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People who complain about taxes can be divided into two classes: men and women. And although Uncle Sam isn’t anyone’s favorite relative, the right tax strategy could be the first step in patching things up. In this week’s episode of the Dentist Money Show™, Reese and Ryan explain how a proactive tax strategy can reduce your tax bill, and help you save for a better retirement.
Reese Harper: Welcome to the Dentist Money show. Where we help dentists make smart financial decisions. I’m your host, Reese Harper, joined by my co host, Señor Sir Issac Ryan.
Ryan Isaac: Señor? That’s a new one. We are talking about Taxes today.
Reese Harper: Taxes? You want to talk about TAXES? I’m working in the practice all day and you want to sit around here and talk about TAXES?
Ryan Isaac: I got a dental practice. I’m busting my butt in the dental practice and now we got to talk about taxes? Look it up, google it.
Reese Harper: Taxes??
Ryan Isaac: Yes, tax season is upon us. Many of you are feeling the pain of writing that check to uncle Sam, maybe delaying that until the very last day.
Reese Harper: Ya, we were just in Boston a few weeks ago where one of the most famous events concerning taxes took place.
Ryan Isaac: Uh?
Reese Harper: Boston Tea Party.
Ryan Isaac: Thats right. We got a little history lesson while we were there. The Boston Tea party took place at Griffins Wharf.
Reese Harper: Did I eat there? Was that a restaurant?
Ryan Isaac: No, that was a different wharf, but we were probably near it though.
Up until the 1830’s, this wharf was known as something a little different then the Boston Tea party it was known as the destruction of the Tea.
Reese Harper: Or Tay, I don’t think it was Tea, dude. It doesn’t have the same ring as Boston Tea Party, someone in marketing shaped that.
Ryan Isaac: Listen, the destruction of the tea, ya, thats kind of what I’m thinking.
If I ask you tel tell me what the tea party was all about what would you say? What is the Boston tea party all about? Whats your summary of the party?
Reese Harper: Going back to elementary school here. There is a bunch of colonist who got together and dressed up like Native Americans and dumped a boat load, like literally, a boat load of British Tay off a ship.
Ryan Isaac: Yup.
Reese Harper: And Sam Adams was there, probably.
Ryan Isaac: And why did they do it?
Reese Harper: Because the British raised the tax on the tea.
Ryan Isaac: Thats what we were taught, but its not exactly that.
The Tea Party was actually a protest against taxes, but not against high taxes. So what happened was in 1773, a few years ago, the British government passed this “tea act” that actually limited the tax on all tea that came into Great Britain from other countries. On all imported tea, they took away the tax.
So then the tea would be re shipped by the British over to the American colonies but because of the tax break it meant that Britain’s largest tea company could sell tea to us at a lower price right?
Reese Harper: Like you’re a colonist, you are saying “us”.
Ryan Isaac: I feel represented by the early settlers. Their point was that they wanted to undercut all of the American tea companies and put us out of business.
Reese Harper: So if I live on the other side of the pond, I’m ticked off because my tea is free range, gluten free, organic, etc.
Ryan Isaac: You are exporting your tea and I’m the Walmart of tea and I don’t have to pay tax, and you do. You just have a higher cost and I just reduced my cost by whatever the tax is too. So they were mad because they thought that they are going to undercut us put us all out of business and then raise their prices back to where they were originally.
Reese Harper: So thats your history lesson, and that is a great introduction into our podcast. One lesson to learn from this event is that people do crazy stuff when the government starts messing with their money.
Ryan Isaac: I do. I get out of my mind and every time this year you have got to call me and calm me down. But a lot has changed since the “teenth” century, and our advice on how to tackle taxes has evolved a little bit from ambushing ships and destroying cargo. You don’t go to the highway and take down the Walmart sign right?
Reese Harper: My perspective, with my clients, is to not care too much. It’s very similar, it feels that dramatic, but here is one of my favorite quotes that goes right along with my little story, “people who complain about taxes can be divided into two classes: men and women.”
Ryan Isaac: Let me think about that one for a minute…
Back to the script, our objective today is that we want to help our listeners take a reasonable approach to our tax system.
Reese Harper: Ok so, I got to get a script, so I have to have one too. You bring me in here and make me wing it without scripts? Thanks a lot.
Ryan Isaac: Yah, thats true. You don’t get a script. What are some reasonable initial thoughts about taxes?
Reese Harper: Most dentists don’t have really, overly complicated taxes. But, their taxes get super complicated when they start to feel upset about an increase in tax burden. So I can speak to this from personal experience, all right? I’ve had to go through this drama of feeling like, “this is unfair” and “this is burdensome”. I’ve had to call my CPA and see why we had mis budgeted for a tax bill when I got a big surprise. So, this isn’t coming from “not feeling your pain” ok? But the first thing I would say is it’s ok to pay taxes. It can feel punitive sometimes, but paying tax is the cost of living in a good society and its the reality of being a successful entrepreneur. So you start there and be ok with that.
Ryan Isaac: So you don’t have to like paying taxes, but you also shouldn’t get too upset about that either. This would be a good time to talk about how tax brackets even work. We hear a lot about that but i’m not sure people take the time to understand how they work.
Reese Harper: Anyone can look them up easily, just google federal tax bracket and you should be able to find the chart on websites like File or bankrate.com.
Ryan Isaac: Lets’ go through a few examples of how brackets are structured. The numbers we will use will be married, filing jointly numbers so they may different for some of you. A quick breakdown of how it works, if you want to look these up while listening, that would be helpful. You will see a table there and you will see a different range of taxes being taxed at different intervals right? So if your income is over $465,000, anything over that amount will be taxed at about 40%.
Reese Harper: Maybe this is intuitive for everyone, but I just want to make sure that this is really clear for people who haven’t thought about this before. Like Ryan said, if you are over $465,000 then some of your income will be taxed at the highest amount 39.6%. But if you made 470,000, then you are only going to pay that 39.6% on five grand. Then you get taxed at 35% on the next $34,000 and 33% on the the next $181,000. So different parts of your income get multiplied by different percentages. So when you hear, I pay this much in tax, I pay 40%. It is not that simple. You pay a certain percent for certain ranges of your income.
Ryan Isaac: I think thats good to clarify because some people will hear that they are paying 40% and they think that every penny is taxed at that amount and thats just not the case, right? So speaking of brackets, this is a good time to talk about the way you make retirement fund contributions depending on were that bracket is at right? As a dentist you kind of want to keep an eye on your income and where you fall on these brackets. You want to avoid pushing your income so low that you are to the point where you are only paying 15% and 10% taxes. You know, because you are down that low.
Reese Harper: Right, its nice to wipe out your income because you had a big year of equipment purchases or whatever, but if you are not careful you will waste your opportunities to have your income lower for the next year or the year after. You don’t want to push it lower so that your income tax is 15% this year and back up to 33% the next year.
Ryan Isaac: You see that a lot though, because its tempting to just take a huge deduction one year if you buy something, or buy something because you want the deduction.
Reese Harper: Ya, and CPAs, if you spend enough time talking to them, can help you understand what kind of deduction you should take for a given year. Just make sure that you are not so overzealous that you want to right it all off on one year because that gives you the biggest refund. Sometimes you are getting a refund on money that is taxed at a much lower rate.
Ryan Isaac: Ok, so how about you give us some examples of business activities that would give a dentist a reason to make a tax adjustment.
Reese Harper: Well, if your profit is going to come in really high in a given year or it is higher than it would have been in a previous year. You have grown your collections a lot and seen your income grow you can try to reduce your income by making a profit sharing contribution or a 401 K. That would be the simplest way to do that. Then you can do a profit sharing contribution, or you can do a cash balance pension. You can set up more and more the older you get and the more you earn. The more you can put way into retirement funds that brings your income down, and helps get your income into a lower tax bracket. I think in big years, from a simple perspective, you want to get big deductions. In low years, you are going to not make as big of contributions to your retirement account because you want to take the income during those retirement years and make debt reduction out of those accounts. In low income years, you want to not deduct money and put it into these accounts that you are going to pay taxes on later. The reason you get benefit today is because you put money into an account that you got a deduction on, but you have to pay taxes later down the road so you just want to make sure that you are thinking about your tax savings from year to year. It’s not something that you just do and forget about it.
Ryan Isaac: Ya, and it is probably important to point out though, if I’m just listening to this, it seems complicated. So maybe thats part of the point that we are trying to make. You should seek the help of someone who is confident to walk you through this year over year.
Reese Harper: Ya, I think that a lot of people try to tackle this on their own and I think there is a lot of things that can go wrong when people try to calculate or figure out the type of retirement fund they should set up. It is a really complicated decision. You have to look at someone’s overall personal wealth and say should we even be doing this right now? Like how much should we put in here to this 401 K? Like what you said is that this changes every year right? Depending on employees that you’ve hired or fired…
Ryan Isaac: Even the IRS has different guidelines you have to follow for funding these types of plans and sometimes from year to year they change. Sometimes you can put more into a pension one year than you could the previous year.
Reese Harper: Typically, as a general rule of thumb, the more money you can put into a retirement fund the more complicated it is. There are more rules. So although it might seem intuitive and you might be able to save a couple bucks by doing it on your own, it wont pay off in the end. Let’s talk about some of the things that can actually go wrong when you try to navigate this by yourself. I think of funding. People putting it in the wrong accounts, or too little, or under or over funding and consequently not building up enough money outside of their 401k. Maybe they are excluding employees they shouldn’t be excluding which puts you at an audit risk and sometimes people don’t properly structure their plan. That can be defended in an audit. They don’t file their documentations the right way. We’ve seen that a lot. Maybe not understanding when holding off on making contributions. That’s a hard thing, should I do it this year or not?
Ryan Isaac: Just because it’s set up doesn’t mean you should fund it this year.
Reese Harper: Cost is one thing, some people pay a lot more than they should for a retirement account and have it be performing at an average or mediocre way. Maybe putting the wrong type of investments inside of the plan. I’ve see people with private investments and insurance policies stuffed inside of retirement accounts. A lot of things that people have been given the advice to do, but it doesn’t make sense. I’m not a big fan of that kind of stuff. I know there was some hidden agendas when I see that. Maybe entity structure too? You need to consult with a financial adviser who needs to consult with a CPA to determine if you have the right entity structure in place to maximize the tax benefit of your situation. And also, just not taking the right providers. The retirement plan providers have a lot to do with how much you can find and what type of flexibility you can work with every year.
Ryan Isaac: I think as a dentist you want to have the expectation that as you get older and profit and income go up, that there will be more options available to you. Likely they will be more complicated ones, and you should keep that in mind when you set up a plan in the first place. So that you have flexibility and options down the road when you do grow.
Reese Harper: Ya, that’s great advice.
Ryan Isaac: What else is there? We definitely wanted to talk about tax avoidance schemes.
Reese Harper: I mean, ya, I think thats really… We’ll call it, whatever, you should avoid, avoiding taxes.
Ryan Isaac: Thats a double negative, ok? So what are some of the common tactics we have seen people use?
Reese Harper: Well, going out and buying all sorts of crazy stuff to avoid taxes. The December hustle. They’ll purchase property, vehicles, or big assets like businesses. They will follow some sophisticated advice they got to avoid taxes or some salesperson will sell them on some idea. Sometimes its a friend with good intentions but it results in somebody buying an asset. If you listened to our John Elway podcast, you understand. That was a classic. Someone actually goes out and does something outside their wheelhouse just because they feel like its the right thing to do.
Ryan Isaac: Ya, you mentioned intent. We always try to think about that the right way. The right way to think about tax reduction is to consider the intent of the tax law. The congressional intent.
Reese Harper: These legislators don’t write laws to spell out everything you can and can’t do because they know that everyone is going to try and exploit the legislation at some level. So put yourself in the shoes of a legislator…
Ryan Isaac: …or the guy thats going to audit you.
Reese Harper: And ask yourself, “why did they write this law? Was this law put in place so that I could do this, or so that I can do that.” For example, here’s one that I think is a little extreme. There is a law that allows people to rent their property, like a house or any real estate, for a certain number of times per year and you don’t have to claim income on that property. I’ve been told that the intent of the legislation was somewhat due to events. For example, during the olympics people had to rent out their homes to increase commerce when there weren’t enough hotels and stuff in an area. This was necessary to be able to have the olympic games and be able to seat everyone. But then people didn’t want to rent their houses because they had to pick it up as income. So for situations like this, there was a law that allowed families for a certain number of times a year to rent their house and not claim the income.
Ryan Isaac: The intent being increase commerce and availability and feasibility of a large event without burdening the citizens, increase economic growth, and help the city.
Reese Harper: But now its turned into a loophole where we will see, and I think this could be done wisely or could be abused, individuals “rent” their house. You will see them wipe out most of their income, or all of their income, by paying rent at $5,000 -$10,000 a day to have a board room party with them and their spouse for dinner. Somehow they are doing these dinners three times a month for five grand a pop. So they are wiping out their income using this loophole and then they walk around like its super sophisticated, like they know what they are doing.
Ryan Isaac: Thats where the stories come from when our clients call, “my buddy is doing this thing in such and such place…do you know about it?”.
Reese Harper: Anyway, I don’t think its wrong, it’s a law and it’s on the books. Take advantage of it within a reasonable level. If you have a party or a board meeting or you need to take care of something. I say use the law if you follow the law.
Ryan Isaac: So don’t try to exploit loopholes. Whats another take away?
Reese Harper: If you want to minimize your tax liability, I would say you have got to figure it out before the end of the year. Start working with your accountant during the late summer or early fall so you can put together a projection and know where your income is going to be. Back to our bracket discussion earlier, if you do it early enough in the year you will know where you are at. I can’t stress that enough. Im always getting phone calls from people saying, “I just got a big surprise”. Look, it takes five minutes for you to look at your P & L and figure it out. You don’t have to wait for some else to tell you. Look at your total revenue and see if you are higher or lower than last year. If its higher than you are going to be paying more in tax. Look at the bottom and see where your income is, annualize it, and start making a guess. Look at the tax table and see where you think your roughly going to be. You can do a lot of this without depending on someone else to do it for you. Most CPA’s and book keepers that you are working with can help you get this answer if you collaborate with them through out the year and ask them questions. People just kind of assume its going to happen automatically. But its not easy to calculate every year without spending at least 10, 20, or 30 minutes on it.
Ryan Isaac: But its doable, and its doable before April, right? How about when it comes time to decide to make a major expense. What are some of the questions you should ask yourself before you buy something for the deduction? In December, to be like, “I had a bigger year, I’m going to buy a new vehicle.”
Reese Harper: Thats a great one. If you didn’t receive any tax benefit for this thing you are going to do, or if taxes were not a benefit? Would you make that purchase anyway?
Ryan Isaac: Would it improve your business? Period.
Reese Harper: Even with the benefit of a tax deduction, purchases are still going to cost you more than if you just paid the tax and pocketed the difference. Deductions and tax savings are not a reason enough to make major purchases. I think too many people don’t realize that all of these things they are doing require debt service, storage costs, maintenance, and all of those things can erode the benefit of the initial tax deduction if you don’t need the asset. So don’t buy things just because you are going to get a tax benefit. A lot of your CPAs have probably told you that before. The question is, when the pressure is really high and you want to be proactive about this, you think, maybe I’ll buy a a truck. It takes down some of the tax bill and it feels like you got the truck for free. But its not that simple, you didn’t get a free truck, thats what your saying? Good tax planning requires knowledge of your personal tax bracket and where you sit in the spectrum and then making decisions every year and don’t minimize it.
Ryan Isaac: Lets call that good for today, I’m sure you have a lot more that you could say, everyone LOVES talking and listening about taxes.
Reese Harper: I just felt like it was getting a little boring after a while.
Ryan Isaac: We will do taxes part two! Any highlights to share from Boston trip?
Reese Harper: We did a presentation and had a great group of dentists out there. We ate well.
Ryan Isaac: Yes, we had some excellent lobster at legal Harbor side. We had a few deserts, we were hoping to run into our boys Mark and Donnie Wahlburg to get hooked up with some free Wahlburgers.
Reese Harper: Ya, you got it, Mark and Donnie. I’ll give them a call, they’re at the club.
Ryan Isaac: Thanks for listening. Remember to leave us a review on the podcast. For more information go to our website, it’s dentistadvisors.com. You can sign up for the free newsletter, our phone number is on the website so call us for a chat. We also have a link to our calendar where you can schedule with us at any time to talk. We would be happy to talk to you.
Reese Harper: Carry on! Thanks!Retirement Plans, Taxes