Category Archives: Taxes

Taxes are Your Largest Expense

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“Taxes are your largest single expense.” ~ Robert Kiyosaki

Total taxes are by far and away the largest expense that most households face on an annual basis. Total taxes are levied on income, payroll, Social Security, Medicare, property, real estate, sales, alcohol, gasoline, capital gains, dividends, imports, estates and gifts, as well as various other fees such as vehicle tags and driver license. It’s important for Americans to understand that income taxes, sales, Social Security and a myriad of other taxes and fees dramatically reduce your discretionary net income.

The average American household spends anywhere between 25-50 percent of their life working just to pay the diversity of taxes. That means that more than three to six months out of every year are spent working solely to pay your local, state and federal taxes and fees.

Effectively, all levels of government in the U.S. (federal, state, county, city/local) confiscate nearly half of the average household’s income every year, and yet they still cannot balance the national budget and always seem to need more money.

How much is enough when nearly half of the productive effort of the nation is taxed and used unproductively.

Your total tax rate, the one which actually matters the most to you includes more than just income. And these insidious taxes grow in size and quantity every year.

Total taxes are by far the single largest expense that you will pay every year. And, you can’t escape taxes, so the best thing you can do is learn how to better manage your taxes burden and understand how federal , state and local tax laws and regulations can work in your favor.

References:

  1. https://www.richdad.com/taxes-are-your-largest-single-expense#:~:text=Taxes%20
  2. https://www.financialsamurai.com/your-largest-ongoing-living-expense-taxes/

Tax Refunds are Free Loans to US Government

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A tax refund is an interest-free loan you gave to the U.S. government.

A tax refund, the payment most taxpayers receive after filing, is an interest-free loan you gave to the U.S. government. But only 7.4% of taxpayers agreed with the statement “I don’t like getting tax refunds because it means I overpaid throughout the year” in a nationally representative survey of 1,039 taxpayers by LendingTree Inc.

In fact, 46% of Americans say they’re looking forward to get a refund check from the IRS this year. 

Many Americans plan to use tax refunds to help build or add to a cash cushion this year, according to the LendingTree survey. Forty-six percent said refunds would go into savings, up from about 40% in the last two annual surveys. The second-most cited use for a refund was to pay down debt, at 37%.

Many consumers overpay as a sort of enforced savings program, and to ensure they don’t have to write a big check to the IRS at tax time. On average, refunds are around $3,000.

However, rather than overpay in taxes, using that money during the year to pay off high-interest rate credit cards is one way to try and ease any financial pressures, financial advisers say.

It important for taxpayers to check that you are having enough tax withheld. Those who want to try and fine tune payments so they don’t get a refund can use the IRS tax withholding estimator; you’ll need last year’s filing on hand to fill it out.

Always remember, the tax “refunds” you receive are actually interest free loans given to the federal government and paid back when the IRS decides to give the money back.

References:

  1. https://www.wealthmanagement.com/retirement-planning/nearly-half-americans-say-they-pay-too-much-taxes
  2. https://www.freelancersunion.org/tax-center/

Taxes: Income and Property

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“In this world, nothing is certain except death and taxes.” Ben Franklin

After-tax income inequality has grown over the long term. Between 1979 and 2018, the share of aggregate after-tax income of the top 1% of households grew significantly from 7.4% to 13.6%. In contrast, the shares for the bottom 90 percent of households declined. Tax Policy CenterWealth inequality has also widened. The average white household had $402,000 in unrealized capital gains in 2019, compared with $94,000 for Black households and $130,000 for Hispanic or Latino households. These disparities have generally widened over time. Tax Policy Center

Virtually all families hold some amount of financial assets, broadly defined as brokerage, checking, savings and retirement accounts to name a few. While 98% of families held checking or savings accounts in 2019, only 50% of families held retirement accounts and 15% owned stocks. Tax Policy Center

Salaries and wages are the largest sources of income for most households. In 2018, they comprised 68% of total adjusted gross income across all individual income tax returns, but only 17% for those with incomes over $10 million. Tax Policy Center

Income from capital gains made up about 8% of aggregate adjusted gross income (AGI) in 2018, but this varied by income level. For those with AGI over $10 million, capital gains accounted for nearly half of their income. Tax Policy Center

In 2019, the median net worth for those with college degrees was four times higher than for those with high school diplomas and nearly 15 times higher than for those without high school diplomas. Tax Policy Center

Overall, the share of US families with education loan debt went from 9% in 1989 to 21% in 2019. About 30% of Black families had education loan debt in 2019, compared with 20% of White families and 14% of Latino families. Tax Policy Center

Federal taxes are moderately progressive overall. In 2018, the top 1% had 16.6% of total income before taxes and 13.6% after taxes. Contrastingly, the lowest quintile had 3.8% before taxes and 7.1% after taxes. Tax Policy Center

In fiscal year 2019, state and local governments raised $577 billion in property taxes. As a share of general revenue, New Hampshire relied the most on property tax revenue (36%) whereas Alabama and New Mexico relied the least (7%). Tax Policy Center

State and local taxes as a share of income ranged from 7% in Tennessee to 15% in North Dakota in 2019. This does not measure comparative tax burdens on states’ residents because it includes taxes on business activities borne by residents of other states. Tax Policy Center

Total tax revenue (including federal, state, and local taxes) as a share of GDP was 24.5% for the US in 2019. Tax Policy Center

Wealthier Americans may be more stressed regarding inflation, economic uncertainty and market volatility, but lower-income Americans have much more to fear from rising prices and are experiencing greater daily impact to their wallets. They tend to have less financial cushion to handle higher prices for food, gas, and other necessities, according to the Tax Policy Center.

The above financial inequality and tax snippets are interesting facts/information garnered from the nonprofit Tax Policy Center.

References:

  1. https://www.taxpolicycenter.org/fiscal-fact/top-1-income
  2. https://www.axios.com/wealth-inflation-fears-money-financial-assets-52779e2d-8940-4b87-85cd-29c65744fb29.html

Retirement Benefits

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“Planning is the key to creating your best retirement.”

Social Security is part of the retirement plan for almost every American worker. It provides replacement income for qualified retirees and their families. On average, retirement beneficiaries receive 40% of their pre-retirement income from Social Security. Thus, it’s important to understand when planning for income during retirement, Social Security was designed to replace only a percentage of your pre-retirement income based on your lifetime earnings.

The amount of your average wages that Social Security retirement benefits replaces varies depending on your earnings and when you choose to start benefits. If you start receiving benefits at age 67 (full retirement age), this percentage ranges from as much as 75 percent for very low earners, to about 40 percent for medium earners, and about 27 percent for high earners. If you start benefits earlier than age 67, these percentages would be lower, and after age 67 they’d be higher.

Most financial advisers state that you will need about 70 percent of pre-retirement income to live comfortably in retirement, including your Social Security benefits, investments, and other personal savings and sources of income.

When you work and pay Social Security taxes, you earn “credits” toward Social Security benefits. The number of credits you need to get retirement benefits depends on when you were born. If you were born in 1929 or later, you need 40 credits (usually, this is 10 years of work).

If you stop working before you have enough credits to qualify for benefits, the credits will remain on your Social Security record. If you return to work later, you can add more credits to qualify. Social Security Administration (SSA) can’t pay any retirement benefits until you have the required number of credits.

When you work, you pay taxes into Social Security. SSA use the tax receipts to payout benefits to:

  • People who have already retired.
  • People who are disabled.
  • Survivors of workers who have died.
  • Dependents of beneficiaries.

The money you pay in taxes isn’t held in a personal account for you to use when you get benefits. SSA uses your taxes to pay people who are currently getting benefits.

Any unused money goes to the Social Security trust fund that pays monthly benefits to you and your family when you start receiving retirement benefits.

Retirement benefit

SSA will base your retirement benefit payment on how much you earned during your working career. Higher lifetime earnings result in higher benefits. If there were some years you didn’t work or had low earnings, your benefit amount may be lower than if you had worked steadily.

The age at which you decide to retire will also affect your benefit. If you retire at age 62, the earliest possible Social Security retirement age, your benefit will be lower than if you wait.

Full retirement age, or FRA, is the age when you are entitled to 100 percent of your Social Security benefits. If you were born between 1943 and 1954, your full retirement age was 66. If you were born in 1955, it is 66 and 2 months. For those born between 1956 and 1959, it gradually increases, and for those born in 1960 or later, it is 67.

Those dates apply to the retirement benefits you earned from working and to spousal benefits, which your husband or wife can collect on your work record. Keep in mind:

  • Claiming benefits before full retirement age will lower your monthly payments; the earlier you file — you can start at age 62 — the greater the reduction in benefits.
  • You can increase your retirement benefits by waiting past your FRA to retire. Each month you put off filing up to age 70 earns you delayed retirement credits that boost your eventual benefit.

Choosing when to start receiving retirement benefits is a personal decision. If you choose to retire and begin receiving benefits when you reach your full retirement age, you’ll receive your full benefit amount. SSA will reduce your benefit amount if you decide to start benefits before reaching full retirement age.

References:

  1. https://www.ssa.gov/benefits/retirement/learn.html
  2. https://www.aarp.org/retirement/social-security/questions-answers/social-security-full-retirement-age/
  3. https://www.ssa.gov/pubs/EN-05-10035.pdf

Billionaire’s Income Tax

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“Some liberal lawmakers hope the “billionaire tax” will eventually be extended to millionaires.”

A ‘Billionaires Income Tax’ would be a fundamental change in how the tax system operates in the United States, and open up a new revenue stream for the Treasury. The wealth tax plan would “get at the wealth of the richest Americans that currently goes untaxed until assets are sold”, according to Roll Call.

The Senate has proposed a special new tax on the uber wealthy, think billionaires, that Democrats will use to help pay for their next big multi-trillion dollar ‘Build Back Better’ fiscal spending package. The proposed tax on the net worth of billionaires’ stock holdings, real estate and other assets could help Democrats accomplish goals of raising taxes on the wealthy and funding their pet social safety net and climate programs.

The Senate Finance Committee Chair wants to “begin requiring people with more than $1 billion in assets, or who earn more than $100 million in three consecutive years, to begin paying capital gains taxes each year on the appreciation in value of their assets, regardless of whether they are sold”, Politico reported.

The ‘billionaire tax’ plan would reportedly hit around 700 Americans and generate several hundred billion dollars in tax receipts. “We have a historic opportunity with the Billionaires Income Tax to restore fairness in our tax code, and fund critical investments in American families,” said Senate Finance Chair Ron Wyden (D-Ore.). “The Billionaires Income Tax would ensure billionaires pay tax each year, just like working Americans.”

The proposal, should it pass Congress and be signed into law by the President, would almost certainly be challenged in federal court on its constitutionality. The Constitution restricts so-called direct taxes, ‘a term referring to levies imposed directly on someone that can’t be shifted onto someone else’. There’s a big exception for income taxes, as a result of the 16th Amendment, which allows Congress to tax income and earnings. (All current taxes are either forms of income tax or levies on transactions).

The proposed plan would tax people on the appreciation of their publicly traded marketable securities. Effectively, the plan would tax billionaires’ assets on any gains or appreciation in value of those assets. For example, if that asset became worth $110, they’d only owe on the $10 gain. And, the proposal would begin by imposing a one-time tax on all the gains that had accrued before the tax had been created.

Stocks, bonds and other publicly traded assets, marketable securities, would be assessed the levy each year. Harder-to-value assets like real estate or ownership stakes in privately held businesses would not be taxed until they are sold, but would then face an interest charge designed to approximate the tax people would have faced if they had been publicly traded assets.

Capital losses

Under the proposal, a billionaire subject to the tax whose asset values take a dive during the year would have two options. They could choose to:

  • Carry those losses forward to offset potential future mark-to-market gains, or
  • Carry them back to a year within the previous three to generate refunds for taxes paid on unrealized gains.
  • Carrybacks could only offset prior mark-to-market tax, not taxes paid on other income.

    • Nevertheless, the plan would incentivize the wealthy to move into non-publicly traded assets in order to avoid having to pay the IRS. And if the billionaire wealth tax survives the certain court challenges under the current conservative Supreme Court, you can safely bet that many liberal leaning states will follow suit and implement their own version of a billionaire or millionaire wealth tax.

    This new billionaire tax on wealth, instead on income, is a tax that some liberals lawmakers hope will eventually be extended to include every millionaire in assets, regardless of actual net worth. However, Congress always seem able to devise work arounds to exclude their own financial assets and the assets of their big re-election campaign donors from these extremely regressive tax policies.

    Additionally, this proposal, if enacted into law, would dramatically impact compound growth of assets and, would have the unintended consequences of slowing job creation and capital investments in the U.S.

    Senator Mitt Romney (R-Utah) said that the billionaire tax will leave the rich thinking: “I don’t want to invest in the stock market, because as that goes up, I gotta get taxed. So maybe I will instead invest in a ranch or in paintings or things that don’t build jobs and create a stronger economy.”

    References:

    1. https://www.rollcall.com/2021/10/27/wyden-details-proposed-tax-on-billionaires-unrealized-gains/
    2. https://www.politico.com/news/2021/10/27/billionaires-income-tax-details-wyden-517318
    3. https://www.marketwatch.com/story/mitt-romney-says-a-billionaire-tax-will-push-the-rich-to-buy-paintings-or-ranches-instead-of-stocks-11635269305

    Tax Avoidance vs. Tax Evasion

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    “The avoidance of taxes is the only intellectual pursuit that carries any reward.” John Maynard Keynes

    There’s nothing wrong with you wanting to pay less in federal, state and local taxes. Where you can run afoul of tax regulations is how you go about decreasing your tax obligation. There are legitimate tax avoidance steps you can take to maximize your after-tax income. But, failing to pay or deliberately underpaying your taxes is tax evasion and it’s illegal.

    The U.S. federal income tax system is based on the idea of voluntary compliance. Under this system, it is the taxpayer’s legal responsibility to report all income.

    Tax evasion is illegal and is punishable under law

    Tax Evasion—The failure to pay or a deliberate underpayment of taxes. Internal Revenue Service

    A taxpayer who intentionally hides income— by lying, concealing information, or committing fraud — has committed a willful act known as tax evasion, explained Jo Willetts, Director of Tax Resources at Jackson Hewitt. Tax evasion is illegal and carries serious criminal and civil consequences.

    According to the Internal Revenue Service (IRS), one way that people try to evade paying taxes is by failing to report all or some of their income. Sometimes people do not report income gained through illegal activities such as gambling and selling stolen goods. Other times they do not report all the tips they collect or the money they earn through legal activities such as garage sales, baby-sitting, tutoring, or yard work.

    Common examples of tax evasion include non-reporting or underreporting of:

    • Overseas income;
    • Cash-in-hand payments for jobs like babysitting, catering, cleaning, or manual labor;
    • Income from side gigs;
    • Income from illegal activities
    • Gains made on digital currencies like Bitcoins; and
    • Payments received from a cash business like tutoring, pet sitting, or childcare.

    Tax evasion can also include things like overstating deductions or failing to file a tax return.

    Tax avoidance or minimizing your tax obligation is legal and encouraged by IRS

    Tax Avoidance—An action taken to lessen tax liability and maximize after-tax income. Internal Revenue Service

    Minimizing your federal, state and local taxes is perfectly legal and encouraged. Minimizing your taxes is about managing and structuring your finances in a way that complies with the tax code, while at the same time, lowering your total income tax. 

    IRS regulations allow eligible taxpayers to claim certain deductions, credits, and adjustments to income. Essentially, these provisions have been built into the tax code to influence taxpayer behavior.

    For instance, to encourage home ownership, an interest deduction is available for eligible homeowners with a mortgage. To make it easier for primary caregivers to get back to their job and career, working parents could potentially qualify for a credit for childcare expenses. To promote financial protection for families, death benefits from a life insurance policy is exempt from taxes.There are also deductions based on the number of family members.

    These are only a few of the many ways people can legally limit the tax they pay. However, the taxpayer must be able to prove that he or she qualifies. Many people pay more federal income tax than necessary because they misunderstand tax laws and fail to keep good records.

    In reality, most taxpayers are already engaging in some form of tax minimization. For example, if you contribute to an employer-sponsored retirement plan with pre-tax funds, that is a tax-minimization strategy because (1) you’re deferring a tax payment, and (2) you will likely pay less tax when the funds are withdrawn in retirement.

    The most common and effective tax planning strategies include:

    • Contribute a 401(k) or IRA: The money people put into their 401(k) or IRA the IRS does not tax until it’s withdrawn. Many employers offer a 401(k) option with a matching contribution to help boost their employees’ retirement funds.
    • Revise W-4 withholdings: Most people have their income tax withholdings set to a standard amount for their tax bracket. Every financial situation is unique. Therefore, consider revising how much money is paid to the IRS to reduce tax liabilities later.
    • Use FSAs and HSAs: With flexible spending and health savings accounts, individuals can contribute to a dedicated account for their medical expenses. This money is specifically for medical care, so it is added to an account pre-tax.

    Ultimately, investing money into financial tools that offset taxes can be a significant advantage for both long-term investment and tax planning strategies. The IRS offers a variety of opportunities for people and businesses to reduce their tax liabilities.

    Additionally, the most practical IRS tax avoidance methods include:

    • Itemization: Depending on how much an individual or couple’s expenses are every year, it might be more lucrative to itemize tax deductions. It can be time-consuming and requires diligent recordkeeping, but it’s especially valuable for anyone with mortgages or expensive medical bills.
    • Tax credits: A tax credit, which is different from a deduction, gives money back to individuals and families. These credits generally come with stipulations. However, these credits can be worth the investment for people with big tax bills.
    • Tax deductions: Tax deductions are another way to reduce tax liabilities. With a deduction, someone’s taxable income gets reduced, which lowers the total amount owed to the IRS. Popular tax deductions include work-related expenses, property, and real estate taxes, and contributions to charity.

    Tax avoidance or minimizing your federal taxes through the IRS can be one of the most critical tools for individuals, families and small businesses that don’t have access to tax-reducing investment strategies.

    In summary, tax avoidance is the practice of using legal means to minimize your tax burden. Tax evasion, on the other hand, is using illegal means to hide or under report income from the IRS, or take deductions you aren’t actually allowed.

    “Congress can raise taxes because it can persuade a sizable fraction of the populace that somebody else will pay.” Milton Friedman

    References:

    1. https://apps.irs.gov/app/understandingTaxes/whys/thm01/les03/media/ws_ans_thm01_les03.pdf
    2. https://www.findlaw.com/tax/tax-problems-audits/tax-evasion-vs-tax-avoidance.html
    3. https://www.wsj.com/articles/buy-borrow-die-how-rich-americans-live-off-their-paper-wealth-11625909583
    4. https://www.jacksonhewitt.com/tax-help/tax-tips-topics/tax-fraud/tax-avoidance-vs-tax-evasion-whats-the-difference/
    5. https://taxcure.com/blog/tax-avoidance-vs-tax-evasion

    The Debt Ceiling and Congressional Brinkmanship

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    “I could end the deficit in 5 minutes. You just pass a law that says that anytime there is a deficit of more than 3% of GDP, all sitting members of Congress are ineligible for re-election.” Warren Buffett, Chairman and CEO, Berkshire Hathaway

    Around October 18, Treasury Secretary Janet Yellen and the U.S. Treasury Department have warned Congress that the government will no longer be able to pay all its bills unless the $28.5 trillion statutory debt ceiling is increased or suspended.

    Source: Congressional Research Service, Congressional Budget Office, and the Treasury Department. Data as of 05/01/2021.

    Moreover, Secretary Yellen believes the economy would fall into a recession if Congress fails to address the borrowing limit before an unprecedented default on the U.S. debt.

    While the U.S. has never failed to pay its bills, economists say a default would tarnished faith in Washington’s ability to honor its future obligations on time and potentially delay Social Security checks to some 50 million seniors and delay pay to members of the U.S. armed services.

    “If you ask the question of Americans, should we pay our bills? One hundred percent would say yes. There’s a significant misunderstanding on the debt ceiling. People think it’s authorizing new spending. The debt ceiling doesn’t authorize new spending; it allows us to pay obligations already incurred.” Peter Welch (D-VT), U.S. House of Representatives Democratic Caucus Chief Deputy Whip

    Increases to the debt ceiling aren’t new. They’ve occurred dozens of times over the last century, mostly matter-of-factly, a tacit acknowledgement that the bills in question are for spending that Congress has already approved.

    One thing separating today’s debt debate from those of the past is the larger-than-ever national debt, according to Fidelity. Publicly held US debt topped 100% of GDP in 2020 and is expected to reach 102% by the end of 2021.

    And the debt is projected to increase significantly in the future. The Congressional Budget Office (CBO) projects a federal budget deficit of $2.3 trillion in 2021—the second largest deficit since 1945.

    Source: Congressional Budget Office, as of February 11, 2021.

    Failure to address the current challenge could shake global markets even before the Treasury has exhausted its available measures to pay bills. A U.S. debt default, whether through delayed payments on interest owed on U.S. Treasuries or on other obligations, would be unprecedented.

    The effect would be one of perception. And, perception can be tied to the reality that someone isn’t going to be paid on time, whether it be government contractors, individuals who receive entitlement payments, or someone else. The damage to U.S. credibility would be irreversible.

    Even if a default were only technical—if payments other than interest on debt were delayed—the United States could no longer fully reap the benefits bestowed on the most reliable debtors.

    Interest rates would likely rise, as would financing costs for businesses and individuals. Debt ratings would be at risk. The government’s own financing costs, borne by taxpayers, would increase. Stock markets would likely be pressured as higher rates made companies’ future cash flows less predictable. Such developments occurring while economic recovery from the COVID-19 pandemic remains incomplete makes the potential scenario all the more important to avoid.

    Let it be said that no one doubts the ability of the United States to pay for its obligations, according to Vanguard. There is a minimal credit risk posed by the United States is supported by its strong economic fundamentals, excellent market access and financing flexibility, favorable long-term prospects, and the dollar’s status as a global reserve currency.

    The House has passed a measure that would suspend the debt ceiling through mid-December of 2022, and the bill now goes to the Senate. Republicans in the Senate oppose any effort to raise the borrowing limit and appears intent on making Democrats address it as part of their sprawling investment in social programs and climate policy under reconciliation.

    Senate Democrats could lift the debt ceiling without the GOP votes through reconciliation, although that would come with downsides. Under reconciliation, a simple majority of senators can pass a very small number of budget bills each year. The process is sufficiently complex that it would probably take a couple of weeks and distract Democrats from their negotiations over Biden’s “Build Back Bette” agenda.

    Thus, the Democrats resist raising the debt ceiling through reconciliation if it means potentially sacrificing other policy goals. And, the rules for reconciliation would require Democrats to specify a new limit for the national debt which would expose them to potentially uncomfortable GOP political attack ads.

    Republicans insist that since Democrats control both the executive and the legislative branches and are in a socialistic tax-and-spend binge, they should bear sole responsibility for dealing with the debt limit, which is rearing its ugly head again because the suspension included in a two-year 2019 budget deal expired on July 31.

    Democrats argue that Republicans should share the burden of this unpopular chore, since (a) much of the debt involved was run up under Republican presidents and (b) Democrats accommodated Republicans on debt-limit relief during the Trump presidency.

    For long term investors, it’s clearly in the best interest of the country to resolve any debt-ceiling issues, according to Fidelity. And, it’s important to understand that there will always be times of uncertainty. It’s important to take a long-term view of your investments and review them regularly to make sure they line up with your time frame for investing, risk tolerance, and financial situation.

    References:

    1. https://investornews.vanguard/potential-u-s-debt-default-why-to-stay-the-course/
    2. https://www.cnbc.com/2021/10/05/debt-ceiling-us-faces-recession-if-congress-doesnt-act.html
    3. https://nymag.com/intelligencer/2021/10/democrats-can-raise-debt-ceiling-via-reconciliation-bill.html
    4. https://www.fidelity.com/learning-center/trading-investing/2021-debt-ceiling

    61% of Americans Paid No Federal Income Tax in 2020 | CNBC

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    By Robert Frank, CNBC Wealth Reporter and a leading authority on the American wealthy

    “The hardest thing in the world to understand is the income tax.” Albert Einstein

    • More than 100 million U.S. households, or 61% of all taxpayers, paid no federal income taxes last year, according to a report from the Tax Policy Center.
    • The pandemic and federal stimulus led to a huge spike in the number of Americans who either owed no federal income tax or received tax credits from the government.
    • The main reasons for the spike — high unemployment, large stimulus checks and generous tax credit programs.

    More than 100 million U.S. households, or 61% of all taxpayers, paid no federal income taxes last year, according to a new report.

    According to the Urban-Brookings Tax Policy Center, 107 million households owed no income taxes in 2020, up from 76 million — or 44% of all taxpayers — in 2019. The main reasons for the spike — high unemployment, large stimulus checks and generous tax credit programs — will largely expire after 2022, so the share of nontaxpayers will fall next year.

    “The COVID-19 pandemic and the policy response to it led to an extraordinary increase in the number of American households that owed no federal individual income tax in 2020”, writes Howard Gleckman, Senior Fellow at the Urban-Brookings Tax Policy Center.

    The share of Americans who pay zero income taxes is expected to stay high, at around 57% this year (2021), according to the Tax Policy Center.

    “Congress can raise taxes because it can persuade a sizable fraction of the populace that somebody else will pay.” Milton Friedman

    In contrast, the top 20% of taxpayers by income paid 78% of federal income taxes in 2020, according to the Tax Policy Center, up from 68% in 2019. The top 1% of taxpayers paid 28% of taxes in 2020, up from 25% in 2019.

    In 2021, Congress increased the size of the child tax credit, the earned income tax credit, and the child and the dependent care tax credit — all of which erased the federal taxes owed for millions of American families.

    Twenty million workers lost their jobs. Many were low-wage workers who were paying very little income tax before the pandemic hit. Effectively, no household making less than $28,000 will pay any federal taxes this year due to the credits and tax changes, according to the Tax Policy Center. Among middle-income households, about 43% will pay no federal income tax.

    Federal income taxes do not include payroll taxes. The Tax Policy Center estimates that only 20% of households paid neither federal income taxes nor payroll taxes. And “nearly everyone” paid some other form of taxes, including state and local sales taxes, excise taxes, property taxes and state income taxes, according to the report.

    “We contend that for a nation to try to tax itself into prosperity is like a man standing in a bucket and trying to lift himself up by the handle.” Winston Churchill

    “There is a dichotomy between how capital is taxed in this country and how labor is taxed. That seems wrong to me, to have these two sources of wealth that are taxed so differently”, according to Billionaire philanthropist John Arnold.

    References:

    1. https://www.msn.com/en-us/money/markets/61-25-of-americans-paid-no-federal-income-taxes-in-2020-tax-policy-center-says/ar-AANt4dJ?ocid=uxbndlbing
    2. https://www.taxpolicycenter.org/taxvox/covid-19-pandemic-drove-huge-temporary-increase-households-did-not-pay-federal-income-tax

    Strategies to Reduce Taxes

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    Taxes are one thing retirees tend to have a little control over, as long as they do deliberate tax planning.

    Accumulating sufficient assets for retirement is a critical part of retirement income planning, according to Bill Thomas, Financial Adviser, Thomas Financial Services. However, it’s just as important to preserve what you’ve saved over the 25 or 30 years that you may live in retirement. That’s where deliberate tax planning comes in.

    It is likely that taxes will increase during your retirement, potentially reducing your income and cash flow. Instead of fretting over increasing taxes, now is the time to figure out how to create a tax-efficient retirement where you can maximize deductions and credits while minimizing taxes.

    Getting into the 0% tax bracket may be possible and easier than you think. All it takes is a smart tax strategy that allows combining tax credits and deductions, accumulating more long-term capital gains, or benefiting from qualified dividends.

    You can legally decrease or completely eliminate your tax bill by taking advantage of some of the perks in the tax code.

    Qualified dividends follow three rules:

    1. The dividend must have been paid by a U.S. corporation or a qualifying foreign company. The dividends must be deemed as qualified in the eyes of the IRS and cannot be listed as a non- qualified dividend.
    2. You’ve held the stock paying the dividend for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date.
    3. Use the long-term capital gains rates shown above to see the taxable income and filing status for the 0% tax brackets.

    Being an investor requires a strategy to reduce your taxes. For many, it’s tempting to buy stocks and sell them as soon as the price shoots up. But if you hold on to your investments for an over a year — you’ll be eligible for long-term capital gains tax rates.

    Simply put, it pays to be patient in the stock market. If you sell a stock that you’ve owned for a year or less, you’ll have to pay a short-term capital gains tax, which can be as high as 37%. Once you’ve held an investment over the one-year mark, you’ve hit the long-term capital gains threshold.

    Getting into the 0% tax bracket may be easier than you think. All it takes is a smart strategy that allows you to combine tax credits and deductions, accumulate more long-term capital gains, or benefit from qualified dividends.

    Make tax-smart investing part of your tax planning

    The potential impact of tax-smart investing techniques over time. As the accompanying graphic shows, employing tax-smart investing techniques over time may have a significant impact on your long-term returns. The longer you apply these techniques, the greater the potential impact.

    Each line represents a client’s hypothetical value from tax-smart investing techniques at various starting dates, based on a starting portfolio value of $1 million.

    Though taxes might not be the first thing you think of when it comes to how you want to spend money in retirement, planning strategically can mean more income and cash flow for the things you love.

    References:

    1. https://www.kiplinger.com/retirement/retirement-planning/602880/4-strategies-to-reduce-taxes-in-retirement
    2. https://www.msn.com/en-us/money/retirement/these-strategies-can-reduce-the-taxes-you-will-pay-on-retirement-accounts/ar-AAKcd4U
    3. https://www.fidelity.com/wealth-management/tax-smart-investing-planning

    Roth IRA Conversion

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    A Roth individual retirement account (IRA) is off-limits for people with high annual incomes.

    If your earnings put Roth IRA contributions out of reach, a backdoor Roth IRA conversion is an option that lets you enjoy the tax benefits of a Roth IRA. A backdoor Roth IRA is a strategy that helps you save retirement funds in a Roth IRA even though your annual income would otherwise disqualify you from accessing this type of individual retirement account.

    Backdoor Roth IRA conversions are mainly useful for high earners whose annual income (plus access to workplace retirement plans) already make them ineligible for tax deductions for traditional IRA contributions.

    Who Benefits from a Backdoor Roth?

    • High earners who don’t qualify to contribute under current Roth IRA rules.
    • Those who can afford the taxes for a Roth conversion and want to take advantage of future tax-free growth.
    • Investors who hope to avoid required minimum distributions (RMDs) when they reach age 72.

    A general rule of thumb with Roth IRA conversions is that you will owe taxes on any money that has never been taxed before.

    Roth IRA Conversion makes little Tax difference f

    A Roth conversion will not make a significant difference to your retirement standard of living, according to an exhaustive new study.

    The study findings reveal that “…only if you’re in the top 1% of retirement savers will a Roth conversion move the needle more than a little bit in your retirement.” The study, “When and for Whom Are Roth Conversions Most Beneficial?,” was conducted by Edward McQuarrie, a professor emeritus at the Leavey School of Business at Santa Clara University.

    Unlike many previous analyses of Roth conversions, McQuarrie adjusted all his calculations by inflation and the time value of money, likely changes in tax rates, and a myriad other obvious and not-so-obvious factors.

    McQuarrie finds that only if you have millions in your IRA or 401(k)—at least $2 million for an individual and $4 million for a couple—will your required minimum distributions in retirement be so large as to put you into even the middle tax brackets.

    Only for those select few will the potential tax savings of a Roth conversion be significant. For most of the rest of us, we’ll likely be in lower tax brackets in retirement years, with an effective rate of 12% or less. That almost certainly will be lower than the tax we would pay for a Roth conversion during our peak earning years prior to retirement.

    Even if tax rates themselves go up, furthermore, it’s still likely that your tax rate in retirement will be lower than preretirement. That’s because you’ll likely be at your peak earning years prior to retirement, when you might be undertaking a Roth conversion, and therefore in a relatively high tax bracket.

    Once you stop working and retire, and are living on Social Security and the withdrawals from your retirement portfolio, your tax rate will most likely be lower—even if the statutory tax rates themselves have been increased in the interim.

    Backdoor Roth IRA conversions lets you circumvent the prescribed AGI limits if your annual earnings put direct Roth IRA contributions out of reach.

    References:

    1. https://www.forbes.com/advisor/retirement/backdoor-roth-ira/
    2. https://www.marketwatch.com/story/to-roth-or-not-to-roth-11623431970
    3. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3860359