HomePassive Income3 Advanced Tax Strategies to Help You Reach Your Financial Goals

3 Advanced Tax Strategies to Help You Reach Your Financial Goals

Taxes are one of our biggest costs for high-income earners, if not the biggest cost. 

If you can make a ton of money but can’t keep a lot of it, what’s the point? Instead, many of us are always on the lookout for strategies to minimize our tax burden. 

The good news is that our tax system is designed to favor business owners and investors. As physicians with side hustles and business investments, you may already know how to offset some of your taxable income—or an accountant does it for you.

When I first started investing in real estate, there was so much I didn’t know, in terms of using tax benefits to save myself money. Like my early years of investing, many of you may be missing out on advanced strategies that could save you even more. 

Extra cash on hand could lead to your next life-changing investment. In fact, tax optimization can accelerate wealth rapidly. It can mean the difference between achieving financial freedom in five years instead of twenty-five years.

Today, I want to share some tax knowledge that I learned along the way to save you time and money. For the next few minutes, we’ll explore three very important advanced tax strategies that you can implement to start saving more money and reaping the benefits. And before we begin, always make sure to run tax optimization strategies by your CPA or tax strategist to ensure it fits with your financial goals. With that said, let’s get started!

1. Tax Loss Harvesting

If some of your investments have lost money, you can capitalize on those losses to a certain extent. Tax-loss harvesting is a strategy used by investors to offset capital gains and reduce taxable income by selling investments that have experienced a loss.

As an investor, make it a point to review your investment portfolio to identify securities or assets that have decreased in value since they were purchased. These underperforming investments can be strategically sold to realize the losses. The goal would be to generate capital losses that can be used to offset capital gains from other investments or sources. 

It sounds like a contradiction to benefit from losses, but by offsetting capital gains with capital losses, investors can reduce their overall tax liabilities. This offset can be used dollar for dollar, and any excess losses can be used to offset ordinary income (up to certain limits). If you know that you’ll have capital gains in a particular year, it may benefit you to sell underperforming assets at a loss to offset those gains. 

After selling underperforming investments and realizing capital losses, investors can decide whether to reinvest the proceeds in different securities or hold the cash for future investment opportunities. Either way, implementing tax-loss harvesting is a clear path to accelerating wealth. 

So when should you consider tax-loss harvesting as a strategy? Here are some things to consider:

  • Timing and Market Conditions: Be mindful of market conditions and potential short-term fluctuations in asset prices before selling underperforming assets.
  • Wash Sale Rule: Avoid repurchasing a substantially identical security within thirty days before or after selling it at a loss to adhere to the wash rule and maintain tax benefits. Note that the crypto world does not have this rule. If you wanted to sell an asset at a loss, you could buy it right back. 
  • Netting Capital Gains and Losses: One capital gains have matched capital losses dollar for dollar, excess losses can be used to offset $3,000 of income for individuals or $1,500 for married individuals filing separately. 
  • Long-Term Investment Goals: Align tax-loss harvesting with your long-term investing goals and portfolio diversification strategy to ensure it complements your overall financial objectives. 
  • Transaction Costs: Consider transaction costs like brokerage fees or bid-ask spreads when evaluating the impact of tax-loss harvesting on your investment returns. 
  • Reinvestment Strategy: After realizing capital losses, reinvest in similar but not substantially identical securities to maintain market exposure while avoiding the wash sale rule. 
  • Tax Efficiency: Integrate tax-loss harvesting into a broader tax planning approach with guidance from a tax advisor or financial planner to optimize its benefits. 

2. Charitable Giving With a Donor Advised Fund

To many of us, the concept of giving back and being charitable is important. So people want to figure out the best way to go about that while also being tax efficient. 

Charitable giving through a donor-advised fund (DAF) involves contributing funds or assets to a specialized charitable account managed by a sponsoring organization, such as a community foundation or financial institution. 

One of the major benefits of giving through a DAF are immediate tax deductions. DAF contributions are tax-deductible the year they are made, providing immediate benefits for donors who itemize their deductions on their tax returns. (And if you exceed the standard deduction threshold, you should be itemizing your deductions.)

There’s also a way to use DAF contributions that can result in significant capital gains tax savings. When you contribute appreciated assets, such as stocks, real estate, or artwork, you can avoid paying capital gains taxes on the appreciated value of the contributed asset.

What’s wonderful about DAF contributions is they offer flexibility in their timing. Donors can contribute in years when they expect higher taxable income to offset tax liabilities, and they can make grant recommendations at any time based on their philanthropic goals. 

And if you want your philanthropy to be your legacy, DAFs can be integrated into estate planning strategies to facilitate charitable giving while reducing estate taxes. Essentially, you can designate charitable beneficiaries to provide tax advantages to the estate. 

There are many important things to consider when using DAFs. Here are a few:

  • Tax Deductibility: DAF contributions are tax deductible only for those who itemize their deductions. Also consider your adjusted gross income (AGI) limitations for charitable deductions. DAF contributions are subject to certain AGI thresholds. 
  • Contribution Type and Timing: Evaluate the type of assets you plan to contribute to the DAF—cash, appreciated securities, real estate, etc.—and their tax implications. You also need to determine the time of contributions to optimize your tax benefits as it relates to your income level, tax bracket, and overall financial goals for the year. 
  • Appreciated Assets and Capital Gains: Contributing appreciated assets can help you avoid paying capital gains taxes on the appreciation. Sometimes the holding period of appreciated assets comes into play, as longer-term holdings may offer greater tax advantages.
  • Donation Limits and Regulations: Be aware of contribution limits and regulations imposed by the sponsoring organization of your DAF, as well as IRS guidelines for giving and deductions. And don’t forget to factor in administrative fees associated with maintaining the DAF. 

3. Qualified Opportunity Zones Investments

Qualified opportunity zones (QOZs) are designated economically distressed areas where investors can receive tax incentives. It’s a way to attract investors to develop a specific part of the community. Many of the early benefits of QOZs (that existed in the 2010s) have sunsetted, but they’re still benefits to investing. 

QOZs offer investors the opportunity to defer capital gains taxes by reinvesting the gains into qualified opportunity funds (QOFs). This has to happen within a specific timeframe (within 180 days from the realization of gains). 

If you hold your QOF for at least five or seven years, depending on the jurisdiction, investors can receive a step-up in basis—a reduction of the capital gains by resetting the asset’s value. Even better, if you hold onto your QOF investment for at least ten years, you may qualify for tax-free gains on any appreciation. This can result in substantial tax savings, especially for investors with significant capital gains to reinvest. 

My guess is that not many of you have heard of QOZs or QOFs, and that means that adding them to your portfolio should diversify its holdings, protecting you against market risk. Within QOFs themselves, there is additional diversity; these investments can include infrastructure, real estate, renewable energy, and other portfolio diversification and growth potential. 

And it needs to be said that there is an important social impact at stake. Investing in QOZs contributes to revitalization. It creates jobs, promotes business growth, and improves infrastructure. QOZs are an excellent opportunity to align your investment goals with your social impact objectives, demonstrating a commitment to responsible investing and community development. 

Because QOZs and QOFs are so unique, there are many important things to consider:

  • For Long-Term Investors: QOZs are designed for long-term investors. Maximum tax benefits are realized when investments are held for at least ten years. If you are investing for the long term, the tax incentives from QOZs are significant. 
  • Estate and Wealth Transfer: QOZs can be integrated into estate planning and play a part in a tax-efficient wealth transfer for legacy building. 
  • Due Diligence Required: This is a bit redundant because I always advise that investors do their due diligence. However, QOZs require an especially thoughtful approach. Ensure you vet the project, sponsor, market conditions, financial projections, and risk profile. 
  • Exit Strategy: Because QOZs carry their own unique risks, develop an exit plan considering tax benefits realization, investment appreciation, and estate planning. 

Tax Optimization Builds Enduring Wealth

To all of you faced with the task of filing your taxes, I know you are up to the challenge. I hope that you take advantage of these advanced tax strategies and are able to save money by offsetting your taxable income. 

Make sure you work with your CPA or tax strategist to optimize your taxes. A penny saved is a penny earned, after all, and those savings can, when reinvested, compound into financial freedom earlier than you may realize. 

There is a science to filing taxes, but with the right knowledge and strategies in mind, you can put money back into your pocket to build more wealth but also fund other things in life that bring you happiness, such as traveling or time spent with family and friends.

Remember that it’s important to think about investments in terms of taxes but that taxes should never be your primary concern. You want to make sure the investment is great first—that it’s going to make a lot of money for you. After that, then think about how you can optimize your investment through tax strategies. 

Are you curious to learn more? Join the waitlist for our Passive Real Estate Academy (PREA), where like-minded people gather to learn about not just taxes but the many ways passive income can lead to the life of your dreams. 

Let’s make the most of our journey by doing the most with the capital we earn through our side hustles and business investments. Thanks for stopping by Passive Income MD, and I hope to see you again soon!

Peter Kim, MD is the founder of Passive Income MD, the creator of Passive Real Estate Academy, and offers weekly education through his Monday podcast, the Passive Income MD Podcast. Join our community at the Passive Income Doc Facebook Group.