Your ability to become a millionaire doesn’t depend solely on how much money you make. What’s equally important is how much you keep. And if you’re paying more in taxes than you need to, that can seriously interfere with you reaching your financial goals.
Here are three tax strategies you can apply that will help you keep more of your money and put you on course toward millionaire status.
1. Contribute to tax-advantaged retirement accounts
If you’re looking to maximize your wealth potential, you shouldn’t overlook retirement accounts. They can be a great way to reduce your annual tax bill while supercharging your retirement savings.
If possible, start with an employer-sponsored retirement plan like a 401(k), 403(b), or a Thrift Savings Plan (TSP). Every dollar that you contribute to these accounts will reduce how much you pay at tax time. For 2022, the federal government has increased the salary deferral limits for these accounts to $20,500 for those under 50. If you’re 50 or over, you can contribute up to $27,000 to a qualified employer-sponsored plan.
Let’s say you earn $100,000 a year. If you contribute $20,500 to your 401(k) in 2022, only $79,500 of that income will go into your adjusted gross income for the year. If you consistently contribute to your account every year throughout your career and invest in high-quality assets, it’s possible to achieve a $1 million balance in your 401(k) alone. Financial services giant Fidelity has reported an increase in the number of 401(k) millionaires over the last couple of years.
There are also Individual Retirement Accounts like a Roth or traditional IRA. You can contribute up to $6,000 annually to these accounts if you’re under 50, even if you have an employer-sponsored plan. Entrepreneurs should check out options like the SEP IRA or solo 401(k) — you’re permitted to stash away even more money in those accounts every year.
2. Hold onto your investments for more than a year
Hanging on to stocks in your portfolio may sound boring, but selling assets too soon could leave you with a higher tax liability than you expected.
If you sell an investment that you’ve held for a year or less, you’ll be taxed on your profits at the short-term capital gains rate — which most of the time will be equal to your marginal income tax rate. That will be from 10% to 37%, depending on how much you’ve earned from other sources.
But if you hold onto your stocks for over a year before selling, those profits qualify for the much more favorable long-term capital gains tax rates. The chart below lays those out for 2022.
For Single Filers With Taxable Income Of …
For Married Joint Filers With Taxable Income Of …
For Heads Of Households With Taxable Income Of …
… The Long-Term Capital Gains Tax Rate Is
$0 to $41,675
$0 to $83,350
$0 to $55,800
$41,676 to $459,750
$83,351 to $517,200
$55,801 to $488,500
3. Sprinkle qualified dividend payers into your portfolio
Dividend-paying stocks make great additions to a diversified portfolio of assets because they provide you with an extra stream of income you can access without selling assets. They also offer another way to tap into long-term capital gains rates. However, the payouts won’t qualify for those special lower tax rates unless they fall into the category known as “qualified dividends.”
To be a qualified dividend, a payment must meet these requirements:
It must either be paid by a U.S. corporation, or by a qualified foreign corporation if their stock trades in the U.S. securities market or meets other qualifications.
The dividend can not be considered a capital gains distribution. It must be deemed a regular dividend.
As an investor, you must hold your stock for a certain period of time to qualify for the special dividend tax rates. The stock must sit in your portfolio for more than 60 days during a 121-day period. The timer starts 60 days before the ex-dividend date.
If you receive dividend income from stocks you hold in a Roth IRA, you won’t have to worry about the taxes. Roth IRAs grant you access to tax-free dividend income every year after you’ve reached 59 1/2 and have checked the box on the five-year rule.
Start working on your millionaire tax plan
As you’re crushing your investing goals on your journey to millionaire status, don’t forget to employ smart tax strategies. They can save you money on your annual tax bills and give your retirement portfolio a boost, too. If you need help, don’t hesitate to reach out to a knowledgeable tax professional. The moves you make on this front today could help you enter the millionaires club faster.
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