Eric Sheldon CPA, PC

How Can the Rich Pay So Little in Taxes

You may have heard that the uber-wealthy pay little in taxes. In some cases, it’s true. But how? The better question might be, how can you also reduce your tax bill?

 

Unlike how the rest of us contribute to taxes, through our paychecks, the wealthy may not have any income on their tax return. They avoid the ‘income’ field by delaying or avoiding taxes on investments. For example, if someone has $2 million in stock and it grows to $4 million, they won’t pay tax on the increase until they sell. Taking that one step further, they may not have to pay tax then either if they can use it to offset losses with profits.

 

Another tactic is to use appreciated property as collateral to buy new investments. If those assets are held until the person dies, there are no capital gains. And, their heirs inherit the property based on its value at the giver’s date of death not purchase.

 

While most of us earn money through salaries and benefits, the super-rich often receive income through interest, dividends, capital gains or rent, or investments also known as capital income. In addition, many executives receive stock-based compensation rather than a regular salary. When it comes time to sell, they might sell off losing investments to negate their taxable growth.

 

When they need cash, they can borrow against their portfolio, known as asset-based lending, which is not taxable or reported on a tax return. This tactic eliminates their need to sell appreciated investments that may incur capital gains.

 

There are also estate planning strategies, like dynasty trusts, that allow families to pass wealth from generation to generation without incurring estate taxes.

 

Charitable gifts also provide a way for the ultra-wealth to bypass taxes and claim a federal write-off (up to 60% for cash contributions and 100% for qualified contributions) of their adjusted gross income if they itemize their taxes.

 

Similar to charitable gifts, donor-advised funds that benefit charities over time can be a way for the wealthy to avoid paying taxes. For large gifts, the donor may establish a private foundation as well.

 

How can I use these tactics?

Here are several strategies you can use to reduce your tax bill even if you’re not among the uber wealthy.

  1. Donate to charity. It’s deductible if you itemize and declare deductions rather than claiming the standard deduction, which for 2022 is $25,900 for married couples filing jointly; $12,950 for single filers, and; $19,400 for heads of household. Taxpayers can deduct $300 (single tax filers) or $600 (married, joint filers) in cash contributions on the federal tax return even if they don’t itemize.
  2. Property taxes are deductible on your federal return if you itemize, up to $10,000 for married joint filers and $5,000 for single tax filers.
  3. Depreciation or the loss of value in a business property that occurs over time may also be deducted. For example, business equipment and rental property improvement.
  4. Many business expenses are tax deductible for business owners.
  5. Investment income held for more than a year may have a low capital gain. If you sell it before the year is up, you will be taxed at a much higher rate depending on your tax bracket.
  6. The step-up basis is an interesting way to help heirs save tax dollars on assets they inherit. For example, you purchased an investment for $10,000. Then left it to an heir. Upon your death, the investment was worth $100,000. The heir sells the asset. He/she would pay tax only on the $10,000, not the $90,000 in profits.
  7. If you’re trying to avoid inheritance tax or estate taxes, creating an irrevocable trust in which to transfer assets is a good option. That way the trust becomes the “owner” of the assets. The person who creates the trust then names beneficiaries, who would pay no estate or inheritance tax for the assets.

 

Maybe you’ll never be among the wealthy. But that doesn’t mean you cannot put tax strategies in place that can help you and your heirs save on taxes. Reach out to me for help creating a tax strategy today that helps you (and your heirs) avoid paying taxes tomorrow.

 

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About the Author

Eric Sheldon

Eric Sheldon

Eric Sheldon is a certified public accountant with more than 25 years of experience in a wide variety of industries. He's the owner/operator of Eric Sheldon CPA, PC, an accounting firm that specializes in providing tax strategy and preparation, accounting, and bookkeeping services to individuals and small business owners.

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