What should you know about moving up a tax bracket?
Moving up a tax bracket is actually a good thing because it means you are making more money. When you make more money, it also means you will pay more in taxes. Paying more in tax is not fun, but it’s not a reason to panic. There are many strategies to save on taxes, and tax strategies become even more beneficial when you reach higher tax brackets.
As you move up in tax brackets, retirement savings will likely be your largest tax savings opportunity. If you are doing Roth contributions, you may want to consider switching those to traditional contributions. You only want to do Roth contributions when you are in a tax bracket that is lower or equal to the one you anticipate being in retirement. As people move into mid-or-late-career earnings years, traditional contributions tend to make more sense. Maximizing your retirement contributions will provide a nice tax deduction to help as you move into higher brackets.
So, some may wonder, does moving into a new tax bracket mean you will have a lower net income? Fortunately, the answer is no. As you make more money, you will have a higher net income, but the tax rate you pay on your income goes up. As an example, if you make $10,000 and pay 10% tax of $1,000 you net $9,000. If you make $100,000 and pay 25% tax of $25,000 you net $75,000 which is more than the person making $10,000.
One question we are often asked is, “Does a tax bracket affect all your income?” Fortunately, moving up in a tax bracket does not affect all of your income. The United States uses a progressive tax system. This means we have tiered tax rates that charge higher-income individuals higher tax percentages. So as you make more income the higher rates get applied only to the income above each tax bracket threshold.
Some people ask, “Is it better to pursue moving up to a higher tax bracket or better to stay in a lower marginal tax bracket?” Our experience shows that moving into a higher tax bracket will result in more net income for most people. So if you want to have more money to spend, then you will need to be prepared to move into higher tax brackets.
Many people are surprised to find out that by using tax planning strategies, they can actually keep themselves in lower tax brackets. Things like retirement contributions, charitable giving, tax credits, and other deductions can keep your taxes lower. We spend a good bit of time focusing on tax planning for our clients. The goal is to help our clients pay the lowest amount of tax over their lifetime.
If you have questions about this, please reach out to our advisors who may be able to answer your questions. While we are not a tax preparation service, we do offer tax & estate planning and have 2 Certified Public Accountants on our team. We collaborate with our client’s accountant, attorney, and other financial advisors to provide a clear and comprehensive financial picture. Not only will our advisors help you as your income grows, but we also help you mitigate tax implications when significant life events occur such as marriage, divorce and remarriage, death, retirement, estate, and charitable contributions. We analyze and look at the tax and estate implications of different scenarios related to federal estate tax, trust and partnerships, gifting and gift tax, and wills and beneficiaries
We look forward to helping you.