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The Bucks' Dilemma: All About the Luxury Tax (Chapter 1)

Regular readers can probably guess what the title of this post is alluding to, but with the trade deadline just a week away I figured it might be helpful to sketch out the Bucks' current salary situation and how that will impact what happens between now and the 19th.

Especially given the recent play of restricted free agents-to-be Ramon Sessions and Charlie Villanueva, the simple reality is that the Bucks can't keep the current team together without exceeding the luxury tax.  With salary deadweight like Dan Gadzuric around, that means John Hammond and company effectively can only choose two of Sessions, Villanueva, and Jefferson--assuming of course that RJ can even be traded for enough expiring salary to allow Sessions and CV to be re-signed.  Given Jefferson's age and relative value (ie solid production but huge salary), I'd say the choice should be fairly obvious for a reasonably young team like the Bucks.

Which is why it's no surprise to hear John Canzano of the Oregonian mention a rumor that the Bucks and Blazers could be talking about a deal to send Luke Ridnour and Richard Jefferson to Portland for Raef LaFrentz's expiring deal, combo forward Travis Outlaw, backup PG Sergio Rodriguez, and some sort of draft pick.

While the Bucks would take a major hit in the talent department, they'd clear $15.5 million off their 09/10 cap number and have plenty of leeway to re-sign both Sessions and Villanueva.  They'd also have at least the MLE to work with in free agency, depending on whether they cut Outlaw, whose $3.6 million next year is unguaranteed if cut by June 30.  But don't hold your breath--the Blazers don't have the same incentive to make a deal and will likely wait until deadline day before they make a final decision.

With posts like this I normally end up taking three days to make them way too long, so instead I'll break it up into a few different pieces.  Today's topic is mostly a stage-setter:

The 800 pound gorilla in the room: The 09/10 luxury tax level. 

At some point in recent months I've probably used the term "cap space" in referencing the Bucks' need to shed salary before the deadline.  But let's be clear: with about $70 million on the payroll this season, the Bucks are well over the $58.68 million salary cap for 08/09 and just barely under the $71.15 million luxury tax threshold. But it's not this year which is the concern--it's whether the Bucks can stay under whatever the tax level is next year given they have $64.412 million committed to 10 players without including Sessions and Villanueva.  So while cap space usually means clearing enough room to sign free agents for more than the MLE, if you hear it used around Milwaukee it's all about staying under the tax through 2010. 

We won't know what the tax actually is until the second week in July, when the NBA moratorium ends and the cap, tax, MLE, etc are set for 09/10.  Because those numbers depend on the NBA's revenues this year, we're left to speculate in the meantime about where the number might end up.  The tax has risen an average of 4.9% the past three seasons, including a jump from $67.865 million in 07/08 to $71.15 million this year.  But despite great TV ratings (which probably can't be directly monetized until the next TV deal) and the growing popularity of the NBA outside North America, it seems like the safest bet is to think the tax will stay about where it is.  It could be lower, it could be slightly higher, but no one knows for sure.

Why is the tax a big deal?  Well, given a) teams can use Bird rights and other exceptions to go over the actual cap and b) there's a significant incentive to stay below the tax threshold, it's the tax level which has become the effective line in the budgetary sand for the majority of NBA teams. Given the way teams have thrown money at mediocre players in recent years, it might seem a bit odd that the tax itself is considered such a scary thing, but the reality is it's become a binding budget constraint for many teams.  As expected that once again includes the Bucks, as GAD suggested on RealGM this week.

Hitting the tax level matters for two reasons.  First, any salary above the threshold is taxed at 100%, so a team exactly at the tax that signs a player for $4 million is in marginal terms paying $8 million for his services.  Secondly, hitting the tax means you don't get your 1/30th share of the total tax revenues.  Last year that amounted to just over $3 million per team, which is a big deal considering the purported losses many teams are incurring during the current recession.  That said, it's worth noting that if no one went over the threshold the cost of breaching it would go down--afterall, the 1/30th share wouldn't be worth anything if the total tax revenue was zero. 

The challenge: clearing salary for 09/10

Luxury tax payments aren't calculated until the end of a season, so in theory the Bucks could go over the tax threshold this summer and then make deals during the season to get back under it by April 2010.  But that isn't exactly easy, and usually requires sacrificing valuable assets.

For instance, Denver got back under the threshold through a series of deals, among them the Marcus Camby trade.  But even giving away a good player is difficult, because most teams don't have the cap space to absorb contracts without sending salary in return.  Teams over the cap (which includes almost all of them) can't receive more than 125% of the salary they send out plus $100,000, so doing a deal usually requires rough matching of salary.

So how do you clear salary?  There are only a limited number of ways to do it:

1) Acquire expiring contracts before the trade deadline.  The Blazers' Raef LaFrentz is currently a very popular man, despite earning a ludricrous $12.7 million for not a single minute of action this season.  Why?  Since he's already missed 41 straight games through injury, insurance is paying 80% of his remaining salary and it comes off the books this summer.  But to get the benefit of his expiring deal, the Blazers need to trade him before the deadline. While teams will once again be able to trade when their seasons end, expiring contracts can't be traded at that point.  So for the Blazers to cash in on the huge cap value that LaFrentz's deal offers, they need to do something very soon.

The flip side is a team like the Bucks, which needs to get expiring deals for salary-shedding reasons.  They won't be able to acquire contracts expiring  this summer after next Thursday, so the pressure is also on to do something now.  That's also why Damon Jones' expiring deal doesn't do them much good--they need more of those expiring deals, not less of them.  And in a season where many teams are worrying about their bottom lines, it looks like there will be more buyers than sellers of expiring contracts.

2) Trade first round draft picks for cash or future considerations.  No fan likes to see their team do this, but it's an easy way to save money.  First rounders have guaranteed contracts based on where they're selected, and count against the cap even before they sign.  But unsigned picks have zero cap value in trades--so if you're worried about your 09/10 salary, you can easily dump your 2009 first rounder for a future pick (in essence deferring payment) or simply sell it for cash (up to $3 million).  Portland effectively bought Rudy Fernandez from the Suns using that tactic, so it's not exactly something teams want to get into the habit of doing.  But if the Bucks can't do anything between now and Friday, they may find themselves forced to sell their pick as well.

Alternatively, teams can use their future picks to dump undesirable contracts.  Because the Bucks might otherwise have to give the pick away anyway, I'd think long and hard about sending Gadzuric and a top-five protected first to OKC for Chris Wilcox's expiring deal.  Unfortunately, I'm not sure there's anyway to get rid of Gadzuric unless you're giving up even more.

3) Play within the parameters of the trade limitations.  Any team that's barely over the tax should be able to get under simply by making a small trade here or there.  The key is taking advantage of the leeway in the CBA.  For instance, if you are $1 million over the tax and have a $5 million player you don't mind losing, you can get under by trading him for someone making ($5 million - $100,000)/125% = $3.92 million.  That works even if both teams are over the cap, and the team gets rid of $1.08 million.

Still, it's tough to clear large amounts of space this way.  If you're $5 million over the tax, then you'd need to involve some very big contracts to use this method.  For instance, Mike Redd will make $17.04 million next year, but even if you found a deal for contracts worth $13.552 million--the absolute minimum another team could trade for Redd while being over the cap--then you'd only be saving $3.49 million.

4) Find a team with cap space or a trade exception.  Teams with cap space can take back more salary than they ship out, which is convenient for teams looking to ditch salary.  But generally speaking, this is only an option if you're willing to give something away for nothing, like when the Nuggets handed Marcus Camby to the Clips for the mere right to swap second rounders.  No one is going to take Dan Gadzuric and his bad contract for nothing, though.  Trade exceptions can work similar to cap space, in that they allow a team to take back more salary then they'd otherwise be allowed to. 

5) Don't sign anyone else for more than the minimum.  OK, so this is kind of what the Bucks are trying to avoid--having to let Sessions/CV walk simply because they don't want to hit the tax.  But in some cases the best move is letting a guy walk for nothing--look at Detroit when they said no thanks to Ben Wallace.  That was also true when the Bucks gave Gadzuric his $36 million deal in 2005.  Whoops.

This is especially worth keeping in mind with Villanueva, who has been excellent for the past month or so but has otherwise been offensively inconsistent and defensively terrible.  Given the current recession, I'm not sure any team will be willing to throw a ton of free agent dollars his way this summer, but it only takes one overly optimistic GM to mess things up.