A tax-focused understanding of your finances is a crucial component of preserving and growing wealth.
Many people get "killed" on their taxes yearly, but that doesn’t have to be your story.
In Don’t Get Killed by Taxes, P. J. DiNuzzo and Steven Jarvis bust the most common myths that keep people paying too much in taxes. With their permission, we've listed a few of their tax myths below:
Tax Planning Myths:
Myth: There’s nothing I can do about the amount of tax I owe
The tax code is full of CHOICES. Withholdings, filing status, qualified accounts, business structure, timing of income/deductions, and the list goes on. Don’t choose inaction.
Myth: There’s nothing I should do about the amount of tax I owe
There are no awards for paying extra to the IRS. While your tax bill funds many important efforts, proactive tax planning gives you more control over when and if your dollars are available to spend.
Myth: Getting a refund means I’ve won the tax game for the year
A refund is an interest-free loan to the IRS. Taking intentional steps to reduce the total tax the IRS keeps helps avoid leaving the IRS a tip.
Myth: $1,000,000 in my retirement account means I can withdraw $1,000,000 when I retire
Many retirement accounts defer taxes until the future. Deferring taxes is like having a variable rate mortgage with the IRS without any regulation on what the rates can be. Make sure you understand the tax liability that will eventually come due. Take steps today to manage this burden (see "Tip: Use it, or lose it", below).
Myth: It’s too early to worry about my Retirement Tax
Your benefits from many tax savings opportunities are capped annually and expire each year if unused. The earlier one starts being intentional about taxes the better.
Myth: Tax laws are written by tax experts
Politicians write tax laws. Tax laws are about generating tax revenue and influencing behavior. This means you can’t make assumptions about what is “logical”. You or someone on your team must be dedicated to tax planning to get the full value from the process.
Myth: I have a CPA, I don’t need a tax planner
It’s essential to have a CPA in your corner, but having a CPA on your team does not mean you have a tax planner on your team.
Ask yourself, “what did your CPA tell you when they reviewed your tax projection for the next year? Next 5 years? Did they mention your lifetime tax bill?” In most cases, a tax preparer is not looking at years-long, decades-long, or generational projections.
This piece is provided for information only and is in no way tax advice. While every effort has been made to ensure accuracy, only the IRS tax code itself should be considered official.
© Retirement Tax Services
Tax Planning Tips:
Tip: Look forward, not back
Consider how backward-looking the yearly tradition of Tax Preparation can be. After December 31, your taxes (and your tax bill) are largely set in stone based on actions taken in the year past.
Tax Planning, in contrast, tends to be forward-looking. Good tax planning looks for opportunities before it's too late. Good tax planning represents proactive action, organized to make the most of the current tax year and all the years of your life to follow.
Tip: Use it, or lose it (through the year 2025)
Your tax brackets exist each year as a "use it, or lose it" opportunity.
If you don’t fully use your tax brackets each year, they’re lost forever; potentially causing you or your heirs to pay a higher lifetime tax rate than necessary.
It pays to be aware of your tax brackets and utilize them yearly and over time. With tax rates set to rise in 2026, utilizing your existing tax brackets during the remaining years is an opportunity not to be missed!
Here are the 2023-year tax brackets for individual and married filers.
You'll naturally utilize your tax brackets as you earn income, receive pension and Social Security income, or create certain types of investment income. As the income arrives, your tax brackets fill up. Income filling your tax brackets is similar to water filling a bucket.
In the image above, an opportunity exists to fill up the gap below the top of the imaginary 15% bracket. Income filling up the gap will realize a 15% tax rate, and never be taxed as income again. If you don't act, the gap representing the unused portion of this year's tax bracket space expires.
How to "use it":
Is filling the gap with additional income a good idea?
Consider that you'll pay income tax on almost every dime you earn. Most of that income tax bill is due today. Some income can be pushed into the future by saving into a pre-tax retirement account – a 401(k), IRA, 403(b), and 401(a), etc. As your pre-tax savings grow, you're pushing more of that tax bill into the future.
For many taxpayers, it makes sense to consider each and every year if they could pay down some of that tax bill today at a favorable rate. Otherwise, left unattended, that tax bill will someday be paid by you or your beneficiaries at whatever the prevailing rate may be.
For us, choosing to pay some of a bill today beats being forced to pay the same bill tomorrow, but at an unknown tax rate.
Filling the gap with additional income – either from additional earnings from work or from withdrawals from a pre-tax retirement account – is a good idea whenever you might be taxed at a lower rate today than in the future. Done right, this action can ensure the full use of your tax brackets every year, and potentially lead to a lower lifetime tax bill.
Consider a Roth Conversion
Better than a withdrawal, which can incur an early withdrawal penalty before ages 55 or 59.5, consider moving money from a pre-tax retirement account to a Roth account. This action is called a Roth conversion. Roth conversions occur penalty-free. Done right, a Roth conversion can fill the gap just like a withdrawal but create the additional chance to grow tax-free!
Roth conversions stand out to us as an especially powerful tool, no matter your age or income level.
- Roth conversions get funds to a tax-free environment, with a chance to grow tax-free.
- Roth accounts have fewer, often no, required withdrawals, unlike other traditional retirement accounts.
- Whether Roth account withdrawals are forced or taken by choice, there are no taxes to pay.
- In addition, since Roth account withdrawals are excluded from taxable income, withdrawals avoid bumping other taxable income sources into a higher tax bracket. We see this result in lower Social Security taxation, lower earned income taxation, and lower taxation on other required withdrawals.
- Roth accounts also avoid the “inherited 10-year tax bomb” present in other traditional retirement accounts.
Roth conversions should be considered by all taxpayers, even those in the highest tax brackets.
Perhaps most valuable of all, Roth conversions build “tax insurance” – protection against future changes to tax rates.
If you’re counting on your tax rate being highest during your highest income-earning years, and lower in retirement, don’t underestimate how Congress can change tax rates with the stroke of a pen. For instance, President Biden's recent budget proposal included a doubling of the capital gains rate. In addition, his 2021 Build Back Better Act would have made significant changes to tax brackets (as we previously published here).
Regardless of the direction of future legislation, tax rates are already scheduled to rise beginning in 2026.
With tax rates set to rise in 2026, utilizing your existing tax brackets during the remaining years is an opportunity not to be missed! Consider how you can add more water through actions like Roth conversions or even pour water out to target a certain level with your tax brackets.
Tip: Be aware of your silent investment partner, Uncle Sam
One of the most powerful ways to ward off excess taxes is to be tax-aware about your investing. And yet, few investors take full advantage of the many opportunities available at every level. These levels include how you manage your investment accounts, select individual holdings, and buy and sell those holdings along the way.
Tax Planning Techniques:
It’s one thing to harness the tips just described. It’s another to make the best use of them.
In other words, your tax planning techniques matter at least as much as the tips. Techniques like Roth conversions make your tax planning tips more enduring—especially if combined into a unified strategy across your varied financial interests. Tax breaks come and go, and are largely beyond our control. But with a tailored, tax-wise strategy in place, it’s easier to adjust as needed rather than having to start all over whenever something changes.
Effective tax planning is a way to stop overpaying on your lifetime tax bill—and potentially beyond for your heirs.
The particulars may evolve, but there are always an array of techniques to encourage us to save toward our major life goals—such as retirement, healthcare, education, emergency spending, charitable giving, and wealth transfer.
- For retirement
- For high-earners creating tax-free Roths
- For healthcare costs (HSAs)
- For education expenses (529 Plans)
- For charitable givers to help each dollar go further (DAFs)
- For heirs and generational wealth
In short, tax planning is best considered an ongoing campaign staged on multiple fronts over a lifetime, considering:
- Getting a new job
- Buying a home and starting a family
- Selling a home (and possibly trading up)
- Transitioning to a new career
- Taking a leave of absence from work
- Buying or selling a business
- Absorbing the impact of an economic recession
- Sending your children to college
- Selling a home (and possibly trading down)
- Working part-time in retirement (by choice)
- Creating a tailwind for your charitable giving
- Making a life in what we give
- Choosing when to claim Social Security
- Deciphering politics and elections
- Incurring significant health care costs
- Preparing to pass on your wealth and knowledge
Weaving Tax Planning Into the Fabric of Your Life
Tax planning requires attention year-round and an awareness of new legislation. Opportunities to influence an outcome can be fleeting or expire unnoticed.
While each year presents an opportunity to act, good tax planning solutions may require multiple years even decades to effect fully.
We’ve gotten pretty good at building lifelong tax efficiency into our thinking. We avoid the myths and seek to incorporate the tips and techniques in a tax-focused way to preserve and grow wealth.
Could you use an experienced hand to keep your complete financial picture in focus? We’re here to help!