Introduction
In negotiations, knowledge is power for both the athlete and the organization. By quantifying the financial and tax implications for multiple offers, an accurate after-tax present value or true value of a contract can be expressed. A player, and their representative equipped with this information can evaluate each team’s proposal, based on the city and state of the team along with the duration of the contract and timing of the payments. By quantifying the monetary leverage of each cities tax situation, agents can systematically adjust their contract proposal depending on the individual player and the terms offered by opposing teams in competition for that player’s services.
Contracts in Terms of True Value
While teams and representatives can negotiate the total salary of a contract, it’s the true value of a contract that provides the greatest insight in determining the value of each individual contract proposal. In order to determine this true value, two measurements need to be taken into consideration – tax liability and the time value of money.
Tax Liability
While all professional athletes incur federal tax liability on their earnings, their exposure to state and local taxes will be dictated by a team’s home and road schedule. Athletes are taxed in their state of residency (where they have established as home) as well as in every jurisdiction that enforce non-residence income tax – also referred to as a ‘jock tax.’ The ‘jock tax’ they pay is calculated based off of the allocation of income to each state. This is done by taking the ‘duty days’ spent in each state, and certain cities, and dividing it by the total number of ‘duty days’ an athlete works in the year. A ‘duty day’ is any day that the player is required to perform services for their team.
For example, in this upcoming season, an athlete who plays in the National Hockey League (NHL) will potentially play in 24 US jurisdictions and possibly four additional Canadian provinces.
After analyzing each team’s home and away schedule, a player’s unique tax liability can be determined. How an individual team’s unique tax situation affects the true value of a contract. Below, we look at the players with average annual values (AAV) above $10 million to demonstrate the impact of a team’s tax situation on the player’s earnings.
As shown in the table, despite barely qualifying with a $10 million AAV, Sergei Bobrovsky nets just $600,000 less than Connor McDavid despite having a gross AAV that is $2.5 million less! Another takeaway from the table above is most of the players included signed their contracts with teams in less favorable tax situations.
Financial Considerations
Once tax implications have been calculated, the final component in the Jock Tax Index (JTI) is the time value of money. The general principle that the value of a dollar received today is more valuable than a dollar received tomorrow – because of inflation or the opportunity to invest that dollar – plays a significant role in analyzing the overall value of a long term contract. The greater the term of the contract as well as the amount of income deferred into the future will cause the overall devaluing of the contract’s true value in today’s terms.
Conclusion
It is important for teams and agents to understand the unique tax consequences that professional athletes face. The JTI allows both sides of a negotiation to quantifying the advantage or disadvantage based on the jurisdiction of the team and the terms of the contract offer. Therefore, allowing the team or agent to systematically adjust their contract proposal depending on the teams in competition for the player’s services.