Tax Planning for Those with High Net Worth
Essential Strategies for High Net Worth Individuals
Tax planning is an essential task for high net worth individuals, and it requires a carefully developed strategy. Without one, you could easily miss out on tax benefits that could be key to maintaining your net worth in the long-term. Since many tax law changes took effect in 2018 with the passage of the Tax Cuts and Jobs Act, it’s an ideal time to revisit your tax planning strategies and ensure you understand the impact of the changes, as well as the opportunities they may present with regard to tax savings.
Below, we’ll review the most important topics to discuss with your tax professional.
Investment Tax Planning
If your investment portfolio is sizeable, you’re likely familiar with the capital gains tax – the government fee levied on investment sales that yield a profit. A higher capital gains tax rate applies to short-term investments; that is, those held less than one year. A lower capital gains tax rate applies to investments held longer than one year. The new tax bill did not fundamentally change the structure of these tax rates, but the way they are applied has undergone a change.
The old capital gains law applied a rate of 0% to the lowest two tax brackets, with a 15% rate levied on the middle four tax brackets and a 20% rate for taxpayers in the highest bracket. The Tax Cuts and Jobs Act now align the rates with maximum taxable income levels.
Short term gains are taxed as ordinary income
What this means on the short-term side is that single filers who earn at least $500,000 and married couples with a combined income of at least $600,000 will fall into the 37% tax bracket – the highest capital gains rate. This is important to be aware of if you’re a high net worth investor and you plan to sell off short-term investments.
Estate and Gift Tax Planning
President Trump’s tax plan also changed estate and gift tax laws, which have a direct impact on those with high net worth. First, it doubled the gift, estate, and generation-skipping transfer tax exemptions – they now stand at $11.2 million per individual, indexed for inflation. Second, the annual exclusion limit for the gift tax rose to $15,000. The tax rate for all three of these exemptions remains static at 40 percent.
If you have high net worth and you plan to make significant financial gifts to your children or other heirs, this change in the tax code will work to generate tax savings for you. However, you’ll need to consider whether your estate plan is structured in a way that allows you to take full advantage of the higher estate tax limit without compromising the amount you wish to pass to your heirs during your lifetime.
Additionally, you’ll also benefit from coordinating your federal estate tax planning with any state-level tax implications that may be triggered.
Charitable Giving Tax Planning
Are you considering donating a portion of your wealth to a charitable organization that is meaningful to you? Your generosity can yield a tax deduction, and the new laws increased the deduction limit for contributions to eligible charities from 50 percent to 60 percent of your Adjusted Gross Income. The Act also repealed the Pease limitations, which formerly capped the number of charitable deductions available to taxpayers with high income.
These higher limits on deductions are incredibly valuable for high net worth taxpayers who itemize. In fact, it’s possible to make quite sizable transfers of wealth tax-free by placing a portion of your assets into a charitable lead annuity trust. For added tax benefit, if you’re age 70 ½ or older, you could avoid paying income tax on up to $100,000 annually in qualified charitable contributions from a traditional IRA. Donations to a donor-advised fund may also yield a tax deduction. However, it’s important to note that each of these changes is set to expire on December 31, 2025, so it’s essential to capitalize on them now without delay.
Pass-Through Entity Income Deductions
High net worth individuals should also consider the introduction of a new 20 percent deduction on business income for pass-through entities. You may be able to deduct 20 percent of your qualified business income if you operate a business that is taxed as a pass-through, though certain limitations apply. If you’re a business owner with high income and you cannot currently take advantage of this deduction, you may want to consider forming a limited liability company in order to qualify. If you’re operating a C-corporation, this deduction will not apply to you. However, the Act does offer another avenue for tax savings by reducing the corporate tax rate from 35 percent to 21 percent.
Whenever there are major changes to tax law, it’s important for high net worth individuals to reevaluate their tax planning strategies. Now is an ideal time to ensure you’re taking full advantage of all the opportunities the Tax Cuts and Jobs Act offers.
- Your Money Story and Your Choices
- The ‘Mega Backdoor Roth’
- These Five Questions Will Improve Your Relationship with Money
About the Author
As a Co-Founder, Craig brings years of hands on experience helping clients make informed investment and financial planning decisions. Craig takes great care in understanding his clients near and long term goals and implements an investment strategy around those goals.