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- [00:00]
A
Today, five tax traps we want to help you avoid.
- [00:10]
B
Brian, I am so excited to talk about this because it is no surprise our tax code in this country is somewhat complicated. It's difficult. And we recognize that there are traps that you could very well fall into and we want to help describe them to you so that you can avoid these tax traps.
- [00:27]
A
I feel like we hit this full spectrum because we're going to give you the ones that you've heard a few of these before. But then I, I think we have an angle for our entrepreneurs and others that you probably have not heard a lot of other financial content creators talk about. So let's jump right in and kind of help people because we all know you can't get away from taxes, but you definitely can minimize taxes. And that's why we even have a disclaimer that we always have to show everybody is that I want you to visualize is that there is a cliff or a line and you need to know where that is. And if you go to the left of that line, that's legal. And tax avoidance that is legal is good. However, if you go over the line and you actually fall off that cliff, that is totally hitting the tax evasion standpoint and that is Al Capone illegal. So you have to know where those lines are and we are clearly going to share what's on to the left of that on the legal comfortable ground territory.
- [01:28]
B
So tax avoidance highly encouraged. Tax evasion highly illegal. So let's talk about some of these traps that you can avoid. Now the first one may be a little surprising. You might well that's not really a trap. But it is when it comes to your personal finance, when it comes to your behavioral finance, this is a huge one and it's blowing your income tax refund.
- [01:50]
A
I didn't find this one surprising. This one actually gets under my skin a little bit. Is because I know for a fact and we've shared this is that people get thousands of dollars back each year. And that sounds good. Matter of fact, there is entire industries you think about car industry, furniture industry. They have tax season where they even are offering. Sometimes it cracks me up is like talking about letting the fox into the hen house. Is when they offer to do your tax return at the car dealership.
- [02:22]
B
Have you seen that? Not good.
- [02:23]
A
You know why they do that? Why do they do that? Is that because they are charitably mind and want to help you get your taxes done? No, because they know the majority of Americans have thousands of dollars in refund that they're Instead of using that money for the good, they're going to let you go buy a brand new depreciating vehicle.
- [02:39]
B
Yeah, some people think that getting a tax refund is like making money. Like, oh, I'm getting money from the government, but all you're really doing is you're getting a return of money that you did not have to pay them. There was actually a breakdown done by Statista that found. Okay, well how do people spend their tax refunds? What they do with it? Well, 48% of folks said they put some towards savings, 34% that they put some towards paying down debt. But 30% of folks said, you know what, I use part of my tax refund just for everyday expenses. And then another 20% said I like to splurge and use this on vacations. Or 10% said I am going to use this for a home improvement or maybe even a major purchase. So when this money comes in, even though it's just a return of money that was already yours, people begin treating it like it was a bonus, like it was something that was not accounted for. And I think a lot of people blow it.
- [03:34]
A
Well, I mean we've talked about the three ingredients to wealth margin and other things that you have to find in your life so that you can actually turn your money into this machine or army of dollar bills that works harder than you can with your back, your brain and your hands. A good start is that tax refund. Because if you look at this stat right here, the typical they predicting that the typical refund this year is going to be $3,004. This is according to Bankrate. If you think about that's $250 a month. Yep.
- [04:05]
B
It's not a tough.
- [04:05]
A
There's an opportunity cost. If you thought about that, either you could have that $250 come into your monthly cash flow. And maybe this is the part I know with post inflation, some people just need this to survive. Maybe you could just be better. File a W4 with your employer, change your withholding and you could have more money for just paying the bills. But also for the financial mutants out there in the audience, maybe that $250 actually makes its way into your net worth statement and actually turns into your army of dollar bills and gets invested. What are we walking away from if we just put our refund to work?
- [04:40]
B
Yes, and don't mishear us, we don't mind if some portion of this goes towards those things we talked about, like a home improvement or like a vacation. But if you can split them, if you could maybe do. Brian, you talk all the time about the 60, 40 rule. Okay, I'm gonna have 60% of this go towards savings and I'm gonna have 40% go towards doing the fun stuff. Just a little bit can go a long way. Brian, you already noted this is about $203,000 a year, is about 250 bucks a month. If you were to just take that 30, that $3,000 and you were to put that to work over the course of 30 years and let's say that you could earn a reasonable 8% rate of return on your dollars. Just investing that $3,000 refund every single year would net you almost $400,000 by the time that you got to retire, by the time you got to financial independence. So when you think about that vacation you want to go on, or that purchase you want to make, or that way you want to blow that $3,000, ask yourself the question, would my future self really want me spending $400,000 by not putting this money to work?
- [05:45]
A
Yeah, I think this is a Roth primer set is what it is. Because if you could do the W4, change your withholding, set up some automatic for the people Roth IRA funding and I think you'll be well on your way to being a seven figure tax free millionaire. That's my hope for you.
- [06:04]
B
All right, Brian, so we, okay, we talked about blowing the refund. That's not something you want to do. Let's talk about sort of the other side of this. Because a refund is ultimately when you pay too much into the system. There is in fact a tax trap that some people fall into or they don't pay enough into the system. And when that happens, the IRS then comes and says, hey, not only do you owe us these taxes, we're also going to charge you an underpayment penalty.
- [06:28]
A
This is one in content meeting the team was just like, what? Why are we putting this one in? I'm like, guys, as my experience as a tax preparer, really 16 years of actually working on doing tax preparation, this is the one I had more phone calls with with people trying to explain this. So I'm just going to go ahead and lay it out there. I know this isn't the sexy one, but I promise you, if you're anybody who does a gig economy job, if you're self employed, if you're an entrepreneur, you need to know how estimated tax payments work. Because there's a lot of jobs in this new modern world that we live in that nobody's paying the taxes for you, they're kind of counting on you as the business owner because think about a gig economy. If you go and you drive for Uber or Lyft or do or you delivering food, they're just going to treat you like an independent contractor. That means you are essentially self employed. So if you don't understand that every quarter the government's counting on getting their money and they have created a system that if you don't give them what you owe them on time, they will not only collect that taxes when you file your tax return in April of the following year, but they're going to slap you with a penalty because you didn't give them the money early enough. They're going to slap some additional interest on it. So guys, you need to lean in. Don't tune out on this. You got to understand what is the safe harbor? How do we keep yourself, keep you safe?
- [07:52]
B
Yeah, it's Brian. It's so interesting because I hear a lot of people say, oh, I'll just save the money until the end of the year before April 15, I'll just pay a tax. It doesn't work that way. They actually do require you to pay it as you earn it. That's why those estimated tax dates make so much sense. And by the way, the estimated tax dates, yeah, they're annoying because they make no sense.
- [08:09]
A
Oh, think about. You understand we have to pay our taxes on the quarter, right? But tell me if this sounds like a quarter. April 15th. That's right after March 31st. March 31st is the end of the quarter. April 15th. That one makes a lot of sense. Second quarter. When does the second quarter end?
- [08:29]
B
Well, let's say June 30th. So the estimated tax must be due July 15th. Right. That's what makes all the sense.
- [08:34]
A
You know when the second estimated tax payments due? June 15th. Before the quarter's up earlier. All right, all right, let's fast forward. Third quarter ends on September 30th. When do you think the third quarter estimated tax payment is? September 15th. Once again, before the quarter ends. Then fast forward that fourth quarter. Do you know when it's due? It's back to being reasonable. It's January 15th of the following. So the year ends on December 31st. They let you make your estimated tax payment by January 15th. Do you see how odd that is?
- [09:03]
B
Confusing.
- [09:03]
A
I mean, it's almost like this system is designed in a way to really kind of spin your head a little bit and get you in some trouble. And that's why you got to understand And Bo, I want us to kind of talk about what are, how do you keep yourself Safe? There's really two concepts. You either can pay 100% of last year's taxes. Now, if you make over 150,000, that actually gets pushed up to 110%. Or you can make sure you pay 90% of this year's current liability. Well, the problem is nobody really knows what your current liability is until you get into the preparation phase, which is the following year. So I would encourage people pay attention. Are you under $150,000? If you are, make sure you've paid into 100% of what you paid last year to keep yourself safe. If you're a person that makes over $150,000, there's nothing wrong with basing your estimated tax payments off of 110% of your income. And then pay attention to when your income comes in. Because some people, if your income all comes in the fourth quarter of the year, there's nothing wrong with you kind of annualizing your income when it comes to doing your tax return to minimize. The government lets you work that if you can them, that's when you earned your money. But if you earned your money throughout the year, you better be making estimated tax payments in those quarters that you earn the income.
- [10:18]
B
Okay, Brian, we talked about blowing a refund. We also thought about triggering an underpayment penalty which often applies to self employed individuals or side gig economy folks. Let's talk about this third tax trap that I think almost everyone falls into, no matter whether you're low income or you're high income. Because we've already alluded to the fact that our tax code is fairly complicated and there's a lot of nuance to it. And what you may find when you start looking in the pages of our tax law is that there are income cliffs. And when you cross over this cliff, something changes about the way that your taxes are calculated and the way that you pay your taxes. And by the way, we're not talking about marginal tax brackets. That's not what we're talking about. We're talking about when your income crosses through a certain threshold, there are things that you are no longer allowed to do or things that you are no longer able to take advantage of.
- [11:13]
A
Yeah, I mean, we put together a list of some tax cliff examples. This is why you need to be paying attention. This impacts all kind of different levels, but like Roth IRA contributions, we know that by the way, used to be around 150,000. Now it's close to 200,000 for married couples, it's a little over. You can't even make Roth IRA contributions. Once you get over those thresholds, you think about child tax credit. Now they've actually, this has gotten bigger, but it's still $200,000 to $400,000 depending upon if you're single versus married couples. On if you get the full tax credit, lifetime learning credit. These are going to have thresholds. You don't qualify for some of this if you make too much money. Same thing on American Opportunity Credit, another education credit, student loan interest deduction. You make over a certain amount of money. All of a sudden those student loans that they say are deductible and they say, hey, this is going to be okay because you're going to be able to deduct the interest. No, it's no longer deductible to you. And that's right. As you cross over six figures, qualified adoption expenses, premium tax credit for anybody who's using the health care exchange, all of these things. And by the way, that's just for people who are on the income and not even fully retired. A lot of times there are different things that happen for retirees or people who are in lower income situations like the 0% long term capital gains rate.
- [12:31]
B
Yeah. And with a little bit of planning, you can avoid a lot of these. Now, a lot of people think about these cliffs like, oh, well, this must just apply to high income individuals, or maybe this is only for low income individuals. Contrary to those two thoughts, these are spread all across the board. So the odds are no matter where your income is, you are likely bumping up to or running into some of these. So if you can recognize where these cliffs are, you can educate yourself on them. There are ways that you can begin to manipulate your income to fall just below the cliff. And falling just below the cliff could be meaningful in terms of how much tax you pay or what credits you're available to take advantage of. And one of the things we talk about, Brian, this is a big one that a lot of people don't realize is we know that long term capital gains are taxed at different tax rates in our ordinary income. Most often people think, okay, if I have long term capital gains are going to be taxed at 15%. Well, there's actually a threshold where your long term capital gains can be taxed at 0%, meaning if you were to buy a stock today and you were to hold it for a year and you were to sell it for a gain, if your income falls below these thresholds, you would pay no money on those capital gains. For single individuals, the income limit is $48,350. And for married filing jointly, it's just under $97,000. And so you might be thinking, okay, well that's those incomes that, that doesn't, if I'm a single person, I have to have a super low income, even qualify. Well, that's not necessarily the case when you think about how this is complicated. Let's take someone who earns the median average income in this country, $80,600, right? That's their total earned income. Well, let's assume that they take advantage of their 401k and they max that out at $23,500. And let's also assume that they get a frontline deduction for their HSA contribution. So they pull $4,300 out of their income for HSA contributions. We also know that they're going to be eligible because they're a single individual for a $15,000 standard deduction. If you take the 80,000 minus 23, 5, minus 4,300, minus the $15,000 standard deduction, that still leaves $10,000 of capital gain income that you could generate before you cross into that cliff. So that means you could be an $80,000 income individual. You could sell it to 10,000 thousand dollars of gains in your taxable brokerage account and pay 0% capital gains rates on those gains.
- [15:04]
A
But you had to take an active role in this because if you'd have just made one different decision, maybe instead of doing 23,500 in the pre tax 401k where you got the deduction on the front end, maybe you, because you're early in your career, you say, let's do the Roth change Everything no longer qualify for the 0% capital gains. And that's why you kind of have to just know where these cliffs are so you can make the right decision. We're not saying one is better than the other, but you at least have to do the math. And I think if you don't understand where these cliffs are, you won't see the opportunity and you won't even give yourself that, that chance to see if this is something you should be taking advantage of.
- [15:41]
B
So when you think about this, there are some optimization strategies if you're someone who is close or approaching this 0% capital gains bracket, or maybe it's not something that happens for you every year, but it happens in a single year and you might want to take advantage of it. One of the things you can do is a strategy called gain acceleration. This is where you say, hey, I'm going to be lower income this year. Maybe it's in the year that you retire before retirement income starts or something like that. I'm going to go ahead and accelerate gains. I'm going to reset my cost basis on my gain positions. I'm going to pay 0% capital gains and I'm going to steadily increase my basis through time without having to pay anything to Uncle Sam. That's a great strategy that you can use to take advantage of the 0% capital gains bracket.
- [16:25]
A
I also like when you see people all the time. They will split large transactions in two years. If you know you have a purchase coming up in January or February of next year, why not place a trade in November, October, November, December, and then place the second trade in January. Those are two tax years. If you could qualify for the 0% capital gains on that, that would be well worth the extra effort versus just waiting until the following year, placing the trade taking all the gain in one year. You'd have missed out on a key opportunity.
- [16:59]
B
So this is obviously a cliff that you want to know about if you are a lower income individual or you're going to have a lower income year. But there are other cliffs that you ought to at least make yourself familiar with. If you're a higher income earner. You're going to want to know where the lifetime learning credit cliff is. You're going to want to know where you qualify for the child tax credit. Because if you cross over that cliff, you lose it. And these could be thousands of dollars on your tax return every year. Maybe you're someone who's receiving a premium tax credit. Well, you don't want to earn too much income or that premium tax credit could begin to be reduced. But it's not just for people that are in their working years. It's not just for people that are earning. There are also cliffs that retirees need to be aware of.
- [17:41]
A
Yeah, this is. If you're one of these people and you found out that you could take Social Security at 62 and you're like, that sounds like a great idea. So you took the money and then you proceeded to continue working, you're going to quickly realize that once you make over 15 grand or so, the government really loves taxing Social Security benefits. But there's also, you often hear Social Security can be taxed up to 85%. You realize if you get the threshold and your income low enough, Social Security can be completely tax free. So pay Attention to where those thresholds are. Do a lot of planning. And it's not just Social Security because a lot of times you have irmaa, you think about Medicare. Medicare bases your premiums off of your earning potential or your taxable income. You can pay attention to what's going on with those surcharges. If you can manipulate your income because you have your three buckets, you can actually control how big your Medicare premiums are going to be.
- [18:36]
B
Remember, one of the themes here is you have to take an active role to educate yourself to know where these tax traps are. Obviously, recognizing where cliffs are is one thing that you need to do. But this next tax trap is one that drives me nuts. And whenever we review our clients income tax returns, when they come in their very first year, this is one that we always catch and we say, man, this was a squandered opportunity. And that tax trap is what we're calling not filling the bucket.
- [19:06]
A
Yeah, this can come in many different ways. I mean I think about like health savings accounts. When I look at somebody's tax return and I say, hey, their employer set up a high deductible health plan. They have, they qualified for a health savings account. The employer even primed the pump by putting some money in there. But they left 1500 or $2000 on the sidelines that they totally could have gotten a deduction for. It's going to grow tax free. And then they even have a closet retirement account if they don't even need this for medical purposes. This is a no brainer. They should have done this. Or Roth IRAs. I mean, guys, when I wrote Millionaire Mission, I have an entire section devoted to my regrets over not maximizing my Roth IRA for these five years now. I had a good excuse. I was starting a company, I had a lot of things going on in life. I still funded something, but I left $1,000 here, I left 2,000 there. I detail by using my actual numbers that that was a multiple six figure mistake that I still have regrets about just because I didn't fill up the buckets of my Roth ira. So don't have those regrets too.
- [20:11]
B
Or maybe you're someone who said, you know what, I'm in step six of the financial order of operations. I'm going to max out my 401k. And man, I'm so excited because I set that up a couple years ago and I have $22,000 a year going into my 401k. But if you don't update it, you didn't realize, well, the number changed to $22,500 and then it went to 23 and now it's at $23,500 and you leaving room in your bucket. That could be either additional tax savings if you're doing the pre tax contribution or it could be additional tax free growth if you're doing the Roth portion. So make sure you understand where these contribution limits are and if you are taking advantage of these accounts, take full advantage of them. A great thing to do every year when you review your tax return is to go back and see have I actually maxed these things out. And if not, and it is something like the HSA or it is something the Roth ira, you can actually go back in time and still fund for last year. So don't miss this opportunity because it can have a meaningful impact over the long term. Because just a little bit can go a long way.
- [21:14]
A
Well, that's the thing. I think a lot of people, especially if you're watching this content, you're in your 20s or even early 30s, you just feel like everything is working against you. And you hear us say, hey, if you can just save and invest 25% of your gross income, you're like whatever. I can't. I'm not even reaching 5% right now to get that full match for my employer. Why are these guys talking about 25%? Guys just start anywhere. I just want you. It doesn't have to be all at once. I even understand. And that's why when people go to moneyguy.com resources we talk about what saving and investing 25% can do for you. Also we have a deliverable on moneyguy.com resources what 1% more can do for you. Because I know when you're in your 20s, it's aspirational to save at that level. But just 1% more when you're in your 20s and when you're in your 30s can have huge impacts. Those little decisions have big, big, big, great, big beautiful tomorrows waiting for them right behind the corner.
- [22:13]
B
Yeah. The compounding effect can be unbelievable. If you think about someone who just maxes out their Roth IRA every year and just maxes out their HSA every year, and they do that behavior every single year over an entire working career. If you were to just start that at the beginning of your working career and just max out those two accounts, those step five of the financial order of operation operations accounts, and you could earn 8% rate of return, just those contributions alone could end you could get you to a retirement portfolio of almost one and a half million dollars just by filling up those. So if you can begin that practice early on and not miss those opportunities, your future self will thank you for taking advantage of them.
- [23:01]
A
Bo, I want to close out with one more thing that I think people struggle with. This is when I set up the show and I said, I want you to visualize there's a line that you don't want to cross. You know, if you're over to the left of it, you're on stable ground. If you go to the right of it, you are falling off the cliff. You got yourself in trouble because it was even I saw on social media when we were in between the recording, the next show where There was a YouTuber who was crying because $500,000 had been just yanked by the IRS out of their account. And they have the right to do that, by the way. They can come and take your money from you because they have the guns. We've all explained this, but there's a lot of content out there on social media and we reacted to a lot of these where they are encouraging people to be way too comfortable being in the gray.
- [23:52]
B
That's right.
- [23:52]
A
And guys, I want you to know I've represented clients before the irs. There is nothing sadder than a client that self represents himself to the IRS and then they break down in tears because they have taken some liberties with the tax code and now they're paying the consequences for when the taxing authority decides, no, this is not deductible just because we gave you a refund for that year and a half while we were getting our ducks in a row to figure out you were trying to rip us off, they can take all that money back. They can add penalties, they can add interest, they can even go beyond. If they figure out there's fraud involved, they can take away that three year limit. There's a lot of things they can do. So stay away from the gray zone. I want you to be very comfortable with what's deductible versus what is going to get your butt in jail.
- [24:43]
B
Now, there are some areas of our tax code where there is some subjectivity, but it's relatively small. Most of our tax code is black and white. But what happens is there's tons of folks out there that spread misinformation that give you bad information. And most often this comes in the form of someone saying, oh, okay, well why don't you spin up an LLC or you need to go start an S corp or you need to do this and then you can start deducting this and you can write off your meals for this and you can write off this. And this is deductible. This is deductible. This is deductible. This is deductible. That all sounds great until it doesn't.
- [25:19]
A
Yeah, it's all deductible until you get caught.
- [25:21]
B
And when you get caught, it is a bad, uncomfortable, negative, life affecting thing. So being and living in the gray is not what you want to do. So be careful when you start listening to someone else tell you all of the tax moves that you ought to make and all the tax loopholes that you ought to take advantage advantage of because there's a real good chance that they're not giving you sound information.
- [25:47]
A
So we're going to continue to share with you the stable ground, the real deductible things that you should consider because the government does want you to minimize your taxes. But we're also going to help you on the other side too. We're going to continue creating reactive content where we draw light. We try to disinfect all these people who are sharing the crazy stuff out there. By the way, I don't know how the IRS, if I'm the IRS, I'm sitting there and I'm just going to watch TikTok. I'm just going to go watch TikTok and then see these aggressive things and then make mental notes on people ought to go just see what they actually did. Or is this all just for engagement or click traps? Because I just have a hard time believing that people are incriminating themselves. They're encouraging you to do it too. But I have a hard time believing they're putting this on record and then following these traps themselves. So be careful who you let in your head. I mean these things because they're not going to be there to protect you. They're entertaining you. They're not going to protect you. And that's why we've tried to always create an atmosphere of education so you can be that much better with how you handle every dollar that comes into your army of dollar bills.
- [26:53]
B
Remember, tax avoidance is highly encouraged. And if you can do a little bit of planning, educate yourself on how the tax code actually works and what things you should actually be taking advantage of, it can have a meaningful impact in your financial life. So that highly encouraged tax evasion, highly illegal, and it will get you arrested and it will have them come take your stuff. So make sure you understand where that line is and make sure you stay on the right side of that line.
- [27:22]
A
You know, we often say there's more to wealth than just money. Well, on this show, I think we showed it's also taxes. So, guys, focus on how do you minimize your taxes legally? I'm your host, Brian Preston. Mr. Bo Hanson, Moneyguy team out.
- [27:38]
B
The Moneyguy show is hosted by Bryan Preston and Bo Hanson. Brian and Bo are partners with Abound Wealth Management. Abound Wealth Management is a registered investment advisory firm regulated by the securities and Exchange Commission. In accordance and compliance with the securities laws and regulations, Abound Wealth Management does not render or offer to render personalized investment or tax advice through the Money Guy Show. The information provided is for informational purposes only, may not be suitable for all investors, and does not constitute financial, tax, investment, or legal advice. All investments involve a degree of risk, including the risk of loss.