The best times to pay taxes are never or later. A line told to me by my estate planning attorney and one I often repeat. The truth is taxes are an inevitable part of life.
You will owe them, I will owe them.
I remember sitting down in 2009 with my mom excited to show me her custom Excel document. You see she had neatly broken down my pre-tax signing bonus, spending assumptions, and tax bill. My eyes immediately jumped to the tax bill. “I am going to owe that much”.
Since then, I have explored, been pitched, and researched nearly every tax strategy out there. My conclusion is this ~ many of the best tax strategies are not the complex one-offs, they are the ones you can implement.
First, understand that taxes are a lifetime game. The goal is to pay the lowest amount over your lifetime not just one single year.
Second, understand that taxes are unique to you. The way you earn money, the things you care about, and how you choose to invest will all affect your tax bill.
Third, understand that there is a lot of misinformation out there when it comes to tax planning. My goal is to bring you only strategies I have personally done or researched deeply and implemented with clients.
5 Tax Strategies
I want to break down five strategies I use to help lower my tax bill. The breakdown of each will be as follows.
The Strategy
How to use it
How I use it
Why I use it
The tax benefits of using it
Sound fair? Great here we go:
1) Retirement Accounts
Perhaps the most straightforward strategy I use. Retirement accounts are simple in theory, the IRS provides you either a future year tax incentive (deferral/tax-free growth) and/or a current year tax incentive (deduction) to contribute.
I make 401(k) contributions up to my company match which is 5%. I do not max out this account simply because I want increased flexibility with my investments. I also utilize a backdoor Roth IRA strategy each year. This allows me to contribute $7,000 in 2024. The last “retirement” strategy I use is a Health Savings Account or HSA. While this money is earmarked for future health care expenses I group it into this bucket. My contribution for 2024 is the family maximum, $8,300.
I use my retirement accounts for tax benefits received. I do think they can be good to build the muscle of saving for those starting their wealth-building journey as well.
Overall, these contributions won’t save me more than a few thousand dollars in any given year. Yet combined with decades to invest that money the future tax savings add up quickly.
2) Tax Efficient Investing
Everyone thinks of saving on taxes as they are earning money from their career but I am fascinated by saving taxes on the money I am earning from my investments. The idea is simple, compound my investments and pay as little tax as possible along the way.
The biggest way I do this is through investing in exchange-traded funds or ETFs. These are baskets of stocks similar to mutual funds with one key difference. They rarely pay capital gain distributions (like mutual funds) at the end of the year. This means that all of my gains are tax-deferred until I choose to sell the fund. The only tax owed (assuming I don’t sell) is from the dividends the funds pay. While I also incorporate more nuanced strategies specific to me, ETFs are a great starting point to understand.
I use these because the large majority of my assets are in taxable accounts. Remember, I like the flexibility of investing outside of retirement accounts plus retirement accounts have strict yearly limits. My goal is to reduce the tax drag on my portfolio and increase my after-tax rate of return.
Here is an example of two portfolios:
The ETF portfolio has no capital gain distributions.
The mutual fund portfolio has capital gain distributions.
*This is hypothetical and meant to illustrate the tax drag that can occur.
3) Tax Loss Harvesting
Tax loss harvesting is selling a position that has gone down in value to capture the loss. In conjunction, you immediately rebuy an equivalent position. This allows you to lock in the loss for tax purposes but stay invested in the market.
I use this in my portfolio when we see pullbacks in the market. If I have a position or a fund that is at a loss, I will sell it lock in that loss, and buy an equivalent position. Doing this over time has created a tax asset, the loss I created then can be used in both current and future years.
I use $3,000 of losses to offset current year income and often carry forward additional losses to future years. As I continue to grow my portfolio and my life changes there will inevitably be things I want to use my investment portfolio for.
By having a tax loss in the holster, I can reduce a future tax bill by using this tax asset to offset the gains when I do sell investments.
4) Donating to Charity
Donating to charity is about the heart, not the tax benefit. With that said, I have yet to meet anyone who would prefer less money to go to their favorite charity and more money to go to the IRS. That is why one of my favorite strategies is utilizing a Donor Advised Fund (DAF).
A DAF is an account that allows you to supercharge your giving. Instead of giving directly to a charity you can gift cash or stock (preferred) to it. You then can invest the money inside of the DAF and grant the money to charity over your desired period.
I use this to maximize my gifting in years I am in the highest tax bracket. I do this by bunching gifts together. An example is bunching five years of giving into one year to maximize the tax benefit. In addition, I am always giving away appreciated securities or stocks. This allows me to avoid capital gains on those positions while taking the full amount as a tax deduction. A more nuanced but additional reason is it allows me to itemize my deductions instead of taking the standard deduction.
A DAF allows me to give more away, get a bigger tax deduction, and strategically use my appreciated investments. It is a win, win, win.
If you combine my giving in the highest tax bracket plus my appreciated investments, the tax savings add up. That means that not only do I receive a roughly 37% deduction, but I also avoid a capital gains tax on my appreciated investments.
Here is a visual of how it works:
5) Tax Election
It is important to understand an LLC is not a tax election. An LLC is an entity and then you must decide how you want your LLC to be taxed. The four common tax elections are sole proprietorships, partnerships, S-Corps, and C-Corps.
A few questions to consider when determining your tax election:
Do you plan to raise capital?
Do you plan to sell the business?
How many employees do you or will you have?
Do you want to have increased flexibility in taking money out?
Will you earn more from the business than a reasonable salary for your job function?
The answer to the above questions combined with your long-term plan will dictate which tax election provides the biggest benefit.
When we first started Moment Private Wealth we elected to be taxed as a partnership. This provided us with increased flexibility for salaries and distributions in the early days. As we have grown and brought on additional team members, we have shifted to an S Corp election. The S Corp provides less flexibility but decreases our tax bill based on how we pull money out of the business.
This is something every business owner needs to have a thesis on. Why are you structured the way you are and should it continue to be that way moving forward? Your goals, business, desired optionality and cash flow will all play a role in this decision.
The right tax election can save hundreds of thousands in lifetime taxes (if not more), spend time figuring out your optimal election.
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Good tax planning starts with good real-life planning. The above strategies are ones I focus on every year. I focus on them because they help me pay less in taxes and get closer to my financial goals.
Remember the two best times to pay taxes are never or later. Yet as my mom told me, “You always want to be paying taxes, it means you are making money.”
Earn income, plan around it, and understand how to lower your lifetime tax bill.
If you are a pro athlete or entrepreneur who is interested in a free review of your estate plan, schedule a call and talk with a Moment founder.
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*Moment Private Wealth offers information on tax and estate planning that is general in nature. Tax and Legal advice are not provided by Moment Private Wealth. Consult an attorney or tax professional regarding your specific legal or tax situation.
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