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FACT: Pro teams are lucrative tax havens.
"It is almost impossible not to make money on a baseball club when you are buying it new because, unless you become inordinately successful, you pay no income tax," Bill Veeck confessed in The Hustler's Handbook, published in 1965. "It is, in fact, quite possible for a big league club to go on forever without ever paying any income tax.
"Look, we play The Star-Spangled Banner before every game. You want us to pay income taxes, too?"
Veeck should know. Early in his career, while studying accounting at night and dreaming up new ways to promote baseball by day, he hit on a wild idea. No, not the midget batter, but a gimmick of far greater consequence. Traditionally when an investor bought a team the players were considered part of the inventory, an existing asset like the shipping crates full of finished products in a widget company's warehouse.
Veeck's brainstorm was to buy the players' contracts in separate transactions and thereby make them a depreciable asset. The idea, which others later refined into an arcane science, was to arrange it so that the buyer could depreciate the cost of the players under the same tax laws and in the same manner that a farmer writes off his breeding cattle. After all, the theory goes, players depreciate in value—or get "used up"—just as aging bulls or creaky machines do.
When word of the Veeck variation swept through the offices of pro sports in the early 1960s, it was as if one of his exploding scoreboards had gone off in the accounting department. Some measure of the eventual impact of his idea can be gained from the fact that since 1959 football, baseball, basketball and hockey franchises have swelled from 42 to 101. A big reason for the increase was the desire of rich investors to take advantage of this sports tax shelter; no other industry in the land assigns a value to its employees and then writes them off as depreciable assets.
When an investor buys a team, he acquires two basic assets, player contracts and a bundle of monopoly rights called the franchise. The franchise is an intangible, non-depreciable asset; not only is its useful life span indeterminate but also its value, as we have seen, tends to accelerate. While that is another inspiring reason to leap into the sports business, the buyer cannot write off the non-depreciable cost of the franchise to reduce or "shelter" the income from his other businesses. For tax purposes, then, it is to the buyer's advantage to ascribe as small a portion of the purchase price as possible to the cost of the franchise. On many teams' books it is carried at a value of $50,000.
That done, the only things left for the buyer to do are to allocate the rest of the purchase price to the cost of the players and to decide how fast he wants to write that amount off—the span usually ranges from three to seven years. Until a recent revision in the tax laws set down more realistic but still generous guidelines, the buyer was encouraged to use his imagination. Example:
If an owner—let's call him Harry Hypothetical—bought his team for $10 million, allocated 75%, or $7.5 million, of the purchase price to the cost of the players and decided to depreciate them over the customary five years, he would have had a write-off of $1.5 million a year. If Harry was so inept or neglectful (he had other businesses to tend to, mind you, his real businesses) that the club showed an operating loss of $500,000 for its first season, for tax purposes the team's total loss would have been $2 million—the $500,000 operating loss plus the $1.5 million in player depreciation. If the team had been incorporated in a certain way (a tax device called a subchapter S corporation is favored) and if Harry, who was making a bundle in his other businesses, was in the 50% tax bracket, then he would have enjoyed a savings of $1 million—50% of the $2 million loss—on his income tax.
And so, after subtracting the out-of-pocket operating loss of $500,000 from the $1 million windfall resulting from player depreciation, there was Harry, decrying the perils of the sports business while palming a half-million-dollar profit. Even if the team had managed to earn an operating profit of $500,000, it still would have shown a book loss of $1 million. And Harry, though $1 million richer, would have been able to plead that, according to his tax records, the team was losing a bundle.