Week in Insights: Ohtani’s Contract Pokes Holes in Luxury Tax

Curated by Daniel Xu

The MLB’s competitive balance tax, often referred to as the luxury tax, is a check on teams with deep pockets. The CBT levies a tax on payrolls over a certain annual threshold, redistributing wealth to less financially endowed teams.

A trend among high profile player contracts is the incorporation of deferred income arrangements. This month, two-way star Shohei Ohtani inked a record-breaking $700 million 10-year deal with the Los Angeles Dodgers. While a simple calculation might suggest an annual salary of $70 million, the reality is more complex.

Ohtani agreed to defer his annual salary, save for $2 million, until after the completion of his contract—he will be paid out the bulk of his money from years 2034 to 2043. The upside of this deferral is that his salary becomes $46 million salary for purposes of the CBT.

This tax calculates the net present value of deferred contracts and allows teams to reflect the lower figure on their payroll. It saves the Dodgers a substantial sum in luxury tax payments and allows Ohtani to reap savings by earning most of his money somewhere with a lower tax rate than California.

The deferral strategy highlights flaws of the net present value method. A model that encompasses the full economic value of contracts could prevent major market teams from dominating free agency. Ohtani can agree to deferral—at least in part—because playing in Los Angeles opens the door to lucrative endorsement and media deals.

Ohtani’s contract underscores the need for reform in baseball tax policy. Adjusting CBT calculations is imperative for preserving the integrity of competitive balance, ensuring that the gains made by functional payroll caps aren’t lost to deferred contracts and brinkmanship.

Here at Bloomberg Tax, we’ll be diligently watching sports to make sure we’re keeping on top of any potential tax angle. Informing you about the latest tax twists and turns in baseball is part of our commitment to keeping you ahead of the game, both on and off the diamond.

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A mural of Shohei Ohtani by Gustavo Zermeno Jr., in Hermosa Beach, Calif., on Dec. 21, 2023.

Photo by Ronald Martinez/Getty Images

State Insights

California may need to close its projected budget shortfall by removing certain tax attributes if the state refuses to increase taxes, says Greenberg Traurig’s Shail Shah.

The capital gains tax in Washington state, now pending before the US Supreme Court, demonstrates the importance of understanding key differences in federal and state tax rules, Wilmington Trust’s Tom Kelley says.

A plan to overhaul Pennsylvania’s tax appeal process would make the system fairer for taxpayers, as long as settlement officers can easily communicate with affected parties, says BakerHostetler’s Mike Semes.

Federal Insights

Reed Smith’s Daniel Ahn, Mark Bini, and Rizwan Qureshi preview a federal appeals court case that may decide whether crypto traders have a Fourth Amendment right of privacy in their exchange records.

Global Insights

Kevin Flynn, EY Americas tax vice chair, highlights certain tax policy areas to carefully observe in 2024, including potential US responses to Pillar Two and energy tax incentives.

Jeffrey Tebbs and Caroline Reaves of Miller & Chevalier Chartered analyze recent guidance addressing the interaction of the US foreign tax credit system with Pillar Two top-up taxes coming into effect in 2024.

Dan Paulos of Proskauer, David Richardson of Reitler, and Sam Riesenberg of KPMG analyze the US Tax Court’s decision against YA Global Investments and what it could mean for funds with foreign investors.

While working vacations are becoming more attractive to employees vacationing abroad, employees need to ensure they’re following appropriate legal guidelines to avoid tax surprises, CohnReznick’s Christina Lee says.

Entity structure, transfer pricing, and state tax differences are key considerations that foreign businesses must make before moving to or growing in the US, Jeff Driesen and Glenn Walsh of Moss Adams say.

Columnist Corner

New York’s legislation to repeal property tax exemptions for private universities in the state would increase tuition costs and could impact student body diversity without further reforms, Andrew Leahey says in his Technically Speaking column. He argues that combining an endowment tax keyed to tuition costs over a certain threshold with the property tax would ensure private universities “see a dollar taken from students as less valuable than a dollar found elsewhere.”

Career Moves

Laura Taylor has been promoted to partner, and John Ormonde has been promoted to counsel, at Eversheds Sutherland in Washington, D.C.; Jeremy Gove and Chelsea Marmor have been promoted to counsel in New York; and Laurin McDonald has been promoted to counsel in Atlanta.

If you’re changing jobs or being promoted, email your submission to TaxMoves@bloombergindustry.com for consideration.

News Roundup

It’s been another busy week in tax news from state capitals to Washington. Here are some stories you might have missed from our Bloomberg Tax news team (login required).

• New York has adopted regulations implementing what it called “the most extensive restructuring of New York State’s corporate tax framework since the 1940s” and finalizing a nearly decade-long process.
• The IRS issued proposed rules on bad debt deductions for regulated financial companies and members of regulated financial companies.
• The Florida Department of Revenue mischaracterized food Delta Air Lines Inc. purchased in the state to serve on its flights for tax purposes, the company alleges in a lawsuit filed in state court.
• Global tax authorities and multinationals in the US, Australia, and Canada are facing off in legal challenges in 2024 over their pricing methods with millions at stake for both sides, and the potential to alter the landscape for laws governing methods for valuing transactions.

The Chrysler Building in New York, on Dec. 27, 2023.

Photographer: Eilon Paz/Bloomberg via Getty Images

Our Team

We talk about tax a lot. But you would hear much more if you popped into one of our Teams meetings. Here’s a quick look at what some of us are watching, reading, and listening to this week.

Watching
Melanie Cohen (Content Editor): The Norwegian limited series “Julestorm,” about people stuck in Oslo Airport over Christmas.

Reading
Jada Chin (Content Editor): “The Midnight Library” by Matt Haig. It’s a powerful and heartwarming story that makes you appreciate the choices you make in life without any regrets.

Listening
Daniel Xu (Content Editor): Artificial Brain’s self-titled album. It has quite a futuristic and alien sound, much like the technical death metal group’s earlier records.

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