Earned income is subject to additional levies to pay for programs like Medicare and Social Security, to name a couple. Income is taxed at the federal, state, and municipal levels. Taxes are challenging to avoid, but there are numerous tax saving strategies. High-income earners and wealthy individuals may find it demanding to keep up with the most recent tax planning techniques due to the regular changes in tax regulations and growing complexity. Therefore, the following tax saving strategies can help high-net-worth individuals (HNWI) enhance their tax efficiency.
1. One of the key tax saving strategies is to purchase municipal bonds
Lending money to a state or local government body for a preset number of interest payments over a predetermined time frame is essentially what buying a municipal bond entails. The full amount of the initial investment is returned to the buyer once the bond reaches its maturity date. Depending on where you live, state and local taxes may not be levied on municipal bond interest in addition to being free from federal taxes. Investors find municipal bonds appealing because of tax-free interest payments.
Historically, municipal bonds have default rates that are lower than those of corporate bonds. According to a research of municipal bonds from 1970 to 2019, the default rate for investment-grade municipal bonds was 0.1%, compared to 2.25% for international corporate issuers. Municipals, on the other hand, often have lower interest rates. Municipal bonds’ tax-equivalent return is appealing to some investors due to the tax advantages. Your tax-equivalent yield increases as your tax bracket does.
2. Attempt to achieve long-term capital gains
Investing can be a useful technique for increasing wealth. Another benefit of investing in stocks, mutual funds, bonds, and real estate is the favorable tax treatment for long-term capital gains. Depending on their income level, investors who hold capital assets for more than a year are eligible for a preferential tax rate of 0%, 15%, or 20% on their capital gains. The capital gain is taxed at ordinary income rates if the asset is held for less than a year prior to sale. Growing wealth requires an understanding of long-term versus short-term capital gains rates.
To minimize gains and maximize losses, a tax planner and investment advisor can assist you decide when and how to sell shares that have risen or depreciated in value. By selling shares at a loss, tax losses can be harvested in order to reduce the amount of capital gains tax owed. The lesser of $3,000 of the excess losses or the net capital loss may be deducted from other income if capital losses outweigh capital profits. Over $3,000 in capital losses may be carried forward to future tax years.
3. Probably the best of tax saving strategies is to set up a business
A side business not only increases income but also has various tax benefits. Many expenses that are incurred as part of regular business operations can be subtracted from income, lowering the overall tax liability. Health insurance premiums are a particularly significant tax benefit for self-employed people, if certain conditions are met. A company owner may also use the home office deduction to write off a portion of their home expenses if they properly adhere to IRS regulations. You can deduct from your income the share of utilities and internet that you use for your business.
4. Maximize employee benefits and retirement accounts
A contribution to a 401(k) or 403(b) plan up to $20,500 can lower taxable income in 2022 (up from $19,500 in 2021). People over 50 may contribute an extra $6,500 to their basic employer retirement plan. A worker earning $100,000 in 2021 who makes $19,500 in 401(k) contributions, for instance, reduces their taxable income to just $80,500. Contributing up to $6,000 ($7,000 for those 50 and older) to a conventional individual retirement account (IRA) in 2022 and 2021 will qualify you for a tax break if you don’t have a workplace retirement plan.
Based on their income, taxpayers who do have workplace retirement plans (or whose spouses do) may be able to exclude all or a portion of their traditional IRA contributions from taxable income. Depending on whether the deduction is claimed on a single taxpayer’s return, a joint return, a married individual filing separately, and taking into account any participation by a taxpayer in another plan, the deduction for IRA contributions is phased out for adjusted gross incomes at different levels, higher in 2022 than in 2021. The IRS has specific regulations regarding what expenses you can deduct and how much.
5. Make use of a Health Savings Account (HSA)
A health savings account (HSA) can be used by employees with high-deductible health insurance plans to lower taxes. Similar to a 401(k), payroll-deducted HSA payments (which the employer may match) are exempt from an employee’s taxable income; however, direct contributions made by an individual to an HSA are entirely tax-deductible from their income. These upper limits will increase to $3,650 for individuals and $7,300 for families in 2022. Then, without having to pay tax on the earnings, these funds can grow. An additional tax benefit of an HSA is that withdrawals made for qualified medical expenses are also tax-free.
6. Apply for Tax Credits
The Earned Income Tax Credit is one of numerous IRS tax credits that lower taxes. The credit increases to $6,935 for three or more children, $6,164 for two, $3,733 for one, and $560 for no children for the tax year 2022. For the first four years of eligible higher education, the American Opportunity Tax Credit grants a maximum of $2,500 per year, and the Lifetime Learning Credit offers a maximum 20% credit for up to $10,000 in qualified expenses, or $2,000 per return. For people with moderate or lower incomes who want to save for retirement, there is also the Saver’s Credit, which entitles them to a credit of up to 50% of their contributions to plans, IRAs, or ABLE accounts.
