I was talking to my brother-in-law about getting started investing in stocks and he asked me about how taxes would be treated. He understands the benefits of using pre-tax money in his 401(k) but wasn’t sure how taxes would work on after-tax money that he may decide to invest in the stock market.
Which made me think about taxes.
And after these elections, I’ve been thinking about how to pay no taxes like Donald Trump! I wanted to write some quick tips on avoiding a high tax burden. I have had an effective tax rate in the low single digits for the past couple years and thought I would share some thoughts on how I do it.
Have a Big Mortgage
Ok that isn’t really a great idea. In and of itself, having a big mortgage is not the best route to go. You should only get a mortgage for the amount that makes sense for you.
But hey – if you were to get a big mortgage because you need a big enough house for your large family, the side benefit is that the mortgage interest and points on the loan are tax-deductible. Because I have a large mortgage (relatively speaking), I have a large deduction for the interest.
It would obviously be better if I had no mortgage because I would be spending less money net of taxes that way. But I see it as a necessary evil and am happy to pay less taxes because of it.
People are always talking about how expensive kids are. Don’t believe a word of it. Spending money on kids is just like anything else, you can choose to be frugal or you can try to keep up with the Joneses.
But yes having kids is more expensive than not having kids. However, you get a tax exemption for each child AND a child tax credit for each child. So the combined effect is pretty dramatic.
Because we have five kids, we get seven exemptions (5 for the kids and 2 for us), and we get five child tax credits. The tax credits are phased out at a certain income but they are significant.
If you want to pay less in taxes you should give more. This is a great way to shield money from the government. I would much rather direct money to charities that make sense than some of the awful welfare programs that are out there.
And if you are giving, make sure you take the extra time to keep your receipts and deduct it from your taxes.
What is your favorite charity? You can set up automatic giving with charities so that you don’t have to think about it every month. Sometimes this is actually the best way for charities to raise funds because they have a steady monthly income to budget for.
The other great thing you can do is donate to a Capital fund to help a charity buy land, equipment, or a building.
There are certain types of losses which you can carry forward from prior years. Some of these are for businesses, investments, or real estate. I’m not going to go through all the details here. But you should consider this if you do have significant losses.
This is basically what happened to Donald Trump.
The tax code roughly speaking will allow you to apply losses from years in the past to current income. So if you had a large investment loss in 2010, you could potentially apply that loss to 2011 and future years depending on your tax situation.
For businesses these are referred to as Net Operating Loss (NOL) carryforwards. There are other names for the different types of losses and different situations so you should work with your tax accountant to review your specific details.
Selling Your Personal Residence
I think this is a widely known tax rule but it is a really great one! When you sell your personal residence you do not pay taxes on the capital gains. So if you have a $100,000 gain on the house you live in, you would not owe taxes on any of it.
This is a big deal and another reason to consider buying your own home instead of renting. It all depends on your circumstances of course because buying and selling houses have many fees and costs associated with it.
But getting a huge capital gain on your property and not having to pay taxes on it is a pretty sweet deal. When I sold my first house, the title lawyer was very surprised at the capital gain I had. He said that I had done a great job and that I wouldn’t have to worry about paying any taxes on it. He thought it was the biggest tax loophole out there.
And this one benefits the “little guy.”
Do you have any tips on reducing your tax bill? What do you think about being frugal on your “kids” budget?