Sportonomics: Ohtani, Dodgers Stun MLB With Unprecedented Deferrals
On December 9, 2023, professional baseball player Shohei Ohtani agreed to a record-breaking contract to net the ball player $700 million. Yet, Ohtani will only make $2 million per year during his ten-year contract with the Los Angeles Dodgers due to $680 million being deferred into payments from 2034-2043. Let's take a closer look at the specifics of the contract and exactly what this unprecedented deferral entails for the future of professional organized sports.
Photo BY MEG OLIPHANT/GETTY IMAGES
First off, why does a deal such as this one make sense for Ohtani or the Dodgers? Well, Ohtani, after spending the entirety of his MLB career (before joining the Dodgers) with the crosstown team Anaheim Angels, has yearned to be in a winning position after not appearing in a single playoff game yet. Furthermore, Ohtani's mass appeal and global popularity, especially in the Japanese market, as he rose to the top of the MLB for his uncanny two-way player ability (he can pitch and hit) has allowed him to take a deal where he makes relatively little money during his tenure. Ohtani has become one of the world's highest-paying athletes just off of endorsements, with a reported $50 million annually. For both his unparalleled income off the field and the fact that he hasn't played in any playoff games, Ohtani brought the high deferral to a few clubs, one of which was the Dodgers.
Why would the Dodgers accept this deal, though? Despite the lack of a hard salary cap for teams that leagues such as the NFL and NBA employ, Major League Baseball's (MLB) luxury tax allows front offices to shell out the "big bucks" as long as they don't care too much about the taxes they may have to pay. Clubs that exceed the predetermined payroll are subjected to a Competitive Balance Tax (CBT). For the 2024 MLB season, that predetermined number is $237 million, and the Dodgers are aptly willing to not hit it. With NPB phenom pitcher Yoshinobu Yamamoto recently signing a mega deal with the Los Angeles Dodgers for 12 years and $325 million (with no deferrals), it makes sense for the Dodgers to have readily accepted Ohtani's offer. Not only does it make room for more cap space, it also leaves room for the Dodgers to continue their offseason spending spree, having already committed over $1 billion to players just in the past two months.
If the Dodgers had not agreed to a deferred contract, it is possible that the team would be subject to a luxury tax, possibly for consecutive years. In that case, the Dodgers would be on the hook for a tax percentage increase each subsequent year. The first year would be around 20% tax, increasing to 30% the next year and 50% by the third consecutive year. Instead, the Dodgers will not have to pay any luxury tax, having opted instead for paying just one player $68 million a year from 2034-2043 in the span of which he won't be playing for the organization.
The contract details can be confusing. Despite only being paid a salary of $2 million per year throughout his ten-year contract, the value of Competitive Balance Tax purposes is actually $460 million over ten years or $46 million per year, which is still less than a non-deferred contract of $70 million per year contributing to the CBT. This figure uses a net-present-value calculation that converts future dollars to their present value, with his deferred money being discounted at a rate of 4.43%, the October 2023 federal mid-term rate. In simpler terms, despite the reported $700 million contract, the overall value of Ohtani's contract will be much lower because the Dodgers are able to invest a smaller amount of money (than $700 million) at a 4.43% rate of return to pay his yearly deferrals of $68 million. The Dodgers essentially put the money in an escrow account that won't be touched until his deferrals begin in 2034, and the money will, at that time, cover his payments.
Before we delve into how this deferral is being perceived, especially by state congress, let's take a look into another interesting feature of the contract. Andrew Friedman, current General Manager of the Dodgers, was put into the contract, stating that if Andrew Friedman or even Mark Walter (controlling owner of the Dodgers) left the organization, Shohei Ohtani could opt out of his contract. This clause in the contract furthers the idea that Ohtani is there to see his new Dodgers team go out and win a championship; any type of instability within the Dodgers organization could cause worry to a player who has dealt with an inadequate organization in the Angels that don't always have the primary objective of winning.
Los Angeles Dodgers’ Shohei Ohtani, center, poses for a photo with owner and chairman Mark Walter, left, and president of baseball operations Andrew Friedman applaud during a news conference at Dodger Stadium Thursday, Dec. 14, 2023, in Los Angeles. (AP Photo/Ashley Landis)
Unsurprisingly, the deal has caused outrage in California. As of January 9, 2024, California Controller Malia M. Cohen made the request to Congress to change the tax code to put a cap on deferred payments, a change that could allow the state to garner more owed money from Shohei Ohtani. From a logistical standpoint, if Ohtani is not living in California when he recieves the deferred money, he could potentially be exempted from current California income tax and payroll tax for State Disability Insurance of 13.3% and 1.1% respectively. With Ohtani's deal having the potential to save $98 million in state tax, according to the California Center for Jobs and the Economy, Cohen said in a statement on January 8, "the absence of reasonable caps on deferral for the wealthiest individuals exacerbates income inequality and hinders the fair distribution of taxes. I would urge Congress to take immediate and decisive action to rectify this imbalance." However, the estimated $98 million figure relies on certain assumptions with the exact terms of Ohtani's contract unknown. Steve Rosenthal, senior fellow at the Urban-Brookings Tax Policy Center, believes Cohen is fighting the wrong issue. Rosenthal states that the true source of the problem is in Ohtani's ability to leave California to anywhere else, such as Japan, and effortlessly avoid California state taxes.
The future impact of the Ohtani-Dodgers contract is not exactly known, meaning the issue over deferrals could become a larger one for Major League Baseball, let alone Congress.
46 million is quite a steal
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