The Los Angeles Kings made the first big splash of NHL free agency by agreeing to terms with Ilya Kovalchuk last month. The Russian superstar took an unusual path around the world to become the newest member of the Kings, and the saga may prove to be a cautionary tale for other athletes looking to maximize their value by playing overseas.
Kovalchuk’s epic journey began in 2013 when he decided to walk away from his contract with the New Jersey Devils and join SKA St. Petersburg of the Kontinental Hockey League. At the time Kovalchuk had 12 years and $77 million remaining on his deal. In hindsight, when examined purely in financial terms, his decision to leave the NHL may not have been the best choice.
Kovalchuk asked the Devils to place him on the voluntary retirement list. The Devils, naturally, were not pleased with his decision but agreed to do so. His mother expressed the motivation behind Kovalchuk’s decision, saying:
After the lockout, there are a lot of restrictions at all teams. … They are also underpaid 20% [of their salary]. The league takes it as an escrow that may not be paid back if the NHL does not make profit. And then there’s government tax of 50%. That means on paper you are being paid $10 million a year but in reality only 3. So the pendulum swung for Russia.
The 2012 NHL Collective Bargaining Agreement initiated several new revenue sharing features, and the interesting item at the heart of Kovalchuk’s mother’s concern is the escrow requirement.
Under the escrow agreement, a portion of a player’s salary is placed into an escrow account. This agreement ensures that at the end of the season the players as a whole are receiving 50% of the total revenue generated by the league. The owners receive the other 50%.
In 2013, when Kovalchuk left the Devils, it was unclear how some of the features of the new CBA would affect players, and one of the critical unknowns was the escrow agreement.
Kovalchuk’s four-year agreement with SKA St. Petersburg was reportedly worth $4.4 million per season, or a total of $17.6 million over the life of the contract.
His KHL salary was less than he would have earned annually if he had remained with the Devils. But he ended up leaving even more money on the table than that in those four years.
The Devils agreement would’ve paid Kovalchuk $11.3 million in both 2013-14 and 2014-15, $11.6 million in 2015-16 and $11.8 million in 2016-17, for a total of $46 million. Players in the NHL are subject to a variety of taxes and fees, including state and federal income taxes, a “jock” tax, agent fees and the escrow agreement. New Jersey, at the time of Kovalchuk’s departure, had an income tax rate (combined state and federal) of about 49%. NHL players are also subject to a “jock” tax, where local jurisdictions impose taxes on the income generated by away games. Assuming that Kovalchuk would have been subject to a total tax rate of about 53%, he still would have made $21.6 million over those four years if he had remained in the NHL.
On top of these taxes, Kovalchuk would have had to pay 3% to his agent. In addition, he would’ve been subject to the escrow agreement, which traditionally has been 15% of the total salary. But in most years a portion of the escrow payment is returned to the players.
After all of the taxes, agent fees and escrow payments, Kovalchuk would have made around $17 million over the four years of his Devils contract.
After reviewing the taxes, it’s easy to see why the KHL, with its 13% tax rate, was an appealing option. However, salaries in the KHL are paid in Russian rubles. The Russian economy has been turbulent over the last five years, causing uncertainty in the value of the currency. The chart below shows how the ruble fared next to the U.S. dollar over the previous five seasons.[/vc_column_text][vc_single_image image=”6010″ img_size=”large” alignment=”center”][/vc_column][/vc_row][vc_row equal_height=”yes” content_placement=”middle”][vc_column][vc_column_text]Over the life of Kovalchuk’s KHL contract, the ruble has drastically fallen in value. The KHL deal he signed in 2013, which looked to be for $17.6 million, ultimately failed to reach that value. After taxes and agent fees, Kovalchuk’s agreement would be valued around $13.5 million for the star player. That is about $3.5 million less than the Devils contract would have been worth.
It is interesting to think about the stated reasons that Kovalchuk left for Russia, mainly the escrow requirement and U.S. taxes. Today the escrow requirement is still in place, and while the new tax laws have slightly reduced federal taxes owed by the players, some states still have a high tax rate.
Kovalchuk’s most recent contract with the Kings will make him subject to one of the highest state tax rates. It’s interesting that he made this choice over the Vegas Golden Knights, who are based in a state that does not have an income tax. Ultimately it might be non-financial reasons that influenced his decision to leave and his decision to return. Kovalchuk’s desire to win a Stanley Cup and join the exclusive Triple Gold club could be the real driving force behind his move to Hollywood.[/vc_column_text][/vc_column][/vc_row]