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Can Yankees Use CBA Loophole to Avoid Luxury Tax?

Although the justification may be suspect, the Yankees’ actions this winter clearly imply that the team is serious about trimming its 2014 payroll below the $189 million competitive balance (aka luxury) tax threshold, which includes approximately $11 million in benefit expenses, leaving about $178 million left for actual salaries. Because of this pending restriction, the Yankees have not only been unable to pursue other teams' free agents, but they have also been limited in the ability to retain their own. However, a closer look at the CBA suggests that the team may not have to be so frugal. If the Yankees are willing to jump through loopholes, there may be a way for the team to sign free agents without derailing its attempt to fall below the luxury tax limit.

Can the Yankees' financial brain trust come up with a way to ease the team's self-imposed budget crunch?
Can the Yankees' financial brain trust come up with a way to ease the team's self-imposed budget crunch?
Mike Stobe

For the purposes of determining the competitive balance tax, Article XXIII, Section E, Part 2 of the CBA defines payroll as the sum of the "average annual value" (AAV) assigned to each team's player contracts. The AAV is calculated by adding the base salary (cash and non-cash considerations) in each contract year along with signing bonuses, certain buyouts, and deferred compensation and then dividing it by the number of guaranteed years. The emphasis on guaranteed years is a key point, one that creates the loophole the Yankees may be able to use this winter.

So, what is a guaranteed year anyway? The CBA defines the term as "any championship season included in a Uniform Player's Contract for which more than 50% of the Player's Base Salary is guaranteed by the Contract in the event of termination". This definition applies to all contracted seasons that are not deemed to be options years, but there are some other inclusions. Mutual and player options are also considered guaranteed if the contract buyout is not more than 50% of the salary. In other words, if the contract gives the player a heavy incentive to exercise his opt out, the year is not considered guaranteed.

A more important question for the Yankees' purposes, however, is what is not a guaranteed year. Aside from a player option with a high buyout, the other non-guaranteed contract year is a team option. There is no ambiguity about this point. Part 5 of Section E clearly states, "Club Option Years shall not be considered ‘Guaranteed Years.'"

So, how can the Yankees put this important distinction to good use? Let's take Nick Swisher as an example. Based on market rumblings, a four-year, $65 million contract seems like a reasonable target for the right fielder. Under such a contract, Swisher's AAV would be $16.25 million. With well over $100 million already (or likely to be) committed in 2014, the Yankees would have a hard time fitting such an amount into their budget. However, if the AAV could be front loaded into 2013, they just might be able to afford Swisher after all.

If the Yankees' offered Swisher a $38 million salary in 2013 with three team options worth $9 million a piece in 2014 to 2016, the total contract value would still be $65 million, but the AAV in each season would be much different. According to the CBA, "if a Uniform Player's Contract covers one or more seasons that are Club Option Years, the Player's Salary for the championship seasons that are Club Option Years, if exercised, shall be the total of the Base Salary and any bonuses." In other words, because the team options are not guaranteed, each one would count as $9 million in the year they are exercised, allowing the Yankees to shift their luxury tax burden to 2013.

Granted, this isn't the most elegant (or inexpensive) solution. Having to shell out such a hefty lump sum, not to mention the $19 million luxury tax hit incurred in 2013, would certainly mitigate some of the advantage. However, with as much as $100 million potentially at stake if the Yankees can dip below the luxury tax limit in 2014, that's probably a small price to pay. In addition, the Yankees could also employ a deferred compensation arrangement to defray their upfront cost, or, perhaps negotiate a smaller contract value because of the advantage to Swisher of receiving so much of it up front, especially considering the likelihood of a federal income tax increase in 2013.

Just because the Yankees and Swisher might be able to come to a happy arrangement doesn't mean Bud Selig will be pleased, and, Part 1 of Section G, seems to give him some jurisdiction in the matter. According to that excerpt, "Neither the Parties hereto nor any Club or any Player shall enter into any agreement, Uniform Player's Contract or other transaction, that includes any terms designed to defeat or circumvent the intention of the Parties as reflected by this Article XXIII." So, based on this broad stipulation, it appears as if Selig would have the authority to close the loophole? Or does he?

Article XXIII deals specifically with the competitive balance tax, so an attempt "to circumvent its intention" would entail avoiding the luxury tax. However, that's not what the Yankees would be doing in the example above. In fact, they would be accelerating payment. Although the Yankees' unique circumstances likely mean they would pay a lower total tax under this arrangement than with a normal four-year guaranteed contract, by no means is that a given. Besides, the Yankees and Swisher would not be relying on tacit agreements or contrived workarounds, but instead a basic, clearly defined mechanism prominently featured in the CBA: the team option. And, even if Selig still responded unfavorably, the Yankees could increase the amount of the 2013 contract year (thereby increasing their tax burden), provided, of course, it remains cost effective for them to do so.

Is this loophole really wide enough for the Yankees to exploit, or does some other part of the CBA effectively close it? Would the commissioner be able to void the contract on hypothetical grounds? Would the MLBPA let him? These are all interesting questions, and, considering the amount of money at stake, it seems worthwhile for the Yankees to find out the answers. Who knows, maybe they already have? Then again, perhaps they don't really want to know.