Baseball and Taxes
Photo by Mat Weller on Unsplash
It's baseball season!
And tax season!
Oh the joys that await us, fearless reader!
You may or may not know this about me, but I'm an avid baseball fan.
I loooooooove baseball. I love the Dodgers. I love playing fantasy baseball. I love talking baseball. I love writing about how I love baseball.
Some of my fondest childhood memories include listening to Dodger games on the radio (oh how I miss you Vin Scully) while working on puzzles with my parents.
I used to go through the box scores in the Sports section of the Los Angeles Times, checking out how my favorite players did the day before.
It’s a wonderful time of the year.
Despite your potential eye-rolling during these introductory paragraphs (tsk tsk), there is a financial angle we're going to consider today.
It lies in a huge contract that was given to a player this past offseason. The biggest ever. And perhaps the most unique ever.
Let's talk about ...
Shohei Ohtani's Contract
Back in December 2023, the Japanese baseball star Shohei Ohtani signed a 10-year contract with the Los Angeles Dodgers for a stunning $700 million.
(In case you're not familiar with, you know, money, it turns out $700 million dollars is a lot of it. #financialanalysis)
This is the largest contract in the history of professional sports, so it's unique already in that sense. But the even more unique aspect of the contract is when the money will be paid out.
Ohtani will be paid "only" $2 million per year for the next 10 years, during which time he'll be playing for the Dodgers.
Then, he'll be paid, wait for it, $68 million per year for the following 10 years.
So that's $20 million during the first 10 years, and $680 million during the second 10 years.
During the second 10-year period, Ohtani may not be playing for the Dodgers anymore, and may not even be playing baseball anywhere. Yet he'll still be making $68 million per year.
Let's take a look at a few interesting aspects of this arrangement.
Why would the Dodgers do it this way?
From the Dodgers' perspective, there are two enticing aspects:
1) The time value of money. All things being equal, it's better to pay $1 in the future rather than $1 now. That's because you can invest the $1 now, make some interest, and then pay the $1 in the future.
The same concept applies here. It's better to pay $680 million in the future rather than $680 million now.
The "present value" of that $680 million is much lower right now, as the Dodgers theoretically can invest that money between now and when it needs to be paid out.
2) Paying Ohtani less now frees up more money to spend on other players, hopefully making the team better.
Why would Ohtani do it this way?
The main reason is because of #2 above. He wants to join a team that has the best chance of winning.
By deferring the large majority of his salary, he makes it more likely the Dodgers will spend more money on other players (or in other ways to improve the team) while he's playing on the team.
He wants to win a World Series, and structuring the contract this way increases the chances of that.
The other reason is because, at least probably, he doesn't need the money now. He's making tens of millions of dollars per year in endorsement deals (e.g., appearing in commercials), so he's probably doing just fine right now, thank you very much. By deferring the money, he ensures that he'll continue making a crazy high salary, even after retiring from baseball.
There's something nice about being able to even out one's cash flow.
Are there any interesting tax angles to this story?
Why yes there are, thanks for asking.
There's some debate and speculation as to whether Ohtani will need to pay California state income tax on the full amount of the $700 million contract.
He will clearly have to pay it on the $2 million per year he'll make while playing baseball (that is, “working”) in California.
But what about the $680 million in deferred income if he's not living in California anymore at the time?
The real answer will likely be driven by how the contract has been drafted. We don't have that level of detail, so we don't know. But it does open up some interesting considerations.
Mind you, we're talking about a lot of potentially-saved taxes here. California's top tax rate is 14.4% (13.3% income tax + 1.1% payroll tax). This rate applies to income above $1 million for singles and $2 million for married people, and Ohtani will clearly be above these levels due to his endorsement deals.
So we know he'll likely pay that rate on the $20 million he'll make while working in California:
$20 million X 14.4% = $2.88 million in California income tax
But if he can avoid that tax on the other $680 million ... wow.
$680 million X 14.4% = $97.92 million in saved taxes!
How does this relate to us?
Sometimes in life, we have some control as to when we will receive money. The temptation might be to "give me all the money now baby". But that actually might not be the best thing for you.
Your tax situation changes from year to year. So it might be better to receive money in certain (lower income) years rather than other (higher income) years, as there would likely be tax savings.
Also, consider where you receive the money. If it's a good amount of money, and you're considering moving from a high-income tax state like California or New York, to a low-or-no-income tax state like Washington or Texas, you might be much better off waiting to receive the income until you move.
Some examples of when you might have some flexibility might include:
Bonuses
Deferred compensation packages
Exercising Non-Qualified Stock Options
Selling appreciated stock or real estate
Distributions from Inherited IRAs
Distributions from other retirement accounts
Roth conversions
As with many other situations, good Tax Planning can make such a huge difference. By accelerating or delaying income, you can dramatically reduce your tax bill. Perhaps not by $97.92 million, but probably by thousands of dollars.
It's always a good idea to meet with an experienced financial planner or tax advisor who can guide you toward the best path.
If you’d like some help with this, feel free to get in touch with me. I’d love to have a conversation and look at your financial situation. You can start by clicking the “Schedule an Intro Conversation” button on this page: Start Here