Why pro athletes may lose a fortune because of the new tax law

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Because of changes to the tax law that went into effect this year, professional athletes might need to put their CPAs on speed dial.

That’s because players in sports leagues like the NBA, NFL, MLB, WNBA and NHL have traditionally been able to deduct tens or hundreds of thousands of dollars for things that they no longer can.

“One of my players makes $2 million a year, and it will cost him $80,000 more now because he can’t deduct state taxes, agent fees, workout clothes, meals and entertainment, and his cellphone,” says Steven Goldstein, a CPA with Grassi and Co. in New York who works with over a dozen professional athletes and celebrities.

And players who make tens of millions of dollars a year will potentially pay hundreds of thousands more a year in taxes.

The reason athletes are taking this hit is because individuals can no longer make itemized deductions for state and local taxes or miscellaneous itemized deductions for work-related expenses and investment fees. And these changes, especially the latter, will cost pro athletes more than most people.

Of course, the median household income in the U.S. is about $63,000, so why should most people care about these tax hits that still leave the majority of pro athletes incredibly well paid? In reality, not all of them make millions of dollars a year. As Goldstein points out, a third of NFL players make the league minimum, which this year is $480,000, and the average NFL career is only about three years. Plus many pros are in the minor leagues, where they can make less than minimum wage. But admittedly the tax hits mentioned in this article are largely an issue for “the 1%.”

Some pro athletes try to move to these tax-friendly states

Residents in all but seven states pay income tax; the highest rate is in California, where it’s over 13%.The so-called “Jock Tax” essentially means athletes pay different amounts of taxes in different states. If an athlete lives in Florida, where there is no state income tax, he pays none for his home games. But if that same athlete plays a game in New York, he pays New York’s income tax rate on the amount he made for that game.

Some athletes try to play for a team in one of the no-income-tax states, so that they pay no state income tax for their home games, and their endorsement earnings. And other players choose to live in one of these states, even if they play for a team in another state. Washington, Texas, Nevada, Florida, Alaska, Wyoming, and South Dakota charge no taxes on income — and only the first four of these have teams in the major sports leagues. Also, Washington, D.C., isn’t allowed to charge income tax to non-residents.

Speaking of the no-tax states, MarketWatch’s own Tax Guy, Bill Bischoff, says it’s probably not a coincidence that the recent Tiger Woods vs. Phil Mickelson golf match was played in Nevada, where Mickelson, who years ago was vocal about his dislike for the taxes he paid as a California resident, made $9 million for winning.

When it comes to living in a state other than where your team is based, a downside is that you have to prove you were in your “domicile” state for at least 183 days that year. Goldstein says he stresses to his players how important that is. And Sean Packard, a CPA with OFS Wealth in McLean Va., which works with over 200 athletes and celebrities, adds that some states are especially tough. “New York is aggressive with auditing when high earners try to claim residency somewhere else. I’ve had players go through it.”

Teams in the no-tax states know they have an advantage attracting players. An executive for a team in a low-tax state recently asked Goldstein to crunch the numbers on how much more a player on a team in California would have to make to take home the same amount of money as a player in its state.

Packard points out that certain teams have always tried to play up the fact their states have low taxes. “We had a free agent with offers from three teams, and the GM for the Texas team said, ‘If you take our salary, they’d have to offer you this much to match it.’ The agent asked if they were accurate.”

A lot of athletes can’t be choosy about where they play, though. Younger players need to focus on making a team and making some money first, Packard says. And veterans with kids in school often don’t want to move.

How to mitigate the new tax hits?

What can athletes do to soften these tax hits? Goldstein recommend some set up an LLC for income they earn for things like endorsements.

And Packard says, “For our guys who have higher endorsement earnings and more of a business presence, we use loan-out corporations to save some tax money.” But he says the added administrative costs of running an S-Corp can be high, so “a cost-benefit has to be done to ensure the player is actually saving money.”

Packard also says that the new tax law’s highest bracket being lowered from 39.6% to 37% will mitigate some of the losses — especially for the highest paid athletes.

What about the argument that superstars like LeBron James make tens of millions of dollars a year but also live in high-tax states like California? “LeBron made a business decision when he went to the Lakers,” Goldstein says, referring to the additional endorsement and entertainment-related money he can make by being in Los Angeles.

In the end, even though specific tax issues can amount to a lot of money, they are just one of many things for athletes to consider. “I always tell people the amount of taxes is a consideration, but not the end all be all,” Packard says.

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