Tax strategy is the master wealth skill, which can possibly make the difference between getting by and getting rich. Smart tax tends to be the least appreciated wealth skill, and many consumers seem to downplay the value of searching for and paying for this expertise.
Don’t make the mistake of making the chore of getting taxes done more like dry-cleaning than the incredibly complicated master-art it really is when practiced well. Don’t just drop your taxes off and get them “done” cheap!
Better yet seek out the rare true masters, and don’t be resistant to paying for quality advice. This advice is usually not cheap, but is often one of the very best investments you can make, with tax savings typically many, many times the cost of the advice.
More than in any other profession I’ve seen – law, medicine, engineering, academia – I have found that true experts are extremely rare, and so outnumbered by the legions of barely-competent, “you gotta pay your tax” software-junkie button pushers as to be nigh-impossible to find.
Like financial advisors, it is very difficult for even very smart consumers to tell the difference between truly excellent tax practitioners, and those who merely smile winningly and look good in a suit, or golf shirt.
This sad state, coupled with the dry-cleaning mentality of most consumers, means that vast sums of family wealth are typically lost to legitimately avoidable taxation.
I have trotted this soapbox out, of course, for a reason. While we have enjoyed some modest tax reduction in the late twenty-teens, I am utterly convinced this is a brief holiday only, and that taxes will rise with a vengeance for the rest of your lives, and those of your children’s, too. If you don’t watch out, they will choke your family’s wealth.
It is never pleasant to pay taxes. Taxes have been called acid to wealth, and are one of the biggest impediments to achieving one’s financial goals. They can be particularly nettlesome for high income earners who are subject to a higher tax bracket, and whose elevated levels of taxable income convert wealth that could have flowed into a savings account or other investment medium into tax dollars that are often lost forever.
Often, basic advice to reduce income taxes includes making 401k contributions or creating a tax deduction using another sort of retirement account or retirement plan. Unfortunately, such tax breaks are often subject to a contribution limit, such as where eligibility for IRA contributions can be lost entirely depending on adjusted gross income and other income limits.
Depending on the taxpayer fact pattern, even access to a simple IRA or to health savings accounts may offer only limited or even no relief.
The “tax reform” of 2018 created some big disruptions to the tax code and standby techniques many have come to rely on to control taxes. It has created some of the biggest modifications in a generation.
Beyond basic restructuring including the elimination of exemptions, there are more twists and reformations to the tax code than have been seen in quite some time. As mentioned, many tried and true tax tactics have gone the way of the condor, and if you – or your tax preparer – are not careful, the new tax “cuts” may wind up costing you big instead of reducing your taxes.
Astute tax strategy, always critical to wealth builders, should be especially well-considered going forward.
One constant in tax is change. The cheese keeps moving. It is therefore very helpful to remember that US tax policy and law is constantly evolving, a perpetual motion political football, catering to vote economics and various notions of social justice. It really is a minefield, and attentive taxpayers are advised to keep a regular lookout for techniques and opportunities that can help them.
Here’s a recap of some of the most important recent tax law changes:
Estate Tax. The estate tax free amount has been increased to $11,180,000 per person, double that for a married couple. It’s worth noting that the estate tax bar is now far higher than before, meaning only the richest families are exposed – at least in the short term. This should make fewer estates taxable, but watch out, as things can change rapidly. Unless extended, the exemptions drop back to the old level in 2026.
As mentioned, couples’ previous tax free amount – the exemption, or estate value under which no tax is imposed – has increased from $11,180,000 to $22,360,000 (unmarrieds get half these amounts). As mentioned, the lower old limits return in 2026, maybe sooner depending on the complexion of the next Federal government.
Even if you think you are comfortably under the taxable level now, investment success and estate growth may eventually put you there. It should be noted that this is an area where expensive advice often falls short. A good example is James “Tony Soprano” Gandalfini’s completely $30 million avoidable estate tax bill.
Miscellaneous Deductions Including Employee Business Expenses have been pretty much eliminated. Employees – as contrasted to independent contractors and business owners – have traditionally been shortchanged on write-offs.
What little there was is now gone, and W2 folks now have no write offs related to business.
Also gone are moving expenses, brokerage, IRA and investment advisory fees, post tax-reform alimony, and most casualty losses. If you are affected by these categories, your taxes could be going up.
Itemized Deductions & Exemptions: The standard deduction has been effectively doubled. This really affects the choice of whether to itemize items like charitable contributions, home mortgage interest, etc.
Complicating the problem, personal exemptions have been eliminated. Exemptions were effectively a “free” deduction based on the size of a taxpayer’s eligible family, and were available whether you itemized deductions or not.
Charitable deductions are now a bit more generous, but deductions for state and local taxes have been reduced, with a $10,000 cap on the total of deductions for income taxes, real estate taxes, and sales taxes now in place.
Capital Gains Tax Rates have not changed. The brackets stay at 0%, 15%, and 20% The net investment income tax continues to apply where indicated, and adds 3.8%. Capital gains rates are a function of your ordinary income rates, so if you have a lot of other income and are in a higher bracket, your capital gains rate will likely be higher.
The so-called “kiddie” tax has become more onerous. Trust tax brackets now go up faster, so income attributable to kids will get taxed at steeper and faster rates than the case for their parents.
IRA/ROTH conversion has become more dicey. Since lower stock prices mean more shares converted for a given tax cost, getting the timing right on conversions can save a bunch of tax.
Up until now, taxpayers could get do-overs if better conditions appears, since conversions could be undone up until October 15th of the next tax year. Now, we get one shot that can’t be undone. These “recharacterizations” have been forbidden, raising the stakes on getting the conversions right
Business Taxes have been fundamentally changed. C-corps get a big drop in top rates, from 35% to a flat 21%. Corporate AMT has been eliminated. Depreciation limits have been extended, and the Section 179 limit has been raised to $1M. The total spending cap grows to $2.5M for equipment.
Lots of trusty breaks shrink or go poof and they are too numerous to expand on here. If you have a business this is a really, really good time to do a deep dive on optimal applicable tax strategy, with someone who knows what they are doing!
Net operating loss (NOL) carrybacks are now eliminated, and NOLs can now offset only 80% of current or future earnings, effectively forcing some tax to be paid even where a company remains in a net loss position.
For many business owners, the big prize may be the new “qualified business income” (QBI) rules. These apply to partnerships, S-corps, and Schedule C sole proprietorships (as well as their LLC analogs). They also apply to shareholders in RIETs and owners of publicly traded partnerships like MLPs.
The big “news” is the “deduction” of 20% of (generally) operating profits. In other words, only 80% (generally) of profits is now taxable, with the other 20% essentially tax free, on top of reduced tax bracket rates.
But WARNING, dear business owner taxpayer! These new rules are described by Internal Revenue Code section (199A), which is quite complex and subject to deft interpretation. All manner of pitfalls await the unprepared taxpayer and his or her uninformed preparer. Big savings await, but if you are not careful or well-advised, the pitfalls can generate tons of otherwise avoidable tax. Again, be sure to get competent and expert advice!
Given the complexity and broadness of the new tax rules, it’s a good bet that many tax advisors are not as knowledgeable as you (or they) might think. The estate tax and QBI rules can be particularly challenging and error prone.
As I have said many times before, I call tax the “master wealth skill” – the cutting edge of wealth leadership – because the stakes to grow or bleed wealth are perhaps higher for tax than any other area.
For a deep-dive, detailed report I have written on advanced tax strategy called The Nine Big Tax Mistakes and How to Avoid Them please click here.