Luxury Tax - Past, Present and Future


Before December 15th opens the door for many players on new teams to be traded, I wanted to take a minute to talk a little bit more about the luxury tax.  With the rapid rise in the tax, we may see great value in Minnesota's financial flexibility both for this year and for the next. A more thorough review may help us understand some moves we may see from the Timberwolves front office.

This year there has been a dramatic increase in the size of the lux share over the previous four years.  Let's take a look why:

Teams Over the Luxury Threshold on December 1, 2009

 

$2,887,947   Houston
$3,374,049   New Orleans
$3,947,172   Miami

$5,320,687   Denver
$5,622,091   Phoenix
$8,156,229   Washington
$9,981,689   San Antonio
$12,167,014  Orlando
$12,265,677  Utah
$12,651,917  Cleveland
$13,092,554  New York
$14,082,717  Boston
$17,891,715  Dallas
$21,421,066  LA Lakers

$142,862,524 total lux payments

$4,762,084 lux share

Team Salary Overview

There have been three reasons for the big increase in the lux share.

1.  The number of teams over the lux has greatly increased. In the the previous four seasons (since the latest CBA), the number of teams over the lux varied between 5 to 8 teams over. This year there is 14.

2.  The size has also been an issue. The last four years, an average of 2.5 teams have been over $10 mil over the lux. This year it's nearly 8. Moreover, 41% of the previous years lux payments have come out of the Knicks pockets, as they have been far over the lux and the biggest payer for the previous four years. They have plenty of company at high payments now.

3.  The U-turn in the rising lux has hit some teams hard.  Many teams planned for the luxury threshold to simply keep increasing, and gave most players guaranteed raises.

2005-06   $61.700 lux threshold      lux share $2.39
2006-07   $65.420 lux threshold      lux share $1.85
2007-08   $67.865 lux threshold      lux share $3.08
2008-09   $71.150 lux threshold      lux share $2.91
2009-10   $69.920 lux threshold      lux share $4.78*

If the lux threshold had risen comparably, say to $74 mil, the lux share would have remained about the same .. $2.95 mil from 11 teams.

 

What can we expect in the future?

First, expect the lottery threshold to drop, perhaps dramaticly.  It won't be calculated until after the season is over and the money's been counted to determine the BRI, but some early estimates suggested the theshold may drop as low as $60 million.  I think $63 mil is a realistic compromise, but compared to previous thresholds, we could certainly see some owners anxious to trade for cap space.

Second, some people expect major changes to the lux, or even another "one-time" Allan Houston provision.  This 2005 provision allowed a team to waive a player, and be able to ignore his salary for lux calculations. I'm skeptical we'll see this again. A quick glance at the table shows that the majority of the money in the lux pool comes from the bigger market teams, and most are doing fine with revenues. The problem is that many smaller market teams that can't fill stands or sell much advertising are suffering. Another Houston provision would reduce the lux share for the poorer teams, and simply help the bigger teams improve their already sound revenues

Third, a radical overhaul of the luxury tax would damage the benefits it provides to all the concerned parties.  Player's aren't stuck with a hard cap, so if there's an owner out there that's willing to pay, they can still get their contracts. Owners with very different levels of wealth all have a chance to win. They also have a mechanism to keep salaries in check, and can legitimately tell players "Sure, I love you and you're worth $6 mil, but I just can't afford to go over the lux and pay $11 mil. How about a deal starting at $4.5, and I'll add an extra year?" And finally, fans benefit because it creates parity. The richest owners don't dominate poorer ones. There are no Yankees/Royals in the NBA.

Finally, I think we may just see it tweaked, with a minor redistribution of the league's cut of the lux pool.

Currently, every team that is under the lux gets back 1/30th of the pool. Leftover money (from teams over the lux), goes to David Stern and the league office for operations. However, over time, you can see how that number has magnified.

2005-06 ... lux share $2.39 ... 6 teams over lux ... $14.34 for NBA expenses
2006-07 ... lux share $1.85 ... 5 teams over lux ... $9.25 for NBA expenses
2007-08 ... lux share $3.08 ... 8 teams over lux ... $24.64 for NBA expenses
2008-09 ... lux share $2.91 ... 7 teams over lux ... $20.37 for NBA expenses
2009-10 ... lux share $4.78 .. 14 teams over lux .. $66.92 for NBA expenses

Clearly the league office doesn't need $67 mil. I don't think they even need the $20 mil they had the previous two years, if their willingness to offer low/no interest loans to struggling NBA teams demonstrates anything.

I think we may see a minor change, where the league office takes their $10 mil out of the pool, and the rest of the money is divided up among teams under the lux. For example, this year the pool would be $133 mil, and divided not by 30, but by 16, making the lux share $8.34 mil. This higher number would provide additional benefit to small market teams that need the money, but it would have an even more important effect -- greatly increasing the incremental cost to go over the lux.  This provides more reward for staying under the lux, and increases league parity.

Now things may change as the BRI (Basketball Related Income) numbers come in.  Perhaps thre will be an unexpected upswing in revenues, or perhaps there will be teams that are hurting financially and seek new ownership.  However, as it stands right now, the current luxury tax system is the Timberwolves friend.  The tighter that other teams get squeezed financially, the greater the trade value of Minnesota's new-found financial flexibility.

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