concern for NFL teams.
In February, Brian Sabean, the San Francisco Giants’ executive vice president of baseball operations, told the San Francisco Chronicle that the California tax rate has affected his club’s activity in free agency.
“To entice a free agent to come to San Francisco, we’re almost in an overpay situation, so why get involved in all those battles where you’re not going to be able to go up the totem pole moneywise?” Sabean said. “Things now are getting more and more about the signing bonus, more and more about your take-home. Exponentially, when you get involved in some of those numbers, it makes a sizable difference to some.”
Padres General Manager A.J. Preller came to San Diego from a tax-free state (Texas). But as his signing of Shields showed, Preller is undeterred by the challenges that his new state’s tax rate might pose in free agency.
Or perhaps he’s just good at identifying what’s most important to his targets and winning them over that way.
“I think in every free-agent case, there’s a lot of factors that determine where guys want to sign. Everybody’s got all individual factors,” Preller said. “We kinda look at it more on an individual basis.
“Some guys want to be close to home, some guys want to pitch in a pitcher’s environment, some guys want to have a really good team around them. Some guys are looking for the most money. I think it’s your job to kinda read into that.”
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