Author Topic: Financial profile and Q on reducing taxable income  (Read 6935 times)

Clean Shaven

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Financial profile and Q on reducing taxable income
« on: April 02, 2015, 02:27:24 PM »
Not sure if this should be in here, or in "ask a mustachian", but -

Just got our 2014 tax return back from the accountant, and wondering if there's anything we're overlooking that would reduce our taxable income.  Here's our financial profile -- anyone care to make recommendations?

Us:
Married, 2 kids (both approaching college age).  Kids are from Mrs CS' prior marriage; joint custody with their father.
We both work full time.  We're both in good health, active - lots of outdoor recreation.
2014 gross income $343K, almost all W2 earnings (very little in taxable interest).

Retirement savings so far:
Almost everything is in retirement accounts.
Between the two of us, about $825K in various retirement funds (mix of Roth, rollover IRAs, 401(k) plans).  Everything is in Vanguard indexed funds.

Ongoing retirement savings:
Me: about $50K/year in a pension & profitsharing plan.
Mrs. CS: we max out her 401(k), currently at about $23K/year (with the age 50+ $5K/annual catchup)

We both work in the private sector, and have funded Social Security for well over the 10 year minimum to generate SS payments.

Non-retirement savings:
About $80K in taxable accounts at Vanguard, all in VTSAX.  Continuing to invest yearly -- contributions to this have been slower, as we have prioritized maximizing savings in the retirement accounts, and in prepaying the mortgage (see below). 

HSA plan:
$12K in a HSA plan.  Just learned recently that we can invest this (it's been all cash), so our plan is to contribute the annual family max ($6650 for 2015) each year, and treat the HSA as basically an IRA.

Cash:
$30K in CDs (emergency fund - around 2% interest)
$90K in cash (some larger house improvement projects are in the works; est. approx. $50-60K outlay for that.) When we're done with those projects, we'll invest the rest.

Debt:
Mortgage: about $130K left on a 30-yr fixed note, 3.5% rate.  We have been massively prepaying it each year, and expect to pay it off in about 2-3 years at most.  We've discussed whether to invest vs. prepay, and simply want the peace of mind of having it all done.

Conservatively, there is at least $600K in equity in the house.  At some point in retirement we plan on selling this house and downsizing; that time is probably 20 years in the future, and we estimate we will be able to pocket $500K or more from the equity at that time, further adding to the retirement $ available then.

No other debt - no car loans, credit cards are paid in full each month.

Future known expenses:
Kids' college: we have a 529 plan for each, with about $30K in each plan, which should be close to covering our share of their college expenses (shared with another household due to divorce).  We'll probably have to add in another $5-8K each.

So, on to the question:
On $343K of gross (not AGI), we paid $73K in federal income tax.  We live in a state with no income tax.  (Also no county or other local income-based taxes.)  That works out to around a 21% effective tax rate.

Anyone see a way to reduce these income taxes?  We max out every tax-advantaged retirement account that we qualify for and that we know of.  We do not contribute to a traditional IRA, but at our income level, that would not be tax-deductible anyway.

We don't own any businesses or any real estate other than the house we live in.  Could real property investment (rental property) offer a way to offset some taxable income?  We've discussed purchasing rental property, but have not explored it very far.
« Last Edit: April 02, 2015, 02:49:59 PM by Clean Shaven »

Doulos

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Re: Financial profile and Q on reducing taxable income
« Reply #1 on: April 02, 2015, 02:48:59 PM »
I suggest Giving/Charity.
I am actually surprised you are not paying more taxes than you are with that income.  You are in the middle of the 33% bracket.

343 - 36 401k - 9 standard deduction *0.33 is $98k.  You got that down pretty far to $73k.

Tithe your 10% ($35k) to your church, the poor, tip your favorite waiter/server/etc and you might be able to drop a tax bracket to the 28%.

343 - 35 - 36 - 0 = 272.  But you have to have more deductions than the $9k standard to get down to that $73k tax.  So I am assuming you could make that $226,850 breakpoint.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #2 on: April 02, 2015, 02:58:25 PM »
I don't have our tax return in front of me -- there were charitable deductions, but the main deductions were mortgage interest (about $8500 paid in 2014), real property taxes (about $5000), and child & standard deductions. 

The mortgage interest for 2015 will be considerably lower due to a large prepayment -- I estimate the interest will be around $3600 for this year.  So that deduction is dwindling too.

marty998

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Re: Financial profile and Q on reducing taxable income
« Reply #3 on: April 02, 2015, 04:17:47 PM »
Be grateful you live in a country and state where your average tax rate is only 21%?

I earn 1/3 of your household and am paying more % wise than you.

MDM

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Re: Financial profile and Q on reducing taxable income
« Reply #4 on: April 02, 2015, 04:30:18 PM »
I am actually surprised you are not paying more taxes than you are with that income.  You are in the middle of the 33% bracket.

343 - 36 401k - 9 standard deduction *0.33 is $98k.  You got that down pretty far to $73k.
Some things:
  One does not pay the marginal rate (i.e., "tax bracket") on one's entire taxable income. 
        The 33% is being paid only on the amount above $226,850.  For 2014, tax will be $50,765 + 33% * (Taxable Income - $226,850).

  Also need to subtract the 4 exemptions (4 * $3950 = $15,800) to get to taxable income.

But back to the OP's main question: it appears you are doing the major things to reduce your tax burden.

Table below, from the case study sticky spreadsheet, uses 2015 rates:

Filing Status21=S, 2=MFJ
# of earners2
AGI$307,000
Std. Deduct.$12,600
Act. Deduct.$13,500
# Exempt.4
Exemption$16,000
Taxable$277,500
Tax$67,104
Tax after n-r credit$67,104
# Children <172
Child Tax Cred.$0
EIC$0
Net Tax$67,104
Monthly$5,592
Mtg. Int. (guess)$8,500
Prop tax$5,000
Charity$0
Item. Deduct.$13,500

ysette9

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Re: Financial profile and Q on reducing taxable income
« Reply #5 on: April 02, 2015, 04:44:05 PM »
I agree with other posters that for your income level, that overall tax rate seems to be pretty low. I don't remember the exact numbers off the top of my head, but we definitely paid more than that last year and our household income is around the $300k range. Congrats!

MDM

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Re: Financial profile and Q on reducing taxable income
« Reply #6 on: April 02, 2015, 04:56:33 PM »
Just noticed the "age 50+" - and am guessing that means "between 50 and 55" because if 55+ there is an extra $1000 per person that could go into HSAs.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #7 on: April 02, 2015, 05:54:56 PM »
Thanks everyone - sounds like we're doing the right things in general, as far as minimizing tax burden.

Just noticed the "age 50+" - and am guessing that means "between 50 and 55" because if 55+ there is an extra $1000 per person that could go into HSAs.

Yes, my wife is 50, I'm a bit younger, so that extra $1000 HSA contribution is not available.  We have only one HSA, as we are both insured under my health plan through my employer.  My understanding is that in order to qualify for the extra $1000 per person (age 55+), each person has to be the holder of the HSA account (i.e. individual HSA accounts) -- is that not correct?

MDM

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Re: Financial profile and Q on reducing taxable income
« Reply #8 on: April 02, 2015, 06:02:14 PM »
Yes, my wife is 50, I'm a bit younger, so that extra $1000 HSA contribution is not available.  We have only one HSA, as we are both insured under my health plan through my employer.  My understanding is that in order to qualify for the extra $1000 per person (age 55+), each person has to be the holder of the HSA account (i.e. individual HSA accounts) -- is that not correct?

Yes, separate (individual) HSA accounts - but separate insurance policies are not required, so your family policy would suffice.  When you are both 55+ you can split the $8650 (or whatever the limit will be then) between the two of you anywhere from $1,000 / $7,650 to $7,650 / $1,000.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #9 on: April 02, 2015, 06:22:36 PM »
Interesting -- thanks MDM!

Scandium

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Re: Financial profile and Q on reducing taxable income
« Reply #10 on: April 03, 2015, 06:18:50 AM »
Well you already screwed yourself out of huge deductions by prepaying your mortgage. Why would you do that?! You could have  invested instead, deducted much more and invested more due to lower taxes! I guess you could take out a $400k mortgage and dump into VTSAX,  and you'd get a nice fat interest deduction next year..

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #11 on: April 03, 2015, 06:26:28 AM »
We discussed whether to prepay or invest, and decided to prepay (despite the analysis you stated), for the surety of having the debt completely cleared.

This was based, in part, on asking ourselves : "would we borrow money in order to invest it and try to achieve a better return in the market?"  For us, the answer was a definite "no."  YMMV.

Scandium

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Re: Financial profile and Q on reducing taxable income
« Reply #12 on: April 03, 2015, 06:35:13 AM »
We discussed whether to prepay or invest, and decided to prepay (despite the analysis you stated), for the surety of having the debt completely cleared.

This was based, in part, on asking ourselves : "would we borrow money in order to invest it and try to achieve a better return in the market?"  For us, the answer was a definite "no."  YMMV.

Well this is debated ad nauseam so no need to repeat it all here. Just want to point out you don't have the "surety of having the debt completely cleared", as it's not paid off yet. If you lost your income now you're much worse off. Which is another reason I don't like prepaying a mortgage. It's not just about investing in the market, it's also about liquidity.

I asked myself "would I rather tie up my money in an extremely illiquid asset, for no benefit until the day I pay off. Or would I have it available should I need it, and the ability to pay off the mortgage in one go in the future".

And before someone say HELOC; call me crazy, but if I loose my job I would not be particularly interested in taking up more loans.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #13 on: April 03, 2015, 06:41:08 AM »
Understood. There's no clear right or wrong answer either way, for every person.

DavidAnnArbor

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Re: Financial profile and Q on reducing taxable income
« Reply #14 on: April 03, 2015, 07:05:47 AM »
You could buy an electric plug in vehicle and get a tax credit. You can install solar energy on your roof and also get a tax credit.  But of course that just means you ultimately spend more money.

UnleashHell

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Re: Financial profile and Q on reducing taxable income
« Reply #15 on: April 03, 2015, 09:36:03 AM »
you could reduce taxable income by stopping work....

bognish

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Re: Financial profile and Q on reducing taxable income
« Reply #16 on: April 03, 2015, 11:50:49 AM »
Not to pile on too much of the mortgage prepayment, but keeping the interest deduction is a way to reduce future tax burden. They way we are approaching this is to put the prepayment funds into a specific investment pot. Market returns should beat the interest rate we are paying and we get the tax deduction. Once the investment balance hits the remaining principle of the mortgage we can decide to pay it off all at once or keep the liquid investment. This also give us options in the lose income before mortgage payoff scenario.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #17 on: April 03, 2015, 12:05:20 PM »
Not to pile on too much of the mortgage prepayment, but keeping the interest deduction is a way to reduce future tax burden. They way we are approaching this is to put the prepayment funds into a specific investment pot.

That's not a bad way to do it - thanks.


forummm

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Re: Financial profile and Q on reducing taxable income
« Reply #18 on: April 04, 2015, 09:13:33 AM »
you could reduce taxable income by stopping work....

Or buying a bunch of bad investments, letting them go down, and selling them.

bdbrooks

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Re: Financial profile and Q on reducing taxable income
« Reply #19 on: April 04, 2015, 09:39:55 AM »
Where is your retirement savings? You could potentially do a backdoor roth conversion. This would be less appealing if you have significant money in traditional IRAs. If most of your retirement money is in 401(k) or Roth IRAs then this would be a great way to go. It wouldn't reduce your taxes paid right now, but would decrease the taxes paid through your future.

You mentioned that you didn't want to do a non-deductible IRA so my guess is that you have significant funds in traditional IRAs which kinda screws up the backdoor roth conversions.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #20 on: April 04, 2015, 10:23:10 AM »
We each have traditional IRAs which are rollover 401ks from prior jobs. I have an inquiry in regarding whether I can roll in my rollover IRA into my current 401k plan, which would then allow for doing the backdoor Roth. Since the rollover IRA and the current 401k are both at Vanguard, I'm hopeful they will allow it.

As it currently is, both rollover accounts have too much in them to make doing the backdoor Roth worthwhile.

Clean Shaven

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Re: Financial profile and Q on reducing taxable income
« Reply #21 on: April 04, 2015, 10:24:18 AM »
Also, while quitting or making bad investments would reduce taxable income, they're not really the sort of move we want to make.

Solar power wouldn't work that well at our house - lots of trees (shade) and the roof is generally snow covered in winter.

tj

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Re: Financial profile and Q on reducing taxable income
« Reply #22 on: April 04, 2015, 12:01:26 PM »
I think the people who are jumping on him for paying off the mortgage are being dumb, they are married soooo they would have to spend a whole bunch in interest just to get over the standard deduction (over $12k)

Your effective rate is quite low for your income level - so enjoy it! You'll lose the exemptions for your kids soon as you said they are nearing college age, so expect to pay more. Invest in low turnover stock funds and tax exempt bond funds. That's all you can do.

Real estate isn't going to do anything for you tax wise - you make way too much to take passive loss against active income. If you have another reason to invest in real estate , then I would consider it, but tax reasons would not be smart, in my opinion. Rental income is taxed as ordinary income. Qualified Dividends, Tax Exempt Interest and Long Term Capital gains are taxed at much lower rates.


DavidAnnArbor

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Re: Financial profile and Q on reducing taxable income
« Reply #23 on: April 04, 2015, 02:42:11 PM »


Solar power wouldn't work that well at our house - lots of trees (shade) and the roof is generally snow covered in winter.

I believe there's also a tax credit for installing geo-thermal energy which helps to significantly reduce heating costs.

Roland of Gilead

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Re: Financial profile and Q on reducing taxable income
« Reply #24 on: April 04, 2015, 06:02:16 PM »
I feel your pain.   I just mailed the IRS $1270 because the $58,000 they withheld from our W2 was not enough for them.  No kids or mortgage, so we just had the standard deduction.

But revenge is coming!  Quit work on March 30 and next year I will be able to make our income as low as I want by using already taxed cash for living expenses.   Shooting for around $21,500 income so the feds have to pay me $8,000 in ACA subsidies and cost sharing.   Muah hah hah.