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Starting in tax year 2013, the tax burden for professional athletes will increase substantially. Higher tax rates, the new Obamacare surcharges, personal exemption phaseouts, and itemized deduction reductions will be felt in the pocketbooks of most all professional athletes. Many will discover just how expensive the changes are on or around April 15th.

Here are some highlights:

  • The top marginal U.S. Federal income tax rate rises from 35% to 39.6%.
  • U.S. Social Security taxes reverted back to 6.2% in 2013 from 4.2% in 2012.
  • In California, there’s a millionaire’s surtax, bringing the top rate to 13.3%.

And the big surprise hit is coming with the Affordable Care Act with some additional taxes for the wealthy:

  • An additional 0.9% Medicare surcharge tax on single individuals earning over $200,000.
  • An extra 3.8% levied on Net Investment Income (NII) for high earners.
  • The NII surcharge also applies to capital gains, increasing the max rate from 15% to 23.8%.

What does this all mean? A professional athlete who resides in California earning over $3 million will pay half of that amount in taxes, resulting in a 50% combined effective tax rate! The increases really start to kick in as one earns closer to $1 million dollars. For example, a professional athlete earning $500,000 will only incur around $5,000 extra in his or her overall taxes, or one additional percent. Millionaires will incur around 4% more or about $40,000. Athletes earning over $2 million will pay 5% extra, or $100,000. There are some definitive moves professional athletes can make to reduce their overall tax burdens.

1. Consult with an experienced tax specialist for professional athletes. Make sure you are paying the lowest, legal amount of tax available to you. Professional athletes are allotted special tax deductions based on the profession of being an athlete. Seek out a Certified Public Accountant (CPA) who is experienced and knows the deductions available to you to take full advantage of them. Pros should only work with Pros.

2. Consider carefully your state residency decision. With a vast disparity of tax rates in the various states, the residency decision is more important than ever. Your CPA can help quantify the impact of your choices of residency and provide guidance on how to defend your chosen state determination against a tax audit.

3. Ensure your advisory team (agent, financial advisor, accountant, attorney, etc.) communicates. As more dollars are taken from your pay in taxes, the less capital you have to preserve. The various members of your team should be in contact with each another on a regular basis and inform each other of upcoming changes. The more each is aware of your pending financial and business decisions, the better advice you can receive from your team. Taxadvantaged investments should take on an even more prominent role in your financial plans and should be approved by your CPA, financial advisor, and you.

For more information or to speak with a tax professional for professional athletes, please contact Dr. Karaffa at (804) 363-9684 or JKaraffa@ProSport CPA.com, or visit www.ProSportCPA.com.