How do the rich avoid paying so much in taxes?
You will be surprised how much proper tax planning, alongside a full understanding of the tax code and how to navigate around it can help you save legally while remaining tax compliant.
The wealthy prefer to sacrifice a bit in order to gain more knowledge on how to manage their taxes properly, know when they are eligible for exemptions, deductions, or tax credits. Most wealthy people even go as far as to paying a financial expert to handle their taxes, this enables them to pay the least amount possible as their tax liabilities.
The rich learn how to avoid paying off too much of their hard-earned money as tax to the government through legal means and not through tax evasion. This possibility is mostly due to a good understanding of how the tax laws work and how to take advantage of different loopholes and opportunities in the tax code to get a reduced tax charge.
They usually ensure that they break down their assets into taxable assets, tax-free, and tax-deferred categories. In order to protect their wealth, they make sure the taxable category remains at the minimum.
Some strategies used by the rich to avoid high tax payments include:
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Small salary, large dividends.
According to the tax reform act of 2017 (TCJA), the highest tax rate to charge for high-income earners is 37%. However, this is a big cut from the income of a wealthy person when calculated. So to avoid this income cut, most wealthy individuals place themselves on their payroll and pay themselves a small salary from their businesses or companies.
This will serve as their income on their filed tax returns and is taxed at a lower tax rate as a low-income earner, thereby avoiding the high tax rate of 37%. However, to get more money out of the business for use, they channel out a larger amount as dividends which is taxed at a 15% -20% tax rate.
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Charitable donations
Giving to charity, for the rich, is a way to “ kill two birds with one stone”. They give to a worthy cause that helps people in need and also get deductions on their taxes for doing it. Giving to charity gets you deductions on your taxes and of course, the accolades it fetches you can also feel nice.
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Capital gains
Wealthy people prefer to invest in stocks mainly because the tax rates on stocks are significantly lower than it would be if it was income tax. These individuals know that long-term gains are taxed at a 15%-20% tax rate while the short-term gains are taxed at the normal tax bracket rate of the federal income tax.
Due to this, a lot of money-saving can be done if you can classify your income as capital gains to enjoy the lower tax rate they offer. Also, in case of losses, the bad investments can be sold at advantageous times and the capital losses can be used to offset capital gains. Capital losses and capital gains, therefore, can be used to the tax advantage of the rich.
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Establishment of Trusts
Most wealthy people establish trusts of various kinds so as to avoid federal estate tax on their estates and assets after death.
Everybody prefers to have their assets distributed as they desire, and not reduced significantly due to federal estate tax. Therefore the rich explore so many options that can help their assets avoid exceeding the exclusion limit as stated by the IRS which is $11.58million for an individual and 23.16 million dollars for a couple.
Establishing a trust fund enables the wealthy to name a beneficiary to certain assets at a certain stated date; the assets now no longer belong to them. However, they can still receive income from the trust without the assets being taxable, and when the wealthy individual dies, the beneficiary named will be the new owner of the tax-free assets in the trust. This strategy helps to prevent the heir from facing the tax liabilities that could be charged by the IRS; it also prevents the loss of treasured assets that could be incurred in the process of paying tax debts on inheritance.
Adequate knowledge is essential in any life dealing; this does not exclude tax payment. The wealthy do not just look for ways to reduce their tax liability at the point of tax payments or returns filing, they make all their daily financial decisions with the aim of protecting their wealth and investments from heavy taxation.
This is what we call “financial planning and tax planning” and it proves their financial intelligence, after all, they didn’t become wealthy by coincidence.
These legal methods of avoiding a high tax rate are not only applicable to the rich, every individual can learn how to protect their finances and avoid heavy tax obligations if they take the time to understand how the tax code works, applies to them, and what opportunities are available for them to take advantage of.
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