Earning a high income means paying more in taxes at both the federal and state levels. Graduated tax rates at the federal and local level make it even more important for high-income earners to optimize their financial planning strategy to mitigate their taxes. While some claim the rich don’t pay their fair share of taxes, new IRS data shows the top 25 percent of income earners paid 89 percent of all federal income taxes in 2020—the highest percentage of any year since 1980. This is not counting payroll taxes and other federal assessments such as excise and gas taxes. One effective tax reduction strategy for high-income earners is to take advantage of taxable deductions and available credits.
A common above-the-line deduction is contributions to a Traditional IRA, but there are also others, such as student loan interest and alimony payments, that can be deducted from an individual’s taxable income. Other ways to reduce current-year income taxes include taking advantage of the 20 percent long-term capital gains rate and leveraging the new higher investment tax credit. However, it’s important to remember that tax-deferred assets still have a taxable cost at some point—when they’re distributed or surrendered. In addition, caps on cash-value life insurance policies limit how much of your income can be sheltered this way.
How Can I Reduce My Taxable Income in 2024?
While no one likes paying taxes, there are strategies that can help reduce your tax bill as a high-income earner. These strategies can include saving in tax-deductible accounts, spreading your income across multiple tax years, and using a variety of legal tax deductions. If you want to learn more about how to minimize your taxes as a high-income earner, consider working with a financial advisor
The first step in reducing your taxable income is to make a list of all the expenses you’ve incurred that qualify as below-the-line deductions. These are expenses that can be deducted from your adjusted gross income (AGI), which is the amount that determines your tax bracket. Examples of below-the-line deductions include charitable donations, medical expenses, and investment expenses.
Investing in retirement savings accounts is another way to lower your taxable income. These are not only tax-deductible, but the money you invest will grow on a tax-deferred basis, and withdrawals you make to pay for qualified education expenses can be even more tax-efficient.
There are a number of tax-saving strategies available to high-income earners. The key is to find a financial advisor who understands your unique situation and can apply the most effective strategies for you.
A common strategy for high-income earners is to utilize a recharacterization technique that changes the character of investment income to decrease your tax liability. This is especially beneficial if you have made investments that have lost value since purchase.
Another way to reduce your tax bracket is by alternating years in which you take the standard deduction and those in which you itemize. This can lower your taxable income by up to $35,000 per year.
Lastly, high-income earners can reduce their taxable income by contributing additional money into their retirement accounts. This can include both employer minimum contributions and salary sacrifice. However, be careful not to exceed the contribution cap of $25,000 for individuals and $50,000 for joint filers.
Finally, high-income earners can reduce their tax bill by using a “tax loss harvesting strategy.” This entails selling assets that have lost value in order to offset capital gains from other investments. This can lower your taxable income by as much as 30% of your adjusted gross income. Working with a financial advisor when considering this strategy is important, as it can be complex and requires significant advance planning.