Nearly 7-figures of W2 income, how to avoid taxes?

[napoleondynamite]

I am a non-partner in my practice and receive close to 7 figures of W2 income annually. This is a relatively recent significant change after leaving academics for a pp opportunity. I'm just unsure how to manage that income and minimize my tax liability. Any advice?

I contribute maximum to my employer-matched 401k. I do the Roth for my wife and myself. Both my wife and I have a small amount of 1099 income with side hustles. Our 1099 income is pretty easily deducted down to $0 after expenses.

I've considered changing my relationship with my practice to 1099 instead of W2, but they aren't real open to that idea. I could probably push harder to make it happen, but my accountant also made it sound like I'd only maybe save a few grand a year and have a much bigger paperwork job, which I'm not sure is worth it.

I'm not a partner by choice. My practice has more debt than I'm comfortable with and there would be more work involved than I'm interested in..I got out of academics for a reason!

Anyway, I'm probably just stuck paying the piper, but with all the smart people on here, thought I'd put myself out for advice.

[Lithium]

1) Max out HSA's for you and your wife

2) Move to a no-income tax state

3) Work less

4) Increase charitable contributions, perhaps through a DAF so as to facilitate #5

5) Change asset location to minimize taxes

6) Paying off mortgage may or may not be a good idea.  I assume you are subject to the Pease limitations and will lose up to 80% of your itemized deductions.

7) Use a Mega Backdoor Roth IRA if your 401(k) custodian allows it

I am just a W2 employee so not an expert in 1099 taxes.  Sounds like you make too much to take advantage of lower pass-through rates.  An S-Corp would save Medicare taxes but many of the experts here say it usually isn't worth it.  What is the annual total of your contribution and your employer match?  You should be able to put up to 55k in a Solo 401k in 2018.

 

[napoleondynamite]

Thanks for the response!

1) we do max out HSA - we have 5 kids. My understanding is I can only do $6,750 annually for the whole family.

2) we're blessed with no state income tax already

3) good idea!

4 & 5) I have no idea what this means. Lots to learn..

6) we rent

7) I'll have to look into that for sure!

Man, would be a game changer if I could contribute $55k in a solo 401k! Wouldn't that have to come from 1099 income or is there a way to use W2? My employer sponsored plan allows $18k annually with a 100% match.

[Zaphod]

If you could move to 1099 you could not only get the 55k but could also get a cash balance plan and depending on your retirement date chosen could push large sums through it.

[ENT Doc]

You would also be blessed with having to pay both the employer and employee portions of your Social Security and Medicare taxes if you moved to 1099 income. You'd need a 7.65% pay bump to make this worthwhile, all else equal.

[q-school]

congrats!

 

[Lithium]

Optimal asset location basically means buying the most tax-efficient funds in the taxable account.

https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

That's a decent rough guide, but overgeneralizes a bit.  To me, Rule # 1 is not to buy taxable bonds in a taxable account (munis are fine).  Rule # 2 is not to buy REITs there (Roth IRA is probably the best place).  Rule # 3 for me is if you TLH, buy emerging markets in taxable, due to their volatility.

Any other changes you enact will make a modest difference.  If you breakdown each part of your portfolio, I (and probably others) can let you know if I have any feedback.

[Hank]

ENT Doc wrote:

You would also be blessed with having to pay both the employer and employee portions of your Social Security and Medicare taxes if you moved to 1099 income. You’d need a 7.65% pay bump to make this worthwhile, all else equal.

Click to expand...

You only pay Social Security tax of 6.2% up to the social security maximum taxable income ($128,400 next year). You pay the employer’s share of Medicare tax (1.45%) on all income.

At a million dollars of W-2 income, that’s $22,460.80, or a little less than 2.25% for the employer’s share.

I’d cheerfully take a 2.25% hit in order to get access to a defined benefit plan, run expenses against the 1099 income, etc.

Misclassifying employees as contractors is a pretty high visibility item right now. If the employer isn’t willing to make you a 1099, then at least see if they can get the 401(k) to allow after tax employee contributions and in-service withdrawals of the same. This would benefit the partners and other highly productive, highly compensated specialists.

[jfoxcpacfp]

Working as an employee can be a great benefit for you. As a partner, you would be disqualified from opening a second 401k with IC income. If it is possible, you should try to decrease your wages for your current employe (“work less” as recommended above) and replace it with IC work for that amount. By doing so, you will be allowed to fill out a second 401k and also set up a DB (Defined Benefit) plan. This could potentially allow you to reduce your taxable income by a couple hundred thousand $$’s per year.

If that is possible, remember the priorities of amassing wealth:

1. Make as much as possible (given your long-term plan and goals), and


2. Pay as little tax as possible on the wealth you are building.

You can always pay less taxes by working less or asking for a cut in pay   but that is not necessarily the logical choice. if your qualify of life is suffering, then, yes, by all means work less - NOT to pay lower taxes but for a better QOL. If your long-term goal is to retire early and you have a plan in place to get there by working the current schedule, then by all means do so and minimize your tax burden wherever possible. A great CPA and fee-only planner could make a huge difference to you.

[hightower]

I have no idea what you can do to lower your tax burden.  Probably not much.

I say count your blessings, keep earning the 7 figures as you do now and build your taxable account to an extreme amount.  You'll be 8 figures in no time.  You are winning the game every year you stay in practice.

[G]

My initial thought was to underpay/non-pay taxes, cash out into a bunch of gold and flee to a non-extradition country, maybe North Korea?  The suggestions above are probably more reasonable, certainly more legal...but ultimately, there isn't much you can do.  At least it looks like you'll have a win with the new brackets!

[janettebournes]

jfoxcpacfp wrote:

A great CPA and fee-only planner could make a huge difference to you.

Click to expand...

How true is this?

 

I can understand the benefit of a great fee-only planner to arrange big picture items

 

What would be the advantage of a CPA for someone locked into a W2 pay structure?

[Wiscoblue]

Just pay the taxes. Live a simple life. Save a bunch of money. Retire early.

[jfoxcpacfp]

janettebournes wrote:

jfoxcpacfp wrote:

A great CPA and fee-only planner could make a huge difference to you.

Click to expand…

How true is this?

I can understand the benefit of a great fee-only planner to arrange big picture items

What would be the advantage of a CPA for someone locked into a W2 pay structure?

Click to expand...

Very little, if any, benefit that I can see for a CPA to help with a simple W2 pay structure (unless rental properties and schedule A deductions are part of the equation), sorry for any confusion. I meant my comment to be in context of planning for IC income and related deductions/retirement plans available, combined with work reduction at current job, per the suggestion in my response.

[Mitotic catastrophe]

I have very similar situation to original poster.

- I currently do traditional (pre-tax) 401k contribution to max and get safe harbor contribution.

- I do back-door Roth IRA for myself and spouse.

- I then put the remainder of retirement savings in taxable brokerage account at Vanguard (all passive index ETFs).

I have considered changing 401k contributions to 50-100% Roth. I am in the 39.6% bracket (soon to be 37%) so I understand this would go against conventional wisdom. But if Roth Money is more valuable (taxes already paid), it seems like I am then maximizing my ability to have money in my limited tax-deferred space, and I can "afford" the upfront tax hit now (not going to effect my monthly cash flow significantly) as I already save a large percentage of income for retirement, 529, short-intermediate term savings for home projects/cars/etc.

Any thoughts on doing some of 401k contribution as Roth?