As he mulled a $39 million contract offer from the Red Sox in recent days, Mike Napoli took a hard look at the team’s clubhouse, where dysfunction reigned last season. The first baseman also kept an eye on the White House, where President Obama is advocating higher tax rates next year for big earners.
For people in Napoli’s tax bracket, the federal income tax rate is scheduled to rise from 35 percent to 39.6 percent on Jan. 1. The rate increase is not certain to occur — Republicans and Democrats are still wrangling over how to reduce the federal deficit — but the prospect of higher taxes is driving people due hefty payouts next year, from athletes to investors, to try to collect some of that money this year.
“If there’s something we can do to save a player a few thousand — or in some cases hundreds of thousands — of dollars, we’re going to try it,” said K. Sean Packard, tax director at OFS Wealth in McLean, Va., a firm that advises athletes on financial management. “Some teams have been more receptive than others, and it depends on the stature of the player. But we have had success in some cases.”
While Napoli’s agent, Brian Grieper, would not specify how his client is trying to avoid higher taxes, other players are opting for bonuses to be given this year in order to reduce tax liabilities in 2013. In oneexample, reported first by CNBC, outfielder B.J. Upton secured a $3 million signing bonus, payable by Dec. 31, when he signed a five-year, $75.25 million contract with the Atlanta Braves last week.
By taking $3 million before the end of the year, Upton stands to save about $140,000 in income taxes and another $27,000 in new taxes that will be levied on high-income Americans next year under the 2010 health care law.
In the NBA, some players have requested that large portions of their salaries for this season, which extends into 2013, be paid in 2012, said Packard. And in the NFL, some players have sought to convert parts of their 2013 salaries into bonuses to be paid in 2012.
It is common practice for the rich to adjust their pay dates when tax increases loom, said Eric Toder, codirector of the nonpartisan Tax Policy Center. History illustrates the point: the Commerce Department estimated that $20 billion in compensation — almost all of it to people making more than $200,000 — was moved up from the first quarter of 1993 to the final quarter of 1992 because Bill Clinton had been elected president. He pledged that he would raise taxes after taking office on Jan. 20, 1993, and make the higher rates retroactive to Jan. 1.
Clinton’s 1993 tax change set the top income tax rate at 39.6 percent. President George W. Bush lowered the rate to 35 percent, but his cuts, which also reduced rates at lower income levels, are set to expire at the end of the year.
“The highest earners can control the timing and content of their income, so you won’t get as much tax revenue as the Democrats claim,” said Curtis Dubay, a senior tax policy analyst at the Heritage Foundation. “You might see people taking compensation in the form of a better health care plan or a company car or a nicer office.”
Already more than 100 public companies have announced plans to pay special fourth-quarter dividends so that shareholders can receive additional money before a possible surge in the tax rate on dividends next year. The financial data firm Markit has predicted the final tally will be 123 companies, which would be a single-year record.
Locally, Boston mutual fund manager Eaton Vance will pay an extra dividend of $1 per share this month, in addition to a regular dividend of 20 cents. The move will shift $115 million in payouts to this year.
At present, dividends are taxed separately from earned income, at a preferential rate of 15 percent, but they are slated to be treated as earned income next year, one in a series of automatic tax increases and government spending cuts referred to as the fiscal cliff. An additional tax of 3.8 percentage points on investment income for high earners would bring the top dividend tax rate to 43.4 percent, unless lawmakers reach a compromise.The parties remain in a standoff over how to slash the deficit without pushing the country over the cliff — a plunge many economists predict would lead to a recession. Obama has said any deal must include raising tax rates on households that earn more than $250,000 a year. Last week, he proposed $1.6 trillion in tax increases over a decade.
Republicans rejected the plan and say the federal government should raise $800 billion in new revenue by curbing or eliminating tax deductions, instead. Ultimately, Republicans argue, the key to shrinking the deficit is to reduce spending on entitlement programs, like Medicare and Social Security.
Both plans would lead to a heavier tax burden in 2013 for someone like Napoli, who signed a three-year deal Monday with the Sox and will make an average of $13 million per season. The prospect of higher taxes was a factor in Napoli’s negotiations with the team, said his agent, Grieper.
“Absolutely, we thought about it and talked about it with the team,” Grieper said. “We always take taxes into consideration when it comes to negotiating contracts. Any good agent is doing the same.”
Red Sox general manager Ben Cherington downplayed the influence of the fiscal cliff on contract talks but acknowledged it has been part of talks.
“I have heard some of that,” Cherington said at baseball’s winter meetings in Nashville. “I don’t think it has affected anything we’ve done. But that has come up in conversation, the uncertainty around that.”
Another high-profile baseball player, Tampa Bay Rays third baseman Evan Longoria, signed a six-year, $100 million contract extension with his club last week and took a pay cut in 2013 in order to receive a $1 million bonus by Dec. 15.
Longoria’s agent, Paul Cohen, said the deal was not a response to the fiscal cliff, specifically, but said he has long believed that tax rates are likely to rise in the future and has tried to take advantage of current, low rates.
Packard, the tax adviser, is preparing his clients for a scenario in which the GOP gets its way, advising them to make deductible expenditures — real estate taxes, charitable contributions, agent fees — before the new year.
Whatever the outcome of the deficit negotiations, “there’s a strong possibility that very high earners — and baseball players certainly fall into that category — will be paying higher taxes,” said Alice Rivlin, a senior fellow in economic studies at the Brookings Institution who was the founding director of the Congressional Budget Office.
“If you make as much money as Mr. Napoli does,” she said, “it shouldn’t bother you very much.”