Estate Planning with Sports Franchises
About JOE MCNULTY
Based at a variety of elite firms and now at the helm of his own company, McNulty wields experience that includes more than 30 years of providing professional services and due diligence in the technology, internet, media, hospitality and entertainment realms. McNulty also has significant experience executing transactions involving both domestic and foreign sports franchises, as well as real estate. He also services family offices, individual venture capital investors, artists and performers.
He has served clients in the areas of bankruptcy litigation; transactional due diligence and structuring; intellectual property disputes; commercial litigation; and both criminal and civil tax proceedings. McNulty has provided expert witness testimony in US federal and state courts as well as before London’s High Court of Justice and the International Court of Justice.
McNulty has successfully executed a great number of complex business valuations and economic damage calculations—including the valuation of both private and public companies, in the US and overseas; the estimation of intangible assets in relation to equitable distribution outcomes; management of estate and gift tax cases; oversight of mergers and acquisitions, in addition to purchase price allocation.
McNulty also has extensive experience as an investor, leading or participating in a number of real estate, technology and media ventures.
McNulty earned a Bachelor of Science at the University of Santa Clara, CA. He also attended the Master’s in Financial Planning and Taxation Program at Golden Gate University in San Francisco, where he also taught the courses “Taxation of Sports Franchises” and “Partnership Taxation.”
McNulty is a Certified Public Accountant accredited in California and New York.
Bio Source: mcnultycpas.com
Alan: Welcome back. I’m sitting here today with Joe McNulty. Welcome to today’s show.
Joe: Thank you.
Alan: So Joe, you’re an accountant, a CPA, but for the listeners, can you give some background of the areas of practice and give us some history of some of the past the projects you’ve worked on?
Joe: Well, the one thing about being an accountant is sometimes people will see it as a boring profession. But I’ve had experience been just the opposite. My experience initially started in the real estate business. And then after that, I got involved in the music industry, which I was significantly involved with a major rock and roll group for many, many years, which I still involved today. But then that is led from, you know, being involved in all aspects of industry and being exposed to the pharmaceutical industry, the real estate industry, the sports industry, I have a practice now, that’s I have now over the years being involved in the early 2000s, with the initial purchase of a major NBA franchise, I ended up from that time period being involved in over maybe 50 to 60 transactions in the sports business, mostly in the acquisition and sell sports franchises.
Alan: So that that’s actually ended up being a boutique business and a lot of changes that are happening in that
Joe: Yes, significant changes.
Alan: I think they had some valuations come out yesterday top 10 valuations in you know, in the industry, and they’re up there. I think the warriors were number two.
Joe: There’s a lot of polls. Primarily in the sports franchise business, the initial returns to investors was by tax benefits. The prices since Steve Ballmer bought the Clippers has jumped significantly.
Alan: How much was that?
Joe: Two billion dollar and I believe some of the franchise’s that sold just before that, it was probably in the six to $700 million range. So this just brought a new game. The question was, was the valuation worth at the time we purchased it? And it’s turned out to be that every franchise after that has been in the billion dollar plus range, at least outside of you know, NBA teams and you know, football teams and hockey is still advancing
Alan: You know, one thing one thing I don’t understand is that right ahead of the Warriors for the most valued franchise was the Lakers, which they haven’t been in the playoffs and years, like what holds the value of a team up there when they’re so bad?
Joe: Well, it’s broadcasting rights. You know, a lot of people think that sports is you sell tickets is a portion of the revenue stream, but the primary source of sports franchises is broadcasting. It is an upstream broadcast. You know, the NBA and the NFL and have been significant holders, both local broadcasting which is usually the team gets to keep in that be depends on the market. And when you have Los Angeles being as big of a market as it is, the Lakers valuations based on that population, and number of Laker fans and TV exposure…
Alan: When they do evaluation they do for multiple years then?
Joe: They look at the net present value of the current contracts, but also the competitiveness of future contracts. The one thing about sports franchises, it can’t be taped, tapes don’t sell well, it’s live. So it gives you a high exposure to advertisers. And then get real time no one could shift through the advertising. And it’s a higher, you know, higher payment per minute than most other mediums of advertising. So sports is real time.
Alan: And in the franchise world that I guess it was about maybe five, six years ago, the NBA players went on strike. And then there was a dispute over broadcast rights.
Joe: That’s right.
Alan: And finally get settled it you remember with the settlement was?
Joe: Not in specific detail, I do know it had a players participate in that. And so the revenue streams are shared with the players. Okay. So it’s part of the collective bargaining agreement.
Alan: So the interesting thing is, this is where I was going with the questions when you’re looking at the value of a franchise and you say a lot of it are broadcast rights. Only a portion of those broadcasts rights are with the owners, the other portion belong to the players, which are not in that valuation.
Joe: Well, that’s right, it’s considered a an expensive evaluation. So usually in the NBA, if you have a contract, and you’re going to get $30 billion from a broadcasting contract, what’s going to hit your marginal profit is half of that, because the other half goes to the players.
Alan: So recently, we went through a whole round of NBA trades and the moving players around and it seems like every year that they go through this, those numbers go up, up up,
Joe: they’ve been going up, but now there’s a new dilemma in the sports industry. And the dilemma is who could pay that, you know, we’re individuals were using it for, you know, the shelter, other parts of their income, are be able to manage it most of the purchasers bought franchises were individuals are syndicate of individuals. Now the prices are becoming so expensive. And there’s a lot of limitations on franchises. There are people trying to get past the mark of how, how are you going to get someone to pay $6 million for a sports franchise.
Alan: Joe before the break, we were talking about the valuation of these franchises now, which have really escalated within the last few years starting with the Clippers transition at $2 billion. But you know, you made an instrumental remark of, you know, we’re now you have a fractional interest that you’re trying to sell who’s going to pay $6 million for small piece of a sports franchise and is there a dilemma in this industry?
Joe: Well, there’s a strong dilemma coming out for limited partnerships and the liquidity event that has to come along with limited members, the limited members are usually the guy that’s not the operational partner. And the question is, what event do they have? The only event is if the main ownership group wants to sell the team? And sometimes they don’t? So the question is, what does limited members do in order to get to realize that economic event, and there is the market has slowed, a lot of people don’t want to pay and you mentioned 6 million. And some of these franchises, you’re going to 25 million just to join a club, and it’s a very expensive Country Club. Yes, they may get some tax benefits out of it. But still, they want their economic event. So the sports industry is trying to find ways in some creative fashion to have some kind of liquidity event for passive are limited ownership. And so there’s a lot of you know, I probably was even yesterday in four different conversations on four different markets of how can the limited members get liquidity. So you’re going to see a significant change in the way sports franchises are going to be you’re to see more or less people buying franchises for tax benefits. And you’re going to see more institutional investors for the economics of it.
Alan: The one of the things about the Lakers is that the original owner passed some some years ago. Yes, and when you have a valuable franchise, Uncle Sam shows up wanting their piece of the pie.
Joe: That’s correct
Alan: What options do families have with estate planning to retain control?
Joe: I’ve always been a big fan, that that would you buy something you should form a family partnership, and that a family partnership should share the upside of this franchise that you transfer the wealth the day you buy it, not the date appreciates it, you know, if so you could pass a lot of the appreciation on to the children without incurring estate taxes. Without proper estate planning, especially because of the high valuations these sports franchises, you’re seeing a burden on the teams because the because of if a person dies in one team of for instance, we you and I’ve talked to before a very large valued team, you know that if you get that good valuation that a billion and a half dollars, you know, you’re talking $600- 700 million dollars in just a state in inheritance taxes in whatever state you’re in. And that puts a tremendous burden on the family to look for liquidity. And then if they elect to pay it off over time period, such as a 10 year period with the IRS, you know, you’re still talking $60 to $70 million plus a year and payments, which is money that is going to be drained from the sports franchise, which puts a big hindrance on the operations are the team, which can decline, the performance and the ability to get into the market with players.
Alan: So those types of numbers spells the real need to do estate planning up front
Joe: Right up front.
Alan: Friday, when you speak at the annual conference for the team understood the NBA. Yes. And what’s the topic you’re typically addressing there?
Joe: Well, valuation estate planning, you know, the amortized amortization of the teams. One of the things that people don’t realize least when you buy a sports franchise, you get to amortize, you know, the intangible asset over 180 months. If you do the fractions, you ended up with a, you know, 3% rate of return, if you did nothing but cash flow, with zero cash flow, you’re looking at a 3% cash on cash rate of return, you know, as an investment all by itself, just from the tax benefits.
Alan: Joe, I need to take another quick break. Busy here today of Joe McNulty. We’ve been talking about the sports franchise world and valuations estate planning. And when we get back, I want to go further into what the team owners should be looking at in context of how do they mitigate or minimize their tax liability on the transfer from one generation to the next. We’ll be right back after these messages.
Alan: I’m visiting here today Joe McNulty and Joe has expertise as a CPA in the estate and tax planning area for professional sports teams. And Joe, in the in the last segment, we were talking about valuations that the astronomical figure But first of all, at what point does an estate become taxable? Under the law?
Joe: Well, it’s if it’s a single taxpayer that’s not married, you’re probably looking at it in excess of $10 million. Okay? If you’re married, you look at an excess of $20 million. Okay, in a simple form.
Alan: So when we’re so when we’re looking at a tax bill is state where we’re somewhere north of a $20 million estate. And when we, when we look at sports franchises, and they’re reaching the astronomical figures of the, you know, the multi billion I think the Forbes had was at three and a half billion to the Warriors, and they weren’t even the number one valuation but these so these are big numbers, as is a point. If we if we look at transition, how do you how do you estate plan under something so expensive?
Joe: Right, you used a particular example like you do with the Warriors, and these are all publicly public numbers. What is this? Yeah, recent published number one was the original purchase price, you’re talking a $3 billion appreciation of a sports franchise since 2010. You know that, that takes the rule of seven and turns it into a whole new formula. And you can say, how do you estate plan for that? Well, the estate planning should have happened on the date of the purchase, you know, everything else will be corrective. Because if you want to give wealth away, I like to be in a situation to make a structure where if you’re that you and your family are in a situation, and I’m a big advocate of family LLC, or family partnerships, to where, where the father buys assets, and the family members share. Okay, and that they share in the appreciation, and it’s done in such a strict teaching way, and you’re not handing this wealth to the kids to trust could be at the partner level or the member level. But the you know, the parents share the pie from day one with the children into the state. So it’s not about an individual’s wealth, you have to think in a family’s wealth. And that’s the first point to an estate plan, the estate plan should be not about Joe’s wealth, it should be about Joe and his family’s wealth. And if I was that, in that position, it would be my whole family would participate in from all my losses, and all my gains and hoping that the gains are there in the future, but it would be shared with my family and then on to their family, and they love to their family. And using that.
Alan: So let’s say person did the best they could on you know, transition, get their family members, but they still have a piece of the pie, well in excess of 20 million in there, you know, they need to get Uncle Sam paid, what options do they have?
Joe: They’ve got to have liquidity when they die. Okay. Okay, so that, you know, if someone was to pass and you know, you properly, you know, you always have the spouse planning, creating Q-tips, or you know, your spouse being a co-owner, and she’s survives you-
Alan: So what is a Q-tip?
Joe: It’s an estate planning tool to where you would give your wife certain separate property assets, and she would benefit from those assets during her lifetime. And then the passing to the next generation would happen up on her death. And she would be if you had a $20 million state, and you want to form a Q tip, and you gave her $10 million, that 10 million would sit and trust until she passes and then you had state would tax would be incurred upon her passing. And she has the benefit of that money during her lifetime. And using the spousal exemption is the first most effective tool in in estate planning. Yeah, so
Alan: So, when you so you got the spousal exemptions was basically the Q tip becomes that contract between the surviving spouse and the government say let’s, let’s just wait until both of us die. And then we’ll have the kids work on it or who are the executor is and get it out. So the kids, the kids now inherit the mama dad’s interest and comes up that they need to pay, but they may say, Well, we don’t necessarily want to sell everything is their options that they may have terms of paying over time with.
Joe: The government has a statutory payout period, I often my recollection is over a 10 year period, its statutory, they get a reasonable interest rate, and they pay it over time. You know, in sports franchise, we seen several sellers that utilize that, but it does put a strain on the team because the team does lack liquidity. Lot of the sports franchises and there’s some exceptions, as anything, have a lot of wealth and appreciation, but the cash flow is really backing and reinvested continually back into the operations, especially to get good players. Okay, so the estate tax could be a burden, and it actually hindered the value of this franchise. You know, there were there also was situations to where, if your wealth is a sports franchise, like there is many of the original owners Haven’t you pass it on in a in a, as we talked about the what the franchise into a Q tip? You know, the problem is it doesn’t cash flow to give the spouse the income she needs to live in our lifestyle. So sometimes when a when a when, when a wife inherited, it’s very difficult without a liquid asset to try to get the real wealth and income out of that asset. And we’ve seen teams compromise value, but just because of that structure. So it takes a lot of good planning up front to make sure your succession is pretty done for you know, we see some owners, you know, there’s recent transactions to where people don’t want to deal with that. And they actually sell the team because they don’t want the estate to have that burden upon passing.
Alan: They call it punting.
Joe: They call it punting. That’s exactly right. And all the other sports besides football but football too.
Alan: The Oakland Raiders, I guess recently the Davis family ended up think the kids end up taking the team down to Vegas. I don’t know if there was any tax reasons for going to Vegas. I don’t know if that means anything but or maybe they just like the weather they’re better,
Joe: Well it’s a tax free state. So there’s no income tax on the state portion. That that helps. It gives some advantages to players when you start to recruit them. You know what that brings? Another point is, on some franchises that are in tax free states, it does give an incentive for players to go play in Houston or Dallas versus California, because the state income taxes is there except there’s no state income tax. So you know, for someone in the loss in California, which has a very high tax to compete with, you know, the Texas teams that has no state tax. We wanted a template that analysis it’s almost like one free net cash flow on an additional five-year contract.