What can ordinary taxpayers learn from the $700m Shohei Ohtani baseball megadeal?-LoTradeCoin Wealth Hub

What can ordinary taxpayers learn from the $700m Shohei Ohtani baseball megadeal?

2024-12-27 11:41:39 source：lotradecoin charts Category：Stocks

Rich people have more money to spend on everything, including tax advice.

So ordinary taxpayers should take note of the blockbuster deal announced last month between the Los Angeles Dodgers and superstar Shohei Ohtani.

Ohtani, who is arguably the best hitting-pitching combo in baseball since Babe Ruth, signed a 10-year contract with the Dodgers that pays $700 million, the largest sum ever pledged to a baseball player.

But the Dodgers will pay Ohtani just $2 million a year during those 10 seasons. The Japanese phenom is deferring $680 of the $700 million. He will reap the rest of his earnings in annual $68 million increments paid out between 2034 and 2043, the year Ohtani turns 49.

The hurler-slugger is deferring most of his pay without interest, which means he is probably giving up hundreds of millions of dollars. The massive deferral lowers the present-day value of the contract to $460 million, according to calculations by Major League Baseball.

What, then, are the lessons for rank-and-file taxpayers?

Spread out your income

By deferring income, experts say, Ohtani is exercising a basic principle of tax savings: Space out your income over time.

“If Ohtani’s contract was only for his time with the Dodgers, he’d be paying a massive amount of federal and state taxes for a number of years while he’s with the team,” said Colin Day, a certified financial planner in St. Louis.

The federal government taxes earners most aggressively at the highest levels of income. For 2024, the top tax rate of 37% will apply to individual income above $609,350.

That rate structure reflects a broader IRS philosophy: The taxing authority “wants regular folk to evenly receive income throughout their lives, not receive it in large spikes,” Day said.

For many middle- and upper-income Americans, choosing to defer income, “and especially large lump sums, can result in significant tax savings, especially if additional income might push them into a higher tax bracket,” said Lisa Greene-Lewis, a certified public accountant and tax expert at TurboTax.

Consider retiring to a low-tax state

Many experts presume Ohtani deferred his Dodger dollars to avoid hefty state taxes in the Golden State.

California has one of the highest state tax rates in the nation, topping off at 13.3% for the highest earners in 2023. No other state has a higher maximum tax rate, according to the Tax Foundation. This year, California’s top rate climbs to 14.4%.

At a 14.4% tax rate, Ohtani would surrender about $10 million a year in state tax if he earned his full $700 million in California over the next decade.

But Ohtani’s big paychecks don’t kick in until 2034, the year Ohtani turns 40. At that point, he could retire and move to Florida, which has no state income tax.

“Maybe the best tax lesson one can learn from Ohtani's deal is that if you can earn your income in a high-income tax state, but collect your income in a lower-income-tax state, the difference in tax dollars can be substantial. In Ohtani's case, potentially tens of millions of dollars,” said David Foster, a certified financial planner in St. Louis.

Sound intriguing? Several other states have no state income tax, including Texas, Nevada and Wyoming.

Interest counts

As we said, Ohtani agreed to defer $680 million in salary for 10 years without earning any interest on the delayed sum.

By waving off interest, Ohtani is giving up $18.55 million a year and $185.5 million over a decade, according to an analysis by the sports business website Sportico, whose analysis assumes a 5% annual interest rate.

“These funds could've been invested in the meantime to earn something to at least keep up with inflation,” said Andrew Herzog, a certified financial planner in Plano, Texas.

For tax purposes, MLB is valuing the Ohtani contract at about $46 million a year, far less than the $70 million face value, reflecting the devaluation of deferred pay.

“The $700 million contract is what grabs headlines, but Ohtani should actually care more about the net present value of the deal instead,” said Jake Smail, a certified financial planner in Aurora, Ohio.

Deferred income can be risky

The Dodgers aren’t going bankrupt anytime soon. But companies come and go, experts say, and anyone should think twice about deferring income for 10 or 20 years from an employer that might not make it that long.

“You better hope the employer will be around for a couple decades to make this deferred income a reality,” Herzog said. He hastens to add that potential bankruptcy “shouldn't be a problem” for Ohtani or the Dodgers.

“All of this to say, it depends on the situation, and there's always a balance between living in the present and predicting the future,” Herzog said.

Foster, the St. Louis adviser, draws a parallel between Ohtani and Silicon Valley tech workers, who might have the option to participate in an employer’s deferred compensation plan.

“You have to be mindful of the fact that your employer needs to be around and solvent to pay you your deferred compensation,” Foster said, “which probably isn't a huge risk with the Los Angeles Dodgers, but could be for many tech companies in the Bay area.”

Tax season can be terrifying.Here's everything to know before filing your taxes in 2024.

A good kind of problem

Looking at the bigger picture, most of us should be so lucky as to have the kind of tax concerns Shohei Ohtani and the Dodgers are facing.

To owe millions of dollars in potential income taxes, you have to earn millions of dollars in income, and most of us don’t. Median household income was $74,580 in 2022, according to the Census. Most of us don’t earn enough income to seriously consider deferring any of it.