Strategies used for those in high-marginal tax brackets

[PenguinMD]

As I was doing our taxes and realizing we're nearly hitting the highest marginal tax bracket (ack!!!), I had a feeling we're doing something wrong. I started thinking maybe I should get a second opinion and seek a professional (like calling in the consult -- stat!) either a Financial Advisor or Tax Planner but then it dawn on me these forums are also a great resource and can crowdsource ideas from people who ACTUALLY are executing the strategies and not from someone who's merely been on the sidelines.

So for those that are at the high marginal tax brackets love to know what you're doing to minimize the tax bite.

So things we're doing now:
1) huge mortgage that gives us max benefit (actually because of the high income this benefit gets reduced -- I stepped through the actual form and found where and how it gets income capped out --- argh!)
2) allocate asset classes optimally so they are tax efficient
3) instead of being hit with 1099-INT income streams which gets taxed as ordinary been doing tax exempt munis for both state and fed (plus excluded from the dreaded 3.8% NIIT)
4) for any independent stock, be a long-term guy so can get long term capital gain tax and also qualified dividends treatment
5) exploring other "alternative" investment classes that get favorable tax treatment like crowdsource investment which allow passive pass-through k-1s deductions to offset passive income
6) max 401k contributions (all non-Roth 401k, experimented with contributing to a Roth 401k before cause at the time couldn't do clean backdoors but soon realized due to our high tax bracket status that wasn't a good strategy)
7) max backdoor Roth contributions
7) deferred compensation -- just got this available this year so be interested how it plays out
8) try to enjoy life more and actually TAKE PTO vs the cash payout
9) donate to charity which gives some tax deductions

Our main issue is we're dual income that's all w2, no interest is trying to go independent/contractor. I'm open to exploring creative ways to open some side business for additional possible write-offs but initial research is unless it becomes pretty sizable the hassle may not be worth any benefit plus have full-time jobs with a two-year old chewing up all our time .

Love to hear other ideas from folks in similar situation and what has been successful and not so successful!

Thanks!

[G]

I've gone through the stages of grieving and have come to acceptance.  I pay a boatload in taxes, even with a bunch of tricks.  Plus, my effective tax rate is steadily rising each year thanks to a combination of more taxes and increasing income.  I would hear about tax rates in the teens, or look at Jim's numbers and wonder how in the heck his were so low.  Well, now his income has caught up since he became partner (and apparently far surpassed with the blog) and his tax rate is more in line with my reality.

Not to nitpick, but you realize that your points 1 and 9 might lower your taxes but they do not increase your wealth.

A side-gig will help you a lot with tax sheltering, but as you point out, it is a hassle on top of two full-time jobs (your regular job and raising a toddler).  My estimate/research is that the hassle-factor hits the break-even point at $50k.  Not worth it to me.  Obviously, to each his own.

Phil Demuth has a new-ish tax book that I can recommend.  I also always recommend his Affluent Investor book--this is one that is worth buying (my strongest endorsement).

[VagabondMD]

The problem is that you make too much money. Work less, smile more (slightly modified from Hamilton).

[PhysicianOnFIRE]

I'll lend my voice to the echo chamber. You clearly understand the tax code and appear to be doing all the right things.

The easiest way to pay less in taxes is to lower your taxable income. Working less and donating more are the best ways to do that, but of course, those aren't wealth building strategies. Moving to a low-tax or no-tax state would also help, but I doubt you want to do that. I moved from a no-tax state to a high tax state and I'm now paying nearly $30,000 in state income tax, a $30,000 increase in my annual tax bill. Thanks to the AMT, I don't even get to deduct it.

But I'm happy here, so I pay it and feel fortunate to be in a position to shrug it off.

[DMFA]

1. What's the cap on the mortgage you can deduct?  Isn't it only interest on $1,000,000 worth of mortgage?  So if you paid interest on $1,500,000 worth, you'd only get to deduct 2/3 of your interest, right?


2. Obv


3. Echo #2


4. Yeah, or choose growth stocks which pay fewer dividends (as is done in "tax-managed" funds like VTMFX)


5. Good call, stuff that's not "earned" income


6. Yeah, it's tough to imagine a better tax break than 39.6% (plus any add'l state benefit)


7. Obv, and HSA, and yeah, idk much about DCPs or DBPs but every tax-deferred account you can get is prob beneficial, esp at 39.6% (see #6)


8. Enjoy life?  Was ist das?  Oh right, heli-skiing etc


9. Yeah, you still "lose" 60% of the money you donated, but you helped out some folks and maybe got your name put on something.  Also consider a donor-advised fund.

[RJ]

"3) instead of being hit with 1099-INT income streams which gets taxed as ordinary been doing tax exempt munis for both state and fed (plus excluded from the dreaded 3.8% NIIT)"

OP, how exactly do you invest in these? Vanguard funds? TIA!

[Complete_newbie]

RJ wrote:

“3) instead of being hit with 1099-INT income streams which gets taxed as ordinary been doing tax exempt munis for both state and fed (plus excluded from the dreaded 3.8% NIIT)”

OP, how exactly do you invest in these? Vanguard funds? TIA!

Click to expand...

My guess is its his P2P/crowdlending lending portfolio.

[PenguinMD]

For the mortgage deduction it is an overall loan amount of $1M for the first house that's the cap but it's not only that, there's ALSO an overall income phase outs that limits your itemized deduction. You can see it in one the tables where they calculate all your itemized deduction and then there's a big line which cuts that amount down (painfully) based on your AGI. ...

The mortgage is helping us build equity so still consider it wealth building . We lucked out, our rate is 3.6% (30Y fix) and since we purchased the local housing market appreciated already 30% so can't really complain.

Yeah maybe at the end of the day bring too greedy .

But it does put things in perspective for instance that extra night shift isn't really $1k extra cash it's only half of that, so at $500 is really worth it?

I've also come to the realization that since it's all W2 the extra hours I spend doing extra work toner that bonus isn't worth much cause it's at the top layer of the tax cake, instead my time is better working on things myself that could have greater benefit like reading forums and getting additional income and tax strategies .

Hmmm... so so far didn't really hear any new ideas or what else to try and didn't really hear any calls to arm saying "oh it's time for you to consult a specialist: aka tax planner or a financial analyst".

If anything it's more enjoy your spoils cause you're already winning the game.

It's such a first world problem to complain that we're paying too much tax !

Guess on the plus side I should have some comfort that I'm not doing to bad on my own.

[PenguinMD]

P2P (aka lending club and prosper) gets taxed as ordinary so they aren't that great of deal if you're at a high tax bracket. Plus the tax paper work is a real pain to enter all the charge-off and collections as the default rates have been increasing over the years. I'm slowly draining my account out and only have a small Roth account I use to invest with LendingClub, with Roth don't need to worry about any of those tax forms but of course you can't write off any of the charge-offs/defaults which I've noticed are coming in more frequently.

Alternatively, been looking into equity crowdfunding real estate investing and startups which is usually an LLC which issues k-1s which allows similar tax deductions just as you would do if I went and bought a property and deduct the investments to offset the rental income -- same idea. I just don't want to physically go drop $400k on a property and do all the property management (I know people can be real successful but not my cup of tea) instead I spread the same amount across several different geographies, asset classes and risk profiles (apartments, hotels, office, retail). So far been good although the reality of the returns aren't nearly as great as the sponsors' forecast (usually 1-2% off target) but still happy.

Note this needs to be equity and NOT debt, debt still gets taxed at ordinary income tax so not helping much to reduce tax burden.

Oh the startups are pure speculation so you don't want to be using the mortgage payment money for those . For those it's usually just long-term tax treatment as the hold periods are typically long -- 5 to 7 years to NEVER EVER. Again, purely speculative and should be treated as such.

Yeah if I showed my investment portfolio to an FA probably flip out on all the stuff I'm doing .

The strategy I'm deploying is more Modern Portfolio Theory and the concept of efficient frontier by adding some super speculative stuff to my overall portfolio I can increase returns while balancing risk. At least what the literature says .

There's probably a reason why it's called a theory and may not be that smart to be betting my future life savings on it but makes sense to me so going with it .

[DMFA]

Oh right, the limitation of deductions if you're MFJ  with AGI > $311,300, IRS pub 17 ch 29.  That can be a pain in the ****************** and can reduce by 3 cents per dollar over $311,300, up to as much as 80% (for an earner with AGI $500,000, it reduces deductions by $5,661).

That's one more reason not to be a W-2 earner so as to be able to take business adjustments (and the 401k contributions from employer-you) to reduce the AGI.  Of course, then there's how AMT affects it.

[DarrVao777]

PenguinMD wrote:

As I was doing our taxes and realizing we’re nearly hitting the highest marginal tax bracket (ack!!!), I had a feeling we’re doing something wrong. I started thinking maybe I should get a second opinion and seek a professional (like calling in the consult — stat!) either a Financial Advisor or Tax Planner but then it dawn on me these forums are also a great resource and can crowdsource ideas from people who ACTUALLY are executing the strategies and not from someone who’s merely been on the sidelines.

So for those that are at the high marginal tax brackets love to know what you’re doing to minimize the tax bite.

So things we’re doing now:
1) huge mortgage that gives us max benefit (actually because of the high income this benefit gets reduced — I stepped through the actual form and found where and how it gets income capped out — argh!)
2) allocate asset classes optimally so they are tax efficient
3) instead of being hit with 1099-INT income streams which gets taxed as ordinary been doing tax exempt munis for both state and fed (plus excluded from the dreaded 3.8% NIIT)
4) for any independent stock, be a long-term guy so can get long term capital gain tax and also qualified dividends treatment
5) exploring other “alternative” investment classes that get favorable tax treatment like crowdsource investment which allow passive pass-through k-1s deductions to offset passive income
6) max 401k contributions (all non-Roth 401k, experimented with contributing to a Roth 401k before cause at the time couldn’t do clean backdoors but soon realized due to our high tax bracket status that wasn’t a good strategy)
7) max backdoor Roth contributions
7) deferred compensation — just got this available this year so be interested how it plays out
8) try to enjoy life more and actually TAKE PTO vs the cash payout
9) donate to charity which gives some tax deductions

Our main issue is we’re dual income that’s all w2, no interest is trying to go independent/contractor. I’m open to exploring creative ways to open some side business for additional possible write-offs but initial research is unless it becomes pretty sizable the hassle may not be worth any benefit plus have full-time jobs with a two-year old chewing up all our time .

Love to hear other ideas from folks in similar situation and what has been successful and not so successful!

Thanks!

Click to expand...

Great thread, I was just about to ask this question as I started going through my taxes this week and realized my effective tax rate % is now in the mid 30s. I've always done my taxes by myself but was wondering if it would be worthwhile now to get a CPA and a tax strategist. Still, we are also dual W2s with no interest in a sidegig either so I'm not sure what more we could do.

 

1) Small mortgage as a big home isn't something that would add to our happiness. About to be paid off anyway.

2) Agreed, we use a variant of the 3 fund portfolio to maximize tax efficiency

3) Agreed, we use tax-exempt munis in our taxable account

4) No independent stocks for us

5) No other alternative investment classes for us. We dabbled in real estate and rentals but the hassle wasn't worth it to me.

6) My wife uses a traditional 401K, I use a Roth 401K. We may revisit this as I realize this makes little sense for a couple in the highest bracket

7) No deferred compensation available

8) Trying to cut down on work but all in all, I'm already in a cushy lifestyle specialty. Work isn't tremendously stressful for me and thus far in my early career, I still enjoy what I do everyday

9) Increasing our donations to charity

10) We lease expensive vehicles and classify them under business use (commute is from home to home office. I participate in telemedicine via the home office. From home office to hospital and back is then business mileage and not commuting mileage). This definitely falls into the category of saving some on taxes (very little since there's the 2% floor for employees) but not increasing wealth. Still, we like driving those expensive cars with or without the tax break so might as well take advantage.

 

[The White Coat Investor]

As I rise through the tax brackets my taxes are getting very, very simple.

No personal exemptions or child tax credits.

Already paying too much tax to have to worry about AMT. That's really a middle bracket problem.

Phasing out of itemized deductions. I still get most of my federal ones, but I'm entirely phased out of my itemized deductions on my state taxes.

Retirement accounts, HSA, health insurance premiums are still the big bang for the buck. Take a careful look at a defined benefit/cash balance plan tacked on to your 401(k)/profit sharing plan.

Careful with investment taxes. Try to get your $3K worth of losses each year and try to not realize any gains. If you're into real estate investing you can shelter a fair amount of income with depreciation.

Good chance an S Corp will make sense for you.

There are actually a lot more tricks in the lower brackets to be honest. When you get very far into the top bracket you just write the check and be grateful for your first world problem.

 

[PenguinMD]

Interesting on the business expense. So is your home office just a room in the back of your home? So seems using some specific technicalities to claim business committing expense vs regular committing expense.

So using some real world numbers let's say total income $400k, the 2% rule gets you to $8k as the floor before you can deduct. So that means your lease + mileage needs to be above $666. So let's do you got expensive tastes and spending $1k/month for all costs.

In this scenario you'd be able deduct around $4k of it and let's say with state+fed you're at 46% so around $1.8k of less tax va not doing anything.

Not wealth building but if you're going to spend the money then finding a way to pay less tax even if it's small is good in my book!

Just wondering if this falls more into the "grey" area of taxes.

[DarrVao777]

PenguinMD wrote:

Interesting on the business expense. So is your home office just a room in the back of your home? So seems using some specific technicalities to claim business committing expense vs regular committing expense.

So using some real world numbers let’s say total income $400k, the 2% rule gets you to $8k as the floor before you can deduct. So that means your lease + mileage needs to be above $666. So let’s do you got expensive tastes and spending $1k/month for all costs.

In this scenario you’d be able deduct around $4k of it and let’s say with state+fed you’re at 46% so around $1.8k of less tax va not doing anything.

Not wealth building but if you’re going to spend the money then finding a way to pay less tax even if it’s small is good in my book!

Just wondering if this falls more into the “grey” area of taxes.

Click to expand...

Yes but telemedicine is a requirement for my employment (and I have documentation to support that)

Like you mentioned, it's not a huge deduction. I do have to keep 2 mileage logs and 2 folders of receipts since I'm using the actual expenses method.

I agree it's probably a "grey" area and would likely not be supported by a more conservative CPA (which was one of my hesitations anyway with looking into a CPA and/or tax strategist)

That being said, it looks like all my record-keeping will be for naught this year anyway as it looks like TurboTax is recommending that I just take the standard deduction and not itemize.

[VagabondMD]

The White Coat Investor wrote:

As I rise through the tax brackets my taxes are getting very, very simple.

No personal exemptions or child tax credits.

Already paying too much tax to have to worry about AMT. That’s really a middle bracket problem.

Phasing out of itemized deductions. I still get most of my federal ones, but I’m entirely phased out of my itemized deductions on my state taxes.

Retirement accounts, HSA, health insurance premiums are still the big bang for the buck. Take a careful look at a defined benefit/cash balance plan tacked on to your 401(k)/profit sharing plan.

Careful with investment taxes. Try to get your $3K worth of losses each year and try to not realize any gains. If you’re into real estate investing you can shelter a fair amount of income with depreciation.

Good chance an S Corp will make sense for you.

There are actually a lot more tricks in the lower brackets to be honest. When you get very far into the top bracket you just write the check and be grateful for your first world problem.

 

Click to expand...

I agree. I am not sure who said it first, but I first heard from Jim Cramer: "The only thing worse than paying taxes is not having to pay taxes."