We’ve seen the tweet, witnessed the
backlash, and heard the criticism.
We’ve sat through countless debates on SportsCenter and listened to the talking
heads argue about the merits and faults in Dwight Howard’s decision to sign
with the Houston Rockets over the Los Angeles Lakers. Yet they’ve gotten one essential aspect of this argument
completely wrong.
Houston comes out on top in almost
all of the purely basketball categories: the Rockets boast some of the biggest
young stars in the league from James Harden to New York’s ex-sweetheart Jeremy
Lin. Who do the Lakers have? An aging Kobe Bryant who is rehabbing
from an Achilles injury and an expensive center in Pau Gasol whom they would’ve
most likely moved had they landed Howard.
In terms of coaching, Houston also has Hollywood beat: Rockets’ Kevin
McHale was a legendary big man for Larry Bird’s Celtics who can help refine
Howard’s offensive game. Lakers’ Mike D’Antoni drove Amar’e Stoudemire’s knees
into the ground and alienated Howard during his only season in L.A.
But surely Dwight made a mistake if
he passed up a five year, $118 million contract in favor of a four year, $87.6
million one, right?
Objectively, yes. The Lakers can offer Dwight a maximum
annual increase in pay of 7.5% compared to the Rockets’ 4.5% maximum annual
increase. However, Howard would
not be getting all of the $118 million had he signed with the Lakers, nor is he
getting all of the $87.6 million in signing with the Rockets. This is where the analysts have skewed
the facts and made the laymen viewer believe that Howard will be wealthier if
he stays in L.A.
The first question is how do you
define one’s wealth. According to
most, it’s the sum of an individual’s physical assets (houses, cars, boats,
etc.) and monetary assets (investments, money in a savings account, etc.). You would never include the money that
he or she sends to the government in the form of taxes because that is money
that the individual forced to give up and is therefore unable to spend.
Here is where the raw contract
numbers are misleading. Howard’s
gross salary in L.A. is much higher than Howard’s gross salary in Houston;
however, California’s burdensome 13.3% state income tax will take away a large
chunk of Howard’s $118 million over the course of five years. What makes Texas so appealing
financially is that there is no state income tax. However, due to the unique way in which athletes are taxed,
this does not mean that Howard will be making 13.3% more money playing in
Houston.
This confusing set of rules is
referred to as the “Jock Tax,” and Forbes’ Tony Nitti describes it simply and eloquently in his own piece about Howard’s decision:
“In the U.S., the taxation of professional athletes is based on ‘duty days;’ basically, the income you earn is apportioned to each state based on the number of days you compete or train within the state, and is then taxed in that state according to its tax rates. So even if an athlete resides in a state with no income tax, some of his income will be allocated to states with an income tax and taxed accordingly. But as you’ll see below, the savings from calling a state like Texas your home can still be substantial.
“In the U.S., the taxation of professional athletes is based on ‘duty days;’ basically, the income you earn is apportioned to each state based on the number of days you compete or train within the state, and is then taxed in that state according to its tax rates. So even if an athlete resides in a state with no income tax, some of his income will be allocated to states with an income tax and taxed accordingly. But as you’ll see below, the savings from calling a state like Texas your home can still be substantial.
If Howard re-signs with the Lakers
and relocates to California, as a resident of the state he will be subject
to a 13.3% on all of his
income. Any income allocated outside the state and taxed in another
jurisdiction– for example, when the Lakers play the Phoenix
Suns – will generate a credit Howard can use against his California
income tax. But because California’s rate will always be higher than the other
state, Howard will still pay an effective rate of 13.3% on his income.”
Basically, if Howard finishes his
contract with L.A. and earns the full $118 million, all $118 million of it
would be taxed and he would lose roughly $15.7 million (13.3% of $118). When we turn our attention down South,
we realize that over half of Howard’s $87.6 million would be tax-free: the
government would touch none of the money that Howard makes in the 41 home games
Howard plays each season, nor would they see a cent of the money he earns in
the Rockets’ away games against the Dallas Mavericks (x2), San Antonio Spurs
(x2), Miami Heat, and Orlando Magic, all of which play within the borders of a
no-income tax state.
As a result, Howard will only play
33 games a season in income-taxable states per season. If we project this across the length of
his contract we find that Howard will play a total of 132 games in income
taxable states, which accounts for approximately 40% of his total income or
$1.7 million.
But we won’t stop here. The Lakers’ $118 million contract
included a player option for the fifth season, meaning that Dwight Howard could
opt out of the fifth year and let the market determine his value in free agency.
At the end of the hypothetical fourth year, Howard would be 31 years old,
nearing the end of his prime, but a great defensive stopper in a league
deprived of quality big men. He
would more than likely fetch another max contract, and why would he wait one
more year to stay with his current contract with the risk of injury and job
security? To offer some
perspective, at 33 years old, Shaq signed a $100 million max contract with the
Heat. Granted, Shaq had three NBA
Championships to his credit, but because of the dearth at the center position,
a physical specimen as gifted as Howard won’t have any trouble finding another
max deal. Regardless, Howard will
play somewhere, which is why the fifth year of the L.A. deal is so misleading.
So after we factor out the final
year of Howard’s contract in L.A., let’s juxtapose the two four-year deals:
Los Angeles Lakers: four years, $91 million (minus $15.7 million to state income tax) = $75.3 million
Houston Rockets: four years, $87.6 million (minus $1.4 million to state income tax) = $86.2 million
After
doing some math, we see that the reason why Dwight Howard left Hollywood may
not have been to any fault of Kobe Bryant or Mike D’Antoni, but of Uncle Sam.
#DJLR
