Tax season is upon us. From now until April, Americans get to enjoy the annual reminder that Uncle Sam is not the cool uncle.
Yet while the average American often struggles to understand their taxes with a single W-2 and a standard deduction, imagine having to file in dozens of different cities and states in a single year all with varying rates, rules, and regulations. While it might sound absurd, this daunting task has become reality for professional athletes thanks to the "jock tax."
The concept of the jock tax essentially began in 1991 when Michael Jordan made his first appearance in the NBA finals and helped the Chicago Bulls defeat the Los Angeles Lakers. Jordan earned himself the NBA Finals MVP award after averaging 31.2 points and shooting 55.8 percent from the field. As the championship celebrations died down, the California Franchise Tax Board notified the MVP that he would owe state income taxes for the days he spent in California competing in the NBA finals. This led to the state of Illinois imposing their own tax known as "Michael Jordan's Revenge." The law taxed athletes who played games in Illinois but resided in a different state, such as California.
Eventually, other states began looking at professional athletes to pay what is now commonly known as jock taxes to help fill local coffers. Even conservative lawmakers like our potential next president, Scott Walker, want to use the jock tax to subsidize new arenas.
The method of calculating the jock tax typically involves "duty-days," which are days when a player participates in team activities. Under the "duty-day" method, if a season had 200 duty-days and a player was only in a state for two of those days, then 1% of his/her annual salary would be subject to tax in that state.
Another less common method, used by the City of Cleveland, is known as the "game-day" method. Under the "game-day" method, if an NFL team has one game in Cleveland for a 20-game season, then the city would use 5% of the athlete's annual income in calculating taxes. Cleveland takes that stance because they feel that players are really only getting paid to do one thing, "play in a game." The city does not take into account any team practices or meetings.
The jock tax has recently made headlines with the Ohio State Supreme Court hearing arguments of two former NFL players, Hunter Hillenmeyer and Jeff Saturday, who claim the City of Cleveland unconstitutionally charged them a 2% municipal income tax using the city's unique method. In addition, Ohio law exempts out-of-towners from owing municipal income tax unless they work in a municipality for more than 12 days per year. This has recently been increased to 20 days starting in 2016 with the passing of House Bill 5 and is known as the occasional entrant exemption. As it stands now, the bill excludes professional athletes and entertainers from that exemption, which is currently under challenge that it violates the equal protection clause of the U.S. Constitution and the Ohio Constitution.
These lawsuits are more about principle than money, as Hillenmeyer is only seeking a refund of $5,062 and Saturday a refund of $3,294. States tend to focus more on high earning professional athletes because their salaries and schedules are easier for budget tight tax departments to determine and calculate what should have been paid.
However, everyday regular employees should also pay similar taxes when traveling for work in other states and municipalities unless there is a specific exemption similar to that of Ohio's "occasional entrant exemption."
In fact, many states and municipalities have started to depend on athletes as a large source of their tax revenue. California collected approximately $216.8 million from players in various professional sports during 2012.
Cleveland stands to lose approximately $1 million in revenue per year from visiting teams according to a "conservative" estimate from its city tax department if the Ohio State Supreme Court rules Cleveland should change to the widely used "duty-day" method (approximately $120k from MLB teams; $175k from NBA teams; and $705k from NFL teams). Their estimate did not factor in any potential losses from home teams, which would further increase the loss. If this ruling occurs, Cleveland will be forced to look elsewhere to close their tax gap.
Athletes' taxes may not affect you directly, but in a day when athletes' financial woes are constantly in the media, some athletes may take a more proactive approach to minimize their tax liability. Only a small portion of major league teams play home games in states which have no state income tax. This could potentially induce players to leave big market teams in high income tax states and go to smaller teams in a state with low or no income taxes.
For instance, Max Scherzer's $210 million contract with the Washington Nationals provides the ace with a major tax break. Washington D.C. does not tax workers who do not reside in the district, which makes wages earned in all of Scherzer's home games excluded from Washington D.C. income tax. However, he would be liable for income taxes in the state that he resides in if it has an income tax.
You may not feel sympathetic when considering the high dollar contracts some players sign; however, these obligations are imposed on lesser paid athletes as well. Players in the NBA, where the average annual salary is more than $5 million, are subject to the same tax obligations (different rates) as players in the MLS, where the annual salary is only $160,000. Average salaries and career lengths may vary by league, but the burden to file complex income tax returns in various states and municipalities across the country is still the same. This holds true for workers of nearly all industries and income levels as they perform work outside their home state.
Yet whether Cleveland's version of the jock tax is constitutional is now up to the umpires on the Supreme Court.
Christopher R. Cicalese is a CPA at Alloy Silverstein in Cherry Hill, NJ. He regularly advises professional athletes and can be reached at firstname.lastname@example.org or on Twitter @AthleteCPA. Steven J. Silver, Esq. is the founder of The Legal Blitz. You can follow him @TheLegalBlitz.