What is the Luxury Tax, and Why Should I Care?

A breakdown of what MLB's Luxury Tax is and how it works.

In 1994, the owners of Major League Baseball teams wanted to institute a league-wide salary cap for players, similar to those of their sibling owners in the NBA, NFL, and NHL. The players hated this idea so much that they went on strike. In 1996, MLB owners compromised with players and created the Competitive Balance Tax (CBT), nicknamed the Luxury Tax. The rules surrounding the Luxury Tax have changed over the last 28 years, and they continue to play a pivotal role when it comes to how a team is assembled in the offseason. This is your go-to page for whenever I mention the Luxury Tax or CBT Thresholds or you’ve read news about the Tax elsewhere and want to gain a basic understanding.

As the Luxury Tax is structured currently, there is what’s called the CBT Threshold. This is the financial line in the sand drawn by MLB owners and the Players’ Union. If your team’s player payroll is under the threshold, there’s no tax to pay. The threshold also increases every year. For the 2024 season, the CBT Threshold was $237 million. For the 2025 season, the threshold increases to $241 million. So, what happens when your team’s player payroll exceeds the CBT Threshold?

If a team exceeds the CBT Threshold, and this is the first time they’ve done so, then they will owe a 20% tax on all overages. Say the Red Sox spend $250 million on their payroll in 2025. They will owe taxes on the $9 million they spent over $241 million.

The second consecutive time a team goes over the threshold, the tax increases to 30%.

For the third violation (and beyond) of the threshold, the tax jumps to 50%.

To “reset” this portion of the Luxury Tax, a team has to be below the CBT Threshold for a season.

The Luxury Tax also includes an additional surcharge for violating the CBT Threshold by certain amounts. Exceeding the threshold by between $20 million and $40 million results in a 12% surcharge on every dollar after the $20 million.

If the team exceeds the threshold within the range of $40 to $60 million, they face a tax of 42.5%, and if it happens again the following year, the overages are taxed at 45%. A team that exceeds the threshold by $40 million also sees their spot in the first round of the draft kicked back ten places.

Finally, if a team somehow manages to spend $60 million or more over the threshold, they will be taxed at 60%.

Now that you’ve been overwhelmed by multi-million dollar payrolls and percentages and whatnot, what does this actually mean for baseball? Well, it can give some fans a sense of how flexible their team is financially and, therefore, how willing they might be to spend on players in the market. For example, the Red Sox have been under the CBT Threshold for the last two seasons and now have an estimated $63 million to spend before they hit it again in 2025.

By contrast, the AL Champion Yankees just finished their third straight season over the CBT Threshold, with a payroll of $314.8 million. By going roughly $77.8 million over, the Bronx Bombers’ Luxury Tax is projected to be in the range of $60 million. And given that their payroll for 2025 is already projected to be $237 million, that raises serious questions about the team’s ability to spend this offseason.

It’s a lot of information, but hopefully, the Luxury Tax makes some more sense to you. Be on the lookout for which teams are in a position to pay the Luxury Tax, and which teams might need to reign in their spending. It won’t tell you who’s going to win the World Series, but information like this can serve as a forecast for things to come.

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