One of the things you become when pursuing financial independence is a bit of a financial strategist. I love numbers and strategies, especially when it is applied to finance. That is why I actually get a little bit excited when tax time comes around. I know for many this seems a bit irrational, but for me this is the time to both review and plan my tax strategies to legally pay as little as possible in taxes. I don’t think many would argue that the tax system in the United States is ridiculous in both its design and execution, and I certainly would be a supporter of smart tax reform that is desperately needed. Regardless, the current state of our tax laws does present some opportunities to efficiently reduce the amount of taxes you pay with some planning and consideration. This year we added a bit of complexity because of the various sources of income that included four separate w-2s, several 1099s, running an S-corp, and receiving income from a university located in Canada. We also added several different types of retirement accounts to try and save as much pre-tax money as we were able to, but this is still an area I am optimizing for 2016. While I still have room for improvement in out tax strategies, I am getting better at reducing what we have to pay in, mostly by making smarter financial choices such as maximizing pre-tax contributions to retirement accounts.
For me, this time of year is when I get to realize the results of our tax reduction plan, as well as make adjustments for this coming year to minimize taxes that we are required to pay. Specifically these are the things we are doing in 2016 to keep our tax burden as low as the law allows:
- Maximizing our pre-tax account contributions. This includes contributing the maximum amount we can to my 403b and both of our solo 401k plans. We will also maximize contributing to our HSA accounts since we are both covered under a high deductible health care account.
- Reducing our MAGI. With our combined income we sit right at the line of benefiting from several policies that includes the child-tax credit (which we will double this year). By keeping our MAGI below $110,000 we will be able to fully benefit from $2,000 in tax credits in addition to the deductions we get for our children. If we keep it a little bit lower we also can benefit from deducting the full individual IRA contributions we can make on top of our other retirement plans.
- Shift clients to pay our business. With my wife now fully working for herself at home we are benefiting from running our own business as an S-corporation to legally reduce self-employment taxes. Our problem is that some of the clients she has acquired want to pay her directly as a contractor rather than pay our company. This year we are really pushing for some of these clients to pay the business instead. A little bit of self-employment income is good, but too much and we are losing some of the potential benefits of running a business.
- Utilize an FSA account this year. Knowing that we will be growing our family this year I am opening a flexible spending account through my job to cover the majority of the costs associated with having a new child and to be able to pay for these costs pre-tax and without having to use any funds from our HSA accounts.
These are the major items of our plan, but we will need to make adjustments throughout the year since the amount of income from my wife’s job and from our side projects are a little unpredictable at the moment. Either way I actually enjoy planning and executing a tax reduction strategy because it gives us some degree of control over the amount of money we get to keep and makes our path to financial independence a little bit shorter.