3 Tax-Saving Strategies for High Income Taxpayers You Need to Know About
The United States tax code is structured in such a way that high income earners are liable for much higher tax rates. Nevertheless, there are steps available to high income earners to reduce their tax liability. In this article, we examine three effective tax saving strategies.
1. Investing in Municipal Bonds
This conservative investment technique essentially involves lending money to a local entity or state over a predetermined period in return for a fixed number of interest payments. At the maturity date, the borrower repays the full amount of the original investment.
Because they are exempt from federal taxes (and often exempt from local and state taxes too, depending on where the investor lives), federal bonds attract investors as a low-risk method of obtaining regular tax-free interest payments.
Municipal bonds generally have lower rates of default than corporate bonds. However, this advantage is offset somewhat by the lower interest rates. Since this form of investment attracts tax benefits, inventors must understand their tax equivalent yield.
2. Investing in Real Estate
Investing in real estate can be an effective method of diversifying an investment portfolio, since it can deliver a steady income stream while at the same time offering significant tax benefits.
In terms of reducing tax liabilities, one of the main advantages of real estate investments is the ability to offset certain expenses. These include:
· Property maintenance, improvements, and repairs.
· Property insurance.
· Advertising expenses.
· Property tax.
· Mortgage interest.
· Property management fees.
Many individuals who choose to invest in real estate do so via a limited partnership or limited liability company. In taking this route, they benefit from a number of additional tax-saving benefits, including the ability to offset operational costs connected with the investment business. Another strategy is to execute a 1031 exchange. In this transaction, investors sell their investment property and use the profit to purchase a like-kind investment property while deferring capital gains. Essentially, these exchanges allow investors to roll over the gain from one property to another without paying taxes until they sell the property for cash.
3. Investing in an MPP
Retirement plans can be a particularly effective investment vehicle in terms of reducing tax liabilities. Malta Pension Plans (MPPs) are an increasingly popular way of building a nest egg, because they offer significant tax-saving potential.
In many ways, an MPP mirrors a Roth IRA — but with a few impressive extra benefits.
US law dictates that when a US taxpayer invests in an MPP, income taxes on investment income and gains in the MPP are deferred until distributed — like a traditional IRA. However, US law also dictates that distributions are taxed by the US in accordance with Maltese tax law, which allows for substantial tax-free distributions — like a Roth IRA.
However, unlike with a Roth IRA, where investments into the plan may only be made in cash, investments in an MPP may be made in a variety of different forms. For example, real estate, works of art, stocks, and shares of a business may be invested directly without incurring tax on the contribution. This offers vast tax saving potential, since when investments are liquidated, this often triggers capital gains taxes.
In this respect, an MPP effectively serves as a supercharged Roth IRA. For high net worth American taxpayers, MPPs offer substantial benefits and can reduce the investor’s tax bill considerably.
