7 Tax Planning Strategies For High-Income Earners

You’ve worked hard to reach the peak of your career, and the rewards are evident in your high income. But, as your earnings grow, so does the complexity of managing your taxes. It’s a game where the rules keep changing, and you don’t want to be caught off-guard. 

We get it!

If you’re a high-income earner this tax strategy guide is tailored specifically for you. Below, you’ll dive deeper into the world of savvy tax planning and discover strategies that can significantly lighten your tax load.

1) Maximize Your Retirement Accounts

For high-income earners like you, every financial decision has amplified consequences. And when it comes to taxes, the stakes are even higher. One of the most powerful tools at your disposal? Maximizing your retirement savings. 

Not only does this secure your golden years, but it also offers substantial tax advantages in the present. By contributing to reduce your taxable income, you’re leveraging these benefits which can significantly lower your overall tax burden. This keeps your wealth growing efficiently. But it’s not just about saving—it’s about saving in the smartest way possible.

Making The Most Of The Right Accounts

Choosing the right retirement account is very important, especially for those in the high-income bracket. The right account can mean the difference between optimal savings and missed opportunities. Your decision should be based on your unique financial circumstances, goals, and the tax benefits each account offers. So, what are some go-to options for high-income earners?

Cash Balance Plans: Ideal for business owners or professionals in high-earning roles, these hybrid pension plans allow for larger contribution limits as you age, providing a substantial avenue to lower taxable income.

Solo 401(k)s: Tailored for self-employed individuals or business owners without full-time employees, this account lets you contribute both as an employer and an employee, offering significant tax deferral possibilities.

SEP IRAs: A favorite for self-employed individuals or small business owners, SEP IRAs provide greater contribution limits compared to other vehicles like traditional IRAs. Additionally, SEP IRAs offer immediate tax deductions.

Defined Benefit Plans: These plans guarantee a specified retirement benefit. This can be ideal for high earners seeking to contribute more than traditional retirement accounts allow.

Please Note: These aren’t your only options. Alongside more commonly leveraged accounts like an employer-sponsored 401(k), utilizing an Individual Retirement Account (IRA) to reduce your taxable income can be a strategic choice, especially if there’s a matching program in the former. Some of these options may not be available to you depending on your employment status. It’s worth speaking with a financial advisor to find the vehicle that’s right for you and your financial future.

Roth Conversions

In the game of wealth management, it’s not just about what you earn, but what you keep. And one key strategy, often overlooked, is the Roth conversion. Why? Because it’s a way to strategically use today’s tax brackets for potential tax benefits in the future. Let’s break down the types of Roth conversions that could be available to you:

Back-Door Roth Conversion: When direct contributions to a Roth IRA are off-limits due to high income, the back-door conversion steps in. First, contribute to a traditional IRA (non-deductible), and then swiftly convert it to a Roth IRA. The result? Money grows tax-free, ready for tax-free withdrawals in retirement.

Mega Back-Door Roth Conversion: Elevate your game by maximizing out-of-pocket contributions to a 401(k), beyond employer match. Then, roll that extra into a Roth IRA. It’s a powerful move for those looking to stash away more than the usual limit.

Market-Timing Roth Conversion: Leverage market downturns. Convert assets when they’re undervalued, then watch them rebound tax-free within a Roth IRA. It’s making the most of market fluctuations with an eye on future tax benefits.

Bracket-Bumping Conversion: Got room in your current tax bracket? Convert just enough from your traditional IRA to fill it up without pushing into the next. This strategy is about optimizing every tax dollar.

SEP IRA To Roth Conversion: For self-employed professionals, the SEP IRA can be a go-to. But why stop there? Convert those funds to a Roth IRA for future tax-free withdrawals, while still benefiting from the generous contribution limits of the SEP.

Please Note: Converting from a traditional IRA to a Roth IRA is a taxable event. To qualify for the tax-free and penalty-free withdrawal or earning, a Roth IRA must be in place for at least 5 tax years, and the distribution must take place after age 59 ½ or due to death, disability, or a first-time home purchase (up to a $10,000 lifetime maximum). Depending on state law, Roth IRA distributions may be subject to state taxes.

2) Save Wisely For Health And Education 

Beyond the basic nest egg, two areas typically capture the attention of high-income earners: medical and education expenses. These areas go beyond just safeguarding health and careers. They also provide strategic opportunities in tax planning. 

Leverage A Health Savings Account

You may want to invest in a health savings account (HSA). It’s a savings tool that allows you to simultaneously protect your health while leveraging a triple-tax advantage, and it can be a game-changer for high-income earners. With an HSA, you’re provided with:

Pre-Tax Contributions: You invest your money before it’s taxed, which means more funds working for you from the outset.

Tax-Free Growth: Your investments grow tax-free over time, amplifying your earnings potential.

Tax-Free Withdrawals For Medical Expenses: There are no taxes when you withdraw for qualified medical expenses, ensuring every penny serves your health needs.

Future Flexibility: After you reach age 65, the rules shift even more in your favor. Suddenly, your HSA evolves, mimicking the flexibility of a traditional IRA. You can withdraw funds for non-medical expenses too. However, these withdrawals will be taxed as regular income (just like a traditional IRA), but the prior years of tax-free growth mean you’re still ahead.

Superfund A 529 Plan

When it comes to strategic tax planning, high-income earners often seek innovative solutions. One particularly innovative strategy comes in the form of superfunding a 529 plan. If you’re aiming to save for future education costs while simultaneously enjoying tax benefits, this is your golden ticket.

“Superfunding” is an approach where you contribute five years’ worth of 529 plan contributions in a single year, maximizing your gift-tax exclusions. This means, instead of spacing out your contributions, you front-load your account, letting your money grow tax-free for a longer time. By accelerating your contributions, you can harness the potential of compound growth, setting the stage for substantial savings when it’s time for college or other educational expenses.

For high-income earners, the tax benefits don’t end there. The 529 plan provides growth that’s exempt from federal taxes, and frequently, state taxes as well. When spent on qualifying educational costs, withdrawals are also exempt from taxes. It’s a win-win.

Please Note: The fees, expenses, and features of 529 plans can vary from state to state. 529 plans involve investment risk, including the possible loss of funds. There is no guarantee that an education-funding goal will be met. In order to be federally tax-free, earnings must be used to pay for qualified education expenses. The earnings portion of a nonqualified withdrawal will be subject to ordinary income tax at the recipient’s marginal rate and subject to a 10% penalty. By investing in a plan outside your state of residence, you may lose any state tax benefits. 529 plans are subject to enrollment, maintenance, and administration/management fees and expenses.

3) Reallocate Your Investment Portfolio

For you, the high-income earner, effective tax planning isn’t just a nicety—it’s essential. As your wealth grows, so do the complexities of your financial landscape. One pivotal strategy often overlooked is the art of reallocating your investment portfolio. This approach allows you to better your position tax and risk-wise.

Tax-Efficient Choices

When was the last time you reviewed where you’re holding your funds? The type of account can significantly impact your tax bill. Vehicles like tax-efficient index mutual funds or exchange-traded funds (ETFs) are already designed with low taxes in mind. For this reason, it’s often best to place these in your taxable accounts.

On the flip side, funds that tend to produce higher taxable distributions should find a home in your tax-advantaged accounts like your 401(k) or IRA. Sheltering these high-impact funds from immediate taxation can potentially lead to enhanced wealth accumulation over time. 

Tax-Exempt Municipal Bonds

If you’re a high-income earner, municipal bonds might just become your best friend. Why? They come with a special feature: tax-exempt interest income. When you invest in these bonds, issued by local or state governments, the interest earned often remains free from federal taxes. And in some cases, depending on where you live, you might even dodge state and local taxes. 

But the benefits don’t end there. These bonds are not just about tax savings; they offer a dual advantage. You’re also supporting vital public projects in your community. Think schools, roads, and hospitals. By strategically incorporating these bonds into your portfolio, you’re positioning yourself for both community impact and tax efficiency.

Please Note: Municipal bonds are federally tax-free but may be subject to state and local taxes, and interest income may be subject to federal alternative minimum tax (AMT). Bonds are subject to availability and market conditions; some have call features that may affect income. Bond prices and yields are inversely related; when the price goes up the yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. 

Tax-Loss Harvesting

Ah, the inevitable market downturns. They’re a part of every investor’s journey. But did you know they offer a silver lining? Enter tax-loss harvesting. For you, the strategic investor, downturns can be a golden opportunity. When the value of your investments falls, you can sell them at a loss, and here’s the kicker—offset the gains from your other investments. This isn’t just a one-time trick; it’s an ongoing strategy. 

Year after year, by systematically recognizing these losses, you can lower your overall tax liability. But remember, it’s a delicate balance. Timing is crucial, and you’ll need to be wary of the “wash sale” rule which prevents you from repurchasing an identical or similar asset within 30 days of your sale. When mastered, tax-loss harvesting can be a powerful tool for you, turning those market lows into major tax-saving maneuvers.

4) Give Wisely To Charity

For high-income earners, strategic charitable giving can make all the difference in tax planning. When you contribute wisely, not only do you benefit worthy causes, but you can also significantly reduce your tax liability. Thankfully, several effective giving strategies can align with savvy tax planning.

Donating Appreciated Stock 

Imagine holding onto a stock that’s appreciated substantially over the years. While selling can seem like an appealing choice, it comes with a significant tax bite on the capital gains. For high-income earners, a smarter move can be donating this appreciated stock directly to a charity. Here’s why:

Bypassing Capital Gains Tax: By gifting appreciated stock, you sidestep the capital gains tax you’d incur if you sold the stock. This is a direct tax saving that can be substantial for high-performing assets.

Receiving A Charitable Deduction: Based on the market value of the stock on the day of the gift, you could be eligible for a tax deduction. This reduces your taxable income, potentially placing you in a lower tax bracket.

Benefiting Charities: Charities typically sell donated stock immediately. Since they’re tax-exempt, they receive the full value of the stock, making your donation stretch further.

Reinvesting With A New Basis: After donating, if you still believe in the stock’s potential, you can repurchase it, setting a new, higher-cost basis. This could reduce future capital gains tax should you decide to sell later.

Qualified Charitable Distributions

For high-income earners and those aged 70 1⁄2 and above with an Individual Retirement Account (IRA), maximizing tax efficiencies is crucial. The Qualified Charitable Distribution (QCD) presents an outstanding opportunity to do just that. Especially for those in a higher tax bracket, this strategy can lead to significant savings. Here’s a deeper dive into how it operates:

Direct Transfers to Charities: Instead of taking a Required Minimum Distribution (RMD) from your IRA, you direct a portion or all of it (up to $100,000 annually) to a qualified charity.

RMDs Become Non-Taxable: Normally, RMDs are taxable income. But with a QCD, that distribution becomes non-taxable. For high-income earners, this could mean significant savings.

Reduced Adjusted Gross Income (AGI): Since the QCD isn’t counted as taxable income, your Adjustable Gross Income (AGI) reduces. A lower AGI can lead to various tax benefits, like reducing the taxability of Social Security benefits.

Benefit Multiple Charities: There’s no restriction on how many charities you can support through QCDs in a year, as long as the combined total doesn’t exceed the annual limit.

Donor-Advised Funds

Setting up Donor-Advised Funds (DAFs) offers a unique blend of flexibility and tax efficiency. They work as charitable accounts where you make a tax-deductible donation, then recommend grants to your chosen charities over time. Here’s why high-income earners often leverage DAFs:

Immediate Tax Deduction: When you contribute to a DAF, your contribution becomes immediately tax deductible. This can be especially valuable in higher-income years where a substantial deduction could have a significant impact.

Invest And Grow Tax-Free: Contributions can be invested, growing tax-free over time. This growth can be directed to multiple charities in the future, amplifying your charitable giving.

Flexibility In Granting: You’re not bound to make immediate grants. You can strategize your charitable giving, allowing you to respond to urgent needs or support long-term projects.

Privacy And Simplicity: DAFs can streamline your charitable giving. You manage all donations through one account, and if desired, grants can be made anonymously.

Please Note: Generally, a Donor-Advised Fund is a separately identified fund or account that is maintained and operated by a section 501(c)(3) organization, which is called a sponsoring organization. Each account is composed of contributions made by individual donors. Once the donor makes the contribution, the organization has legal control over it. However, the donor, or the donor’s representative, retains advisory privileges with respect to the distribution of funds and the investment of assets in the account. Donors take a tax deduction for all contributions at the time they are made, even the money may not be dispersed to a charity until much later. It’s also important to highlight that Qualified Charitable Distributions cannot be made to a Donor-Advised Fund. Ensure you’re fully informed about the rules and nuances before getting involved with a Donor-Advised Fund. 

5) Change The Structure Of Your Business

Many high-income earners are also business owners. If they apply their outside-the-box thinking towards tax planning, the savings can be enormous. One strategy that can be particularly powerful is the restructuring of a business, which is can help reduce your taxable income should your business meet certain criteria. 

In essence, a “restructuring” is the process of rearranging the legal, leadership, systematic, or other structures of your company. By doing so, businesses can take advantage of tax efficiencies, reduce overhead, and position themselves for growth. The act of restructuring can align the company’s structure with its strategy and objectives, but for high-income earners, the tax benefits are often the chief concern. 

Let’s say for example that you own a successful chain of restaurants. You initially set up your business as a sole proprietorship, bearing the full brunt of income taxes. However, after consulting with a financial advisor, you decide to restructure your business as an S Corporation. A move like this would allow you to draw a reasonable salary (subject to employment taxes) and take additional profits as distributions, which aren’t subject to self-employment taxes. As a result, you manage to save a significant chunk in taxes each year.

Beyond immediate tax savings, restructuring can also pave the way for other long-term benefits. Businesses may gain access to new financing options, protect assets through strategic entity formation, or even reduce liabilities in potential lawsuits. It may be worth getting a professional second opinion on how your business is formally structured. 

Hire Your Children

If you’re a business owner seeking to blend family values with financial foresight, hiring your children can be remarkably shrewd play. It can offer many benefits from a tax planning perspective. These benefits include:

Income Shifting: By hiring your child, you can shift income from your higher tax bracket to your child’s lower bracket. Suppose you’re in the 37% tax bracket and your child, being a low earner, is in the 10% bracket. By paying your child a salary, you can effectively reduce your taxable income while your child pays tax at a much lower rate.

Child Tax Benefits: If your child earns income, but it’s below the standard deduction threshold for a single taxpayer, they may owe no federal income tax. So, if you pay your child a salary less than the standard deduction for a single filer, they may not owe any tax. However, you will still get the business expense deduction.

Employment Tax Savings: If your enterprise operates as a sole proprietorship, a partnership where every partner is a parent of the child, or an LLC taxed like a sole proprietorship, salaries paid to a child under 18 years old are exempt from Social Security and Medicare taxes. This presents even more savings.

IRA Contributions: The income your child earns could be contributed to an IRA (either traditional or Roth). This not only instills the value of saving but also offers further tax benefits and compound growth.

6) Make Smart Real Estate Moves

The power of smart real estate decisions can magnify your wealth. It can also strategically protect your hard-earned income from excessive taxation. However, to leverage real estate as a tax planning strategy, you have to be aware of the options at your disposal and how they operate.

Real Estate Depreciation

As properties age and wear out over time, the IRS permits rental property owners to deduct a specific portion of their property’s cost each year, known as depreciation. What makes this enticing is that depreciation isn’t an actual out-of-pocket expense but a “paper expense,” leading to substantial tax deductions. 

Further amplifying this advantage is the Modified Accelerated Cost Recovery System (MACRS). This allows high-income earners to take larger deductions in the initial years of property ownership, creating an opportunity to shield significant income. 

Additionally, the perks don’t end there. Depreciation can also be used to offset passive income from rental properties, and for those looking to sell, the 1031 exchange can defer taxes on capital gains by reinvesting in another qualifying property.

Deduct Mortgage Interest

Another strategic move in the real estate realm is the mortgage interest deduction. If you’ve taken a mortgage on your primary or secondary residence, the interest paid can help in reducing your taxable income. This strategy becomes even more potent when delving into real estate investments. 

Interest on mortgages for investment properties can be classified as a business expense, further reducing the tax burden. And it’s not just primary mortgages; interest from home equity loans, when used for qualifying expenses like home improvements, can also offer deductions. 

That said, it’s crucial to be aware of the evolving regulations and caps set by the IRS on these deductions. Collaborating with financial professionals ensures that you’re not only maximizing benefits but also staying compliant.

Move To A State With No State Income Tax

Living in a state with no income tax allows you to keep a more significant portion of your income. For high earners, this can translate into substantial yearly savings. The money saved from state income tax can be reinvested into appreciating assets, further amplifying wealth creation opportunities.

States With No State Income Tax Include: 

• Wyoming 
• Washington
• Texas 
• Tennessee 
• South Dakota 
• Nevada 
• New Hampshire 
• Florida 
• Alaska

For high-income earners who have properties in multiple states, there’s another layer of strategic tax planning to consider: determining your primary residence. By shifting your primary residence to a state with no or lower income tax, you could stand to benefit from significant tax savings each year. Such a move can be especially advantageous for those who garner a sizable portion of their income from passive sources or capital gains.

Remember, while living in a state with no income tax might mean more money in your pocket from earnings, it’s crucial to weigh all the tax implications. For instance, a state might not tax your income but could levy higher property, sales, or other taxes. 

Consulting with a financial advisor can provide a clear understanding of the potential benefits and drawbacks of such a move. By considering all factors, high-income earners can make an informed decision that maximizes their financial benefits while aligning with their lifestyle preferences.

7) Form A Comprehensive Tax Planning Team

Tax planning isn’t just about this year, or the next; it’s about your entire financial journey. Enter the dynamic duo: CPAs and Financial Advisors. For high-income earners, mastering the present and future of your tax situation is crucial, and here’s why.

A CPA, or Certified Public Accountant, is your go-to expert for the here and now. They dive deep into the complexities of current tax regulations, ensuring you’re compliant and taking advantage of any immediate tax-saving opportunities. With their specialized expertise, they navigate the intricate maze of tax filings, optimizing your returns year after year.

On the other side, financial advisors take a panoramic view of your finances. While the CPA ensures you’re set for this year, the financial advisor plots your course for the decades ahead. They craft strategies that don’t just aim for wealth growth but also consider the tax implications over your lifetime. Their foresight can make a significant difference in your lifetime tax bill, guiding you through investment decisions, retirement planning, and more, always with an eye on the tax horizon.

Ready to bring together this formidable team and supercharge your tax planning? Before you do, ensure you’re equipped with the right questions. Dive into this article to learn what you should ask your CPA and discover just how Financial Advisors and CPAs make a powerful tax-saving pair. Your future self will thank you.

Snowpine Wealth Helps With Tax Planning Strategies For High-Income Earners

At Snowpine Wealth, we recognize the unique challenges and opportunities high-income earners face when it comes to strategic tax planning. With a myriad of tools available, it’s essential to leverage each one to maximize benefits, and that’s where Ryan Smith, our experienced CFP® Professional, steps in. 

Ryan’s approach is more than just about reducing the present tax bite—it’s about creating a long-term, holistic strategy that aligns with your financial goals and aspirations. Whether you’re exploring Roth conversions, considering a strategic real estate investment, or weighing the benefits of a particular retirement account, Ryan provides tailored advice to ensure that every decision made seeks to amplify your wealth’s efficiency and growth. This personalized approach keeps you not just saving, but saving smartly, making the most of every opportunity available.

So, as you contemplate the future of your wealth and its intersection with taxes, remember you don’t have to navigate this journey alone. You can work with a financial thinking partner to find out what tax planning tools and strategies are right for you and your unique situation. 

Reach out to Snowpine Wealth and let Ryan Smith guide you through the maze of high-income tax planning. Let him alongside your CPA or recommend one to transform your hard-earned income into a robust, tax-efficient legacy. Don’t hesitate to lighten the load of your next tax return.  Schedule your complimentary consultation with us today.

Securities and advisory services offered through Commonwealth Financial Network®, Member FINRA/SIPC, a Registered Investment Advisor. Fixed insurance products and services not offered through Commonwealth Financial Network®. Snowpine Wealth Strategies does not provide legal or tax advice. You should consult a legal or tax professional regarding your individual situation.