Competitive Balance Tax

Definition

Each year, clubs that exceed a predetermined payroll threshold are subject to a Competitive Balance Tax -- which is commonly referred to as a "luxury tax." Those who carry payrolls above that threshold are taxed on each dollar above the threshold, with the tax rate increasing based on the number of consecutive years a club has exceeded the threshold.

A team's Competitive Balance Tax figure is determined using the average annual value of each player's contract on the 40-man roster, plus any additional player benefits. Every team's final CBT figure is calculated at the end of each season. (Note: If a player signs a contract extension that doesn't kick in until a later season, his AAV for the purposes of the CBT doesn't change until the new deal begins.)

The following thresholds were put in place per the 2022-26 collective bargaining agreement:

2022: $230 million

2023: $233 million

2024: $237 million

2025: $241 million

2026: $244 million

A club that exceeds the Competitive Balance Tax threshold is subject to an increasing tax rate depending on how many consecutive years it has done so.

First year: 20 percent tax on all overages

Second consecutive year: 30 percent

Third consecutive year or more: 50 percent

If a club dips below the luxury tax threshold for a season, the penalty level is reset. So, a club that exceeds the threshold for two straight seasons but then drops below that level would be back at 20 percent the next time it exceeds the threshold.

There’s also a surcharge threshold for clubs that exceed the base threshold by $20 million or more.

$20 million to $40 million: 12 percent surcharge

$40 million to $60 million: 42.5 percent surcharge for first year; 45 percent for each consecutive year after that

$60 million or more: 60 percent surcharge

Clubs that are $40 million or more above the threshold shall have their highest selection in the next Rule 4 Draft moved back 10 places unless the pick falls in the top six. In that case, the team will have its second-highest selection moved back 10 places instead.