One of the most common questions for earners of all income levels is how to reduce taxable income. Read on to learn more about tax reduction strategies for high income earners.
There is a common misconception that high income earners aren’t also looking for ways to save money and take charge of their financial future. In fact, nearly 50% of Americans making over $100,000 are living paycheck to paycheck.
While there are many things you can do to help cut expenses month to month, one of the areas that it helps to talk to a professional is when it comes to taxes. When you earn a higher income, you also usually pay a higher percentage of taxes, and understandably, the more money you make the more important it is to understand how that plays into your taxable income.
With that in mind, this guest article was written by Jennifer Hamilton, a CPA based in the Metro Atlanta area, who is sharing a few of her favorite income tax reduction strategies.
Note: Some links may be affiliate links. That means I may make a commission if you use my links to purchase, at no extra added cost to you! I only recommend products that I personally love and believe in. This article contains general suggestions only and your individual tax situation may be unique. This article is not tax advice. Always seek the counsel of your tax professional as the final authority on any of our ideas below. Full disclosure here.
How to Lower Taxable Income
Taxes can be complicated, especially as your income increases. While this article will cover my favorite tax reduction strategies for high income earners, it’s important that we start off by reinforcing how important it is to work with a skilled accountant when it comes to filing your own income taxes.
The right accountant can help you reduce the amount of income taxes you pay in a variety of ways, taking into account more than just your standard deduction and other deductions. We will just be covering a few of my favorite strategies, so be sure to also connect with a skilled attorney in your area to fully maximize your opportunities for reducing your taxable income as well as identifying additional tax deductible possibilities.
For the purposes of this article, we are defining “high-income earner” by anyone who falls in the top three tax brackets as a high-income earner. If you are a single earner who earns more than $170,050 in gross income or married and filing jointly and earn more than $340,100, you are a high-income earner.
With a combination of deductions, tax credits, and other contribution strategies, you can reduce your tax bill by reducing your taxable income. Here are a few of my favorite income tax reduction strategies for high earners.
5 Tax Reduction Strategies for High Income Earners
1. Max Out Retirement Contributions
This is one of the easiest places to start, as employer-based accounts allow you to easily lower your taxable income. These include accounts such as 401(k) and 403(b) accounts.
Each dollar you put into one of these account isn’t taxed until you withdraw the money from your account, which allows you to reduce your tax burden easily each year that you are actively contributing to one of these funds.
For the purposes of reducing your taxable income, you should aim to contribute the maximum amount to your retirement account. For 2022, that individual 401(k) annual contribution limit is $20,500, or $27,000 if you’re age 50 or older. For 2023, 401(k) contribution limits for individuals are $22,500, or $30,000 if you’re 50 or older.
2. Convert Your Traditional IRA to a Roth IRA
Roth IRAs are tax-free retirement accounts that can help you save money on your taxes by reducing your tax burden. However, unlike a traditional IRA, Roth IRA contributions are made from post-tax income, which means you pay taxes before you contribute, instead of when you withdraw.
Consider a Roth IRA conversion. You may convert an unlimited amount from your Traditional IRA to Roth IRA as often as you wish. Any income earned on the money in your Roth IRA is also tax-free.
3. Use a Health Savings Account
By contributing some of your income to a Health Savings Account (HSA), you can also save on your taxes. It’s important to note that you are only able to contribute to a HAS if you have selected a high-deductible health insurance plan.
For 2022, the maximum contributions are $3,650 for individuals or $7,300 for families, and you are also able to contribute an additional $1,000 if you are 55 or older. The money you put in your HSA is yours forever, unlike what you contribute to a Flexible Spending Account, which must be spent during the tax year.
Not only does this lower your taxable income, but you are able to use the money in your HAS for medical and dental expenses, over-the-counter medications and more. Be aware that if you use money in your HAS for non-qualified expenses, you will pay taxes on those withdrawals.
4. Pay Your Property Taxes Early
Currently, you may deduct up to $10,000 ($5,000 if married filing separately) for a combination of property taxes and either state and local income taxes or sales taxes.
Some states and counties offer discounts for paying property taxes early, which might be worthwhile if you haven’t already reached the maximum.
5. Establish a Donor-Advised Fund
While most people know that making charitable donations are a great way to get a tax deduction, many don’t know that by setting up a donor-advised fund you can get a deduction this year for several years’ worth of contributions.
A donor-advised fund is a charitable fund that allows you to decide when and how to allocate donations to individual charities. This is a clever way to use charitable deductions to your advantage, especially if you have a year with a higher income due to an inheritance or other financial windfall.
You’re able to make contributions during the current year and take the full tax deductions on your tax return, which reduces your tax bill. You’re also able to decide moving forward how much money to donate per year in future years and which organizations to donate it to.
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The tips shared in this article are just a few of the options high-income earners should consider when it comes to reducing taxable income. There are multiple other options as well, including taking a look at your personal real estate, long-term investments, retirement plan options, investing in municipal bonds, tax-loss harvesting and where your primary residence is located.
The best best tax strategies can vary from person to person, and there are multiple things to take into consideration before the end of the year. Need help determining the best tax reduction strategies to lower your tax bill? The best way is to be sure to connect with a skilled accountant who understands the tax code and all its implications to take a look at your personal financial situation and tax planning, especially for business owners who are factoring in business income and business expenses.
Finally, it’s a good idea to also work with a certified financial advisor, who can also work in partnership with you to help you reach your financial goals. Whether you want to save more money, cut expenses or make plans for an earlier retirement, working with the right financial planner can help get you there faster.