I Make Too Much Money. What Are Some Ways I Can Lower My Tax Bill?

If you’re earning a higher income and looking to reduce your tax bill, here are some friendly strategies to consider:

1. Maximize Retirement Contributions: Putting money into retirement accounts like a 401(k) or IRA can lower your taxable income. These contributions are often tax-deductible, which means they can reduce the amount of tax you owe. For example, if you make $100,000 a year and contribute the maximum $22,500 to your 401(k), you could lower your tax bracket from 24% to 22%, saving you $4,950 in taxes. That’s like getting a nice bonus for your future!
2. Contribute to Health Savings Account (HSA) or Flexible Spending Account (FSA). Contributions are made to the account tax-free. As well, earnings and distributions that are used for qualified medical expenses are also tax-free. It’s a smart way to save on taxes while preparing for potential medical costs. The HSA and FSA contribution limits are smaller than retirement contribution limits, but they’re better than nothing. The HSA contribution limits for 2023 are $3,850 for self-only coverage and $7,750 for family coverage. Those 55 and older can contribute an additional $1,000 as a catch-up contribution. The HSA contribution limits for 2024 are $4,150 for self-only coverage and $8,300 for family coverage. Those 55 and older can contribute an additional $1,000 as a catch-up contribution.
3. Invest in Municipal Bonds: Municipal bonds can provide tax-free interest income, which means you can earn money without increasing your tax bill. Just keep in mind that the interest rates are typically lower than other investments, so it’s essential to weigh the pros and cons. You need to do your own math to see if it’d make more sense to you to invest in tax-free or taxable investments.
4. Explore Tax-Deferred Investments: Consider investments like annuities or certain life insurance products that allow you to defer taxes on investment gains until a later date. With deferred annuities, you invest a lump sum or make periodic contributions, and the earnings grow tax-deferred until you start receiving payments.
5. Harvest Investment Losses: If you have investments that have lost value, you can sell them to offset capital gains from other investments, reducing your overall tax liability. If you know that you’d be reporting larger capital gains, it might make sense to harvest the investment loss in the same tax year to offset the amounts. It’s a way to turn a loss into a potential tax win!
6. Consider Donating to Charity: Charitable donations can be tax-deductible, so giving to qualified charities can reduce your taxable income. To claim a deduction for charitable contributions, you must claim itemized deductions (not standard deductions). This means that your itemized deduction amount must be higher than your standard deductions for the charity donation to lower your taxable income. You also must maintain a record of the contribution. This can be a bank record (such as a canceled check or bank statement), a written communication from the organization, or a payroll deduction record. For contributions of $250 or more, you must obtain a written acknowledgment from the organization. For certain non-cash contributions valued at more than $5,000, you may need to obtain a qualified appraisal and attach Form 8283 to your tax return.
7. Consult a Tax Professional: Tax laws can be complex, especially for high-income earners. A tax professional can provide personalized advice and help you navigate the tax landscape effectively.

Remember, the US tax system is progressive, so even if you’re in a higher tax bracket, not all your income is taxed at that rate. If you’re in the 35% tax bracket, remember that only a part of your taxable income gets taxed at 35%. Your taxable income is taxed progressively at 12%, 22%, 24%, and 32% before the remainder over the threshold is taxed at 35%.

Things to Steer Clear Of

1. Reporting a side hustle income in Schedule C, and claiming “business expenses” that result in a huge loss. When reporting income from a side hustle on Schedule C, it’s important to be careful with claiming “business expenses” that could lead to a significant loss. The IRS pays attention, and while you might be able to claim a loss for one year, regularly doing so could raise red flags and lead to an audit.
2. Claiming “adjustment of income” on Schedule 1. It’s crucial to be cautious. The IRS is likely to scrutinize taxpayers who make questionable loss claims. If you can’t substantiate your claims, it’s best to avoid making them in the first place to steer clear of trouble down the line.
3. Getting creative on credits and deductions. It’s essential to play by the rules. We once assisted a taxpayer who claimed the Fuel Tax Credit for her Uber driving side hustle. However, this credit is typically not available to individual taxpayers and is limited to specific uses like off-highway business usage, agriculture and farming, and certain vehicles. As a result, the IRS audited her and she ended up owing additional taxes.

It’s important to note that tax strategies should be approached with careful consideration of your overall financial goals and in consultation with a qualified tax professional to ensure they are appropriate for your specific situation.