High Net Worth Tax Planning Strategies

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Careful tax planning always matters, but when you have a higher net worth, doing everything right can be even more essential. By implementing tax strategies for high income earners, you can preserve more of your earnings and wealth over time. That can help you leave behind a larger financial legacy for your loved ones through your estate plan. 

Key Takeaways

  • Income tax rates are based on your annual income, so high income earners qualify for the higher income tax rates
  • High income earners can employ some tax planning strategies to reduce their tax burden
  • You can avoid a hefty capital gains tax bill on investments by holding them for a over a year for lower long term capital gains tax rates or offset gains using tax-loss harvesting
  • High annual gift tax exclusion limits can come very handy while estate planning and passing property off to your heirs
  • Deductions for charitable giving and donor advised funds are ways to reduce your tax burden on any contributions you make towards a qualified charity

The Tax Cuts and Jobs Act (TCJA) that came into force in 2017 created opportunities for tax savings for millions of Americans, including those in higher tax brackets. If you're interested in high net worth tax planning, here are some of the most important things to consider. 

Investment Tax Planning

Your investments can generate current income and long-term wealth but it's important to consider the tax implications. Selling investments at a profit can trigger capital gains tax

Long-term capital gains tax applies to investments held for longer than one year, while short-term capital gains tax applies to those held less than one year. Long-term capital gains rates are 0%, 15% and 20% with maximum taxable income levels. Short-term capital gains tax is always the same as ordinary income tax rates.

That means if you're in a higher tax bracket, you stand to pay more in short-term capital gains tax when you sell investments. For example, a single filer making $539,900 or more would land in the 37% tax bracket in 2022 tax year, the return for which you will file in 2023. 

The takeaway? Before selling off investments in your portfolio, consider how large the tax bite may be. 

Note

Tax-loss harvesting, which involves selling off losing investments to offset capital gains, can help you reduce your tax bill. 

Estate and Gift Tax Planning

The TCJA instituted changes to the estate and gift taxes that directly impacted high net worth individuals. Specifically, the act doubled the gift, estate, and generation-skipping transfer tax exemptions. In 2022, for example, the estate tax exemption is $12.06 million per person. The annual exclusion limit for the gift tax is $16,000 per person for 2022, while the tax rate for all three remains unchanged at 40%. 

Higher lifetime exemption limits mean you have more opportunity to leave behind wealth for future generations while minimizing taxation in your lifetime. To fully leverage the tax changes while they're in place, it's important to consider whether your current estate plan is structured to allow you to take advantage of the higher estate tax limit, while ensuring that you're not passing on more (or less) of your wealth to your spouse, children, or grandchildren than you intend to during your lifetime. You should also be coordinating your federal estate tax strategies with any tax implications that may be triggered at the state level. 

Tax Planning for Charitable Giving

Charitable giving can be one of the most attractive tax shelters for high income earners who want to do good while getting a tax break. The IRS allows you to deduct cash contributions to eligible charities, with the deduction maxing out at 60% of adjusted gross income (AGI).

The higher limits on deductions are a boon for high net worth taxpayers who itemize on Schedule A. It's possible to make sizable tax-free transfers of wealth, for example, by putting some of your assets into a charitable lead annuity trust. If you're over age 70 1/2, you can avoid paying income tax on up to $100,000 in charitable donations made annually from a traditional IRA, for an added tax benefit. 

Note

Setting up a donor-advised fund (DAF)can also yield an upfront tax deduction. 

Deducting Pass-Through Entity Income

One final tax issue for high net worth individuals to consider is the potential impact of the 20% deduction on business income for pass-through entities. If you operate a business that's taxed as a pass-through entity, you may be able to deduct 20% of your qualified business income right off the top, with certain limitations. If you're a high income earner who owns a business, you may want to explore the advantages of forming a limited liability company to take advantage of this deduction.

If your business operates as a C Corporation, you won't be able to take advantage of the deduction, but the TCJA reduced corporate tax rate from 35% to 21%, offering another potential avenue for tax savings. 

Tax Strategies To Avoid

When implementing tax strategies for high earners, it's important to ensure you're pursuing only legal and ethical methods. There is, after all, a difference between tax minimization and outright tax avoidance, which can lead to IRS penalties and, in the worst-case scenario, criminal charges. 

For example, knowingly underreporting income is a form of tax evasion, as is claiming excessive or bogus tax deductions. Consulting a trusted tax professional can help you create a strategy for minimizing your tax liability and preserving wealth while staying on the right side of the IRS. 

Frequently Asked Questions (FAQs)

What is a high net worth individual?

The term high net worth individual (HNWI) can be used to describe people who have assets that meet a certain threshold. Some wealth management firms classify individuals with liquid assets over $1 million as high net worth individuals. The U.S. Securities and Exchange Commission may classify investors as HWNI or "qualified purchasers" if they have at least $750,000 under management by a financial advisor, or they have a net worth of more than $1.5 million.

What is estate tax?

Estate tax is the tax levied on your right to transfer your assets to your beneficiaries upon your death. In order to calculate estate tax, you need to account for all your property. Property that is included in accounting for estate tax includes cash and securities such as stocks and bonds, real estate, insurance, trusts, annuities, business interests and other assets.

Updated by
Jess Feldman
jess feldman in a white shirt
Jess Feldman has been writing and editing for over five years, and currently focuses on financial topics. As an associate editor on the special projects team, she writes, edits, and develops tentpole brand projects across a variety of platforms. Since joining the financial space, she's developed an interest in finding ways to make the complex topic of finance relatable to younger generations, specifically via TikTok. Jess has a journalism degree from the University of Maryland Philip Merrill College of Journalism.
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