Sometimes you are good and sometimes you just get lucky. When it comes to money moves one of the luckiest times in my life was when I first got called up to the big leagues. A baby faced 20 year old with more questions than answers. Some opportune guidance from a clubhouse manager ended up saving me serious money in taxes.
"Do you know about the MLB 401(k) plan? You should look at contributing to that."
That was my first foray into understanding retirement accounts, the tax implications, and how professional athletes can maximize them.
In this article, we are going to break down what retirement accounts athlete should consider, the impact they have, and examples of how to maximize them.
The Key Points
Retirement accounts at their core are relatively simple. You make a contribution and the government gives you either a current year benefit (deferral) or a future year benefit (tax free growth). They do this to encourage families to save for retirement. Athletes retirement accounts at their core are no different but what is different is the tax rate, time frame, and impact those little decisions have.
There are four main retirement accounts athletes need to think about:
401(k) - These are company sponsored plans that in 2024 allow you to contribute up to $23,000 pre tax and an additional $43,000 after tax.
IRA/Roth IRA - These are individual retirement accounts that allow athletes to contribute up to $7,000 per year. The difference between a traditional IRA and a Roth IRA is the tax benefits. The traditional IRA gives you a current year tax benefit and taxes your money at distribution. The Roth IRA provides no current year tax benefit but provides tax free growth and distributions.
SEP IRA - A simplified employee pension IRA or SEP IRA is a retirement account that allows athletes to contribute self employment income or "off the field" income. In 2024, an athlete can contribute 25% of their self employment income with a max contribution of $69,000.
Solo 401(k)/Roth Solo 401(k) - Much like the SEP IRA this account is earmarked for self employment income or "off the field" income. Solo 401(k)s have the same contribution limits as traditional 401(k)s mentioned above. In addition, many providers have Roth Solo 401(k) options that provide no current year tax benefit but provide tax free growth and distribution.
The Right Mix
Understanding the types of accounts available is just step one in this process. Step two and arguable more important is understanding how to properly use these for a professional athlete. At Moment Private Wealth, we specialize in being financial advisors for athletes and are always thinking about the nuances that comes with these accounts.
To better articulate how a professional athlete might mix these retirement accounts for maximum impact here is an example:
The typical arc for a professional athletes is NIL money, a draft/free agent contract, a free agent deal and a post career plan.
In this example we will walk through things to consider and the tax implications at each stage.
When an athlete is making NIL money the two biggest accounts that we often consider at Moment Private Wealth are Roth IRAs and Roth Solo 401(k)s. The reason for this is simple both of these accounts provide the biggest current or future year tax benefit to the athlete.
Example: Athlete is earning $100,000 of NIL money.
Potential Action: $6,500 Roth IRA contribution and a $23,000 Roth Solo 401(k) contribution.
Reasoning: This athlete would be in the 22% marginal tax rate but their effective rate (the rate they actually pay) will be lower. There is a good chance this athlete will be in a higher future tax rate thus us wanting to maximize the future tax benefit (tax free growth) as opposed to the current year tax benefit (deferrals).
Draft/Free Agent Contract
When an athlete is signing their draft contract their are three accounts we look most often look at. They are the Roth IRA and 401(k).
Example: Athlete signs a contract for $5,000,000.
Potential Action: $6,500 "backdoor" Roth IRA contribution and $23,000 401(k) contribution.
Reasoning: This athlete would be in the 37% marginal tax rate and their effective tax rate would be in the high 30s as well. This means we would be looking to focus on current year tax benefits. The traditional 401(k) (if offered by the team) provides that current year benefit. The "backdoor" Roth IRA strategy is specific to high income earners and allows us to work around the income limitations usually associated with Roth IRA contributions.
Post Career Plan
When an athlete is transitioning from his playing days to post playing we often see a dramatic decrease in their tax rate. This is an opportune time to maximize the structure of retirement accounts.
Example: Athlete transitions from a tax rate in the high 30s to a tax rate in the high teens to low 20s.
Potential Action: That athlete could look to convert or move money from traditional retirement accounts into Roth retirement accounts.
Reasoning: There is a tax consequence when this conversion happens but often the athletes tax rate is at the lowest point in recent memory. This allows an athlete to potential take advantage of decades of tax free growth and distributions in a Roth retirement account.
*Note - The above strategies are hyper specific to each individual player and why we always recommend working with a financial advisor for athletes. One that has deep understanding and specific expertise in helping athlete navigates the complexities that come with sports.
Professional athletes face a unique career arc of low income to spiked income to low income. It is important that athletes understand the role retirement accounts play in reducing one's lifetime tax bill and increasing wealth creation.
At Moment Private Wealth we specialize in being financial advisors for athletes.
Moment Private Wealth specializes in helping professional athletes and entrepreneurs build and protect wealth. Understanding the nuances of retirement accounts for athletes is at the heart of what we do as financial advisors to athletes and entrepreneurs.
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*Moment Private Wealth offers information on tax and estate planning that is general in nature. Tax and Legal advice are not provided by Moment Private Wealth. Consult an attorney or tax professional regarding your specific legal or tax situation.