ProPublica explains how billionaire sports team owners get tax write-offs. The same applies to arena operators (Hello, Brooklyn). A tax benefit for below-market naming rights?

ProPublica's 7/8/21 article, The Billionaire Playbook: How Sports Owners Use Their Teams to Avoid Millions in Taxes, doesn't mention the Brooklyn Nets, but it's relevant to all major league sports teams, and should help put into perspective the seeming generosity of team owners like the Nets' Joe Tsai. 

And it also should help us reframe understanding of the Barclays Center's financial results, because, even when the arena has been (somewhat) profitable, it has had significant paper losses, which help save on taxes for the owner of the arena operating company. 

I have tended to ignore those losses because they don't address whether the arena was meeting its financial metrics--which are crucial to the bond rating, never quite "junk," at least not until after two rounds of financing. But those "paper" losses have a very important real world impact and should count as a major giveaway.

Team values leap

First, let's look at the astronishing jump in the last 20 years for team values, with the NBA--thanks to the sports popularity and various TV/sponsorhip deals--vaulting almost as dramatically as the NFL.

NBA teams value nearly $2 billion, thanks in part to the Nets selling from Mikhail Prokhorov to Tsai for an announced $2.35 billion (with rebate, more like $2 billion).

Surely Bruce Ratner, who brought in Prokhorov to fill a financing gap and then, with his parent company Forest City Enterprises, sold the team and operating company to the Russian billionaire, wishes he'd held on. (Then again, Ratner wouldn't have invested in the team, as Prokhorov did.)

National Sports Law Institute & Marquette University
Law School and Forbes. Credit:Lucas Waldron/ProPublica

Owners make bank

Also see ProPublica's Eight Takeaways From ProPublica’s Investigation of How Sports Owners Use Their Teams to Avoid Taxes, but let me summarize a bit from the main article.

It notes that Los Angeles Lakers star LeBron James paid a federal income tax rate of 35.9%, but Los Angeles Clippers owner Steve Ballmer paid far less, thanks to something called amortization.

The gist:

Ballmer pays such a low rate, in part, because of a provision of the U.S. tax code. When someone buys a business, they’re often able to deduct almost the entire sale price against their income during the ensuing years. That allows them to pay less in taxes. The underlying logic is that the purchase price was composed of assets — buildings, equipment, patents and more — that degrade over time and should be counted as expenses.

But in few industries is that tax treatment more detached from economic reality than in professional sports. Teams’ most valuable assets, such as TV deals and player contracts, are virtually guaranteed to regenerate because sports franchises are essentially monopolies. There’s little risk that players will stop playing for Ballmer’s Clippers or that TV stations will stop airing their games. But Ballmer still gets to deduct the value of those assets over time, almost $2 billion in all, from his taxable income.

Thanks to some "obtained" IRS records, ProPublica reports that, while the Clippers have generally been profitable, the team "reported $700 million in losses for tax purposes in recent years."

"ProPublica reviewed tax information for dozens of team owners across the four largest American pro sports leagues," and reported similar results. There was no mention of the Nets, but it's surely similar.

The history is troubling, influenced by Major League Baseball lobbying: teams can write off not just player contracts but other items, "including assets that don’t lose value, as deteriorating over time."

The article notes that, "when owners sell their teams, they have to pay back the taxes they avoided by using amortization," but that deferral can serve as interest-free loan that can otherwise reap profits--or, if passed on to heirs, avoids taxes completely.

About the Barclays Center

I don't have the Brooklyn Nets' reports of profits and loss, but I do have publicly reported information on the arena, operated by Brooklyn Events Center, which is owned by the team owner.

Consider the fiscal year 2020 results, which I reported on last October and provided the annotated chart below.

The arena company's net operating income (NOI) totaled $12.5 million, not nearly enough to pay off construction bonds, which--to the appreciation of bondholders--were paid off thanks to a reserve account as well as billionaire Tsai's gaurantee.

Again, I've focused on revenue, expenses, and net income because they are the important metrics for understanding bond ratings.

However, thanks to depreciation and amortization, the arena reported a total operating loss of $51.6 million and a net loss, after interest payments, of nearly $64 million.

That's not quite the same as a sports team, because an arena is a physical asset that, as it ages, becomes less valuable. But it's hard to believe those are, in full, "real" losses.

Looking at depreciation

Here's the language from the FY 2020 report:

Property, arena, and equipment is reported on the Company’s balance sheet at cost, net of depreciation calculated on a straight line basis over the useful lives of its long-lived assets, estimated as follows:
Arena 47 years
Building improvements 10 years

Furniture and equipment 3-7 years

Looking at amortization

Here's the language from the FY 2020 report:

Accounting for Goodwill. This guidance provides private entities the option to amortize goodwill on a straight line basis over 10 years, or shorter if deemed appropriate, and to perform a goodwill impairment analysis at the company-wide or reporting unit level when a triggering event occurs that indicates the fair value of the entity or reporting unit may be below its carrying amount. The related expense is recorded within amortization expense in the statements of operations and comprehensive (loss) income. The Company has elected to apply the impairment analysis at the company-wide level. In the event that the value of goodwill becomes impaired, the Company will record a charge for the amount of the impairment during the fiscal year in which the determination is made. The Company recognized $40,204,845 of amortization expense related to goodwill during the Successor Period. The Company expects to recognize amortization expense related to goodwill of approximately $50,785,068 in each of the next five fiscal years. 

ProPublica describes goodwill as "an amorphous accounting concept that represents the value of a business’ reputation." Does anyone think the Brooklyn Events Center/Barclays Center is losing money on its reputation?

Saving on the below-market naming rights?

The fiscal report also claims amortization on--as far as I can tell-- the apparently below-market (as of now) of the naming rights deal with Barclays, which (I think) is the only contract lasting another 13 years:

As part of the valuation of assets acquired and liabilities assumed in connection with the Acquisition, the Company determined that certain of its contracts are considered below market. Amortization for these contracts is computed on a straight line basis, approximating the impact of these below market contracts over their remaining useful lives, which the Company has determined to be 13 years.

Does this make sense to me? No, I'm not an accountant. I'm not sure why accumulated amortization lowers the liability rather than increases it. (Insights from readers are welcome)

But the notion that the arena operator can get a tax write-off because they were unable to renegotiate the naming rights deal--that's nuts.