By Kevin Estes

Federal Tax Code

The U.S. government uses the tax code to:

• encourage some actions

• discourage others

• treat taxpayers “fairly” ⚖

It seems to tell taxpayers:

1. Get educated

2. Get a job

3. Earn some money

4. Don’t earn too much

5. Pay medical expenses

6. Get married

7. Buy a home

8. Go green

9. Have or adopt up to three children

10. Invest long-term

11. Save for retirement

12. Give some away

13. Don’t get too rich

Each tax benefit includes additional restrictions and limitations. Consult a tax professional on your specific situation.

1. Get Educated

The government encourages continued education many ways.

American Opportunity Tax Credit

This is a credit for expenses paid for the first four years of a student’s higher education.

The credit is up to $2,500:

• 100% of the first $2,000 expenses

• 25% of the next $2,000 expenses

In 2023, the credit was phased out for incomes above:

• $80,000 single

• $160,000 married, filing jointly

Lifetime Learning Credit

Eligible students can earn up to a $2,000 credit per tax return for tuition and related expenses. The same expense cannot receive multiple deduction and the 2023 income limits were the same as those for the American Opportunity Tax Credit.

Federal Bond Interest Exclusion

Families that cash U.S. bonds (EE and I) in a year with tuition expenses may be able to exclude the interest from income.

Some of the many restrictions include that they’re not allowed for taxpayers with income higher than the 2023 limits of:

• $106,850 single

• $167,800 married, filing jointly

Student Loan Interest Deduction

Up to $2,500 of student loan interest can be deducted by the taxpayer annually. The 2023 income limits were the same as those for the federal bond interest exclusion.

Employer Tuition Reimbursement

An employer can pay up to $5,250 of an employee’s education expenses before it counts as income. As of 2020, the first $5,250 of student loans receive the same treatment.

Employers often adopt benefits which provide a tax deduction for them without increasing income for employees.

Gift Tax Exclusion

Gifts paid directly to an educational institution avoid gift taxes. Almost anyone can pay educational expenses for anyone else without having to worry about gift tax.

This is especially helpful for grandparents looking to support grandchildren. Gifts might otherwise be subject to the Generation Skipping Transfer Tax.

2. Get a Job

Payroll taxes are automatically taken out of paychecks for Social Security and Medicare. The employer and employee each usually pay the federal government:

• 6.2% for Social Security, up to a maximum employee income level

• 1.45% toward Medicare, with no income limit

A solopreneur pays both halves! They pay 15.3% in payroll taxes until they reach the Social Security cap. This is known as self-employment tax.

It’s not the government’s intent to discourage entrepreneurship. After all, it just wants to get paid!

Nonetheless, payroll taxes for employee compensation is 7.65% compared with 15.3% for self-employment income.

The tax code encourages someone to earn at least some money a variety of ways.

Standard Deduction

The standard deduction ensures lower earners pay no federal taxes other than payroll taxes for 2024 up to:

• $14,600 single

• $29,000 married, filing jointly

Earned Income Tax Credit

There’s also an Earned Income Tax Credit which reduces taxes for families with low and moderate incomes. It depends on income and number of children. A family with three or more qualifying children could receive up to a $7,430 credit in 2023.

The income limits for 2023 were:

• No children: $17,640 single and $24,210 married, filing jointly

• 1 child: $46,560 single and $53,120 married, filing jointly

• 2 children: $52,918 single and $59,478 married, filing jointly

• 3+ children: $56,838 single and $63,398 married, filing jointly

Families who make more don’t receive the Earned Income Tax Credit.

4. Don’t Earn Too Much

The U.S. tax code discourages earning high income many ways.

Progressive Income Tax Brackets

Federal tax brackets are progressive:

The more you make,

the more they take.

However, tax brackets are often misunderstood.

Someone only pays a higher tax bracket on the income above the previous bracket. A raise is taxed at a higher rate yet doesn’t really impact how much tax is paid on the rest of the income. A taxpayer’s overall tax rate is lower than their marginal tax rate.

Deductions and Credits Phased out by Income

Another way the income tax system is progressive is in how deductions and credits are eliminated for higher earners. Additional taxes may also apply.

Benefits lost at higher incomes include:

$17,640 - $56,838 single; $24,210 - $63,398 married, filing jointly
Lose Earned Income Tax Credit

$36,500 single; $73,000 married, filing jointly
Lose Saver's Credit

$44,625 single; $89,250 married, filing jointly
Lose 0% Long-Term Capital Gains Rate

$80,000 single; $160,000 married, filing jointly
Lose American Opportunity Tax Credit
Lose Lifetime Learning Credit

$83,000 single; $136,000 married, filing jointly
Lose Traditional IRA Deduction if covered by a workplace retirement plan

$106,850 single; $167,800 married, filing jointly
Lose Federal Bond Interest Exclusion
Lose Student Loan Interest Deduction

$228,000 married, filing jointly
Lose Traditional IRA Deduction if not covered by a workplace retirement plan but spouse is

$150,000 single; $300,000 married, filing jointly
Lose Electric Vehicle Tax Credit

$200,000 single; $250,000 married, filing jointly
Pay additional 3.8% Net Investment Income Tax

$200,000 single; $400,000 married, filing jointly
Lose Child Tax Credit

$492,300 single; $553,850 married, filing jointly
Lose 15% Long-Term Capital Gains Rate

5. Pay Medical Bills

The government has a vested interest in taxpayers saving for and paying their medical bills. One estimate is 29% of government spending - nearly $2 trillion - was for healthcare expenses in 2023.

Healthcare Flexible Spending Account (FSA)

Employees are allowed to reduce income tax up to $3,200 for 2024 by contributing to a healthcare FSA.

However, it's critical not to overfund a Flexible Savings Account. These plans are use it or lose it! If an employer plan allows, the most that can be rolled over from 2024 to 2025 is $640.

Health Savings Account (HSA)

A Health Savings Account isn’t use it or lose it! Even if an employee leaves the employer, they can take the account with them. It's portable.

A Health Savings Account is also triple tax advantaged in that contributions:

• lower taxable income the year contributed

• grow tax-free

• can be used tax-free for qualified medical expenses

The gotcha here is that someone has to be on a qualified High Deductible Health Plan (HDHP). Someone may pay substantially more out of pocket for medical expenses because of their high deductible.

The HSA contribution limits for 2024 are:

• $4,150 for an individual

• $8,300 for a family

Deductible Medical and Dental Expenses

Large medical and dental expenses may also lower taxes. Someone can deduct medical and dental expenses greater than 7.5% of adjusted gross income for the year.

This is especially helpful for older Americans who may have higher expenses and limited income in retirement.

Gift Tax Exclusion

Like education expenses, medical expenses can also be excluded from gift tax. Payments need to be made directly to medical institutions for this exclusion to apply.

6. Get Married

When a couple gets married, they’ll often - though not always - pay less tax together than they would have separately. As long as the couple is married by the end of the year, they can file a joint tax return.

Standard Deduction

The 2023 married, filing jointly standard deduction is double that of the single filing status:

• $13,850 single

• $27,700 married, filing jointly

Tax Brackets

The 2023 married filing jointly tax brackets are also generally double that of the single tax filing status:

• 10% for incomes up to $11,000; $22,000 for married couples filing jointly)

• 12% for incomes over $11,000; $22,000 for married couples filing jointly

• 22% for incomes over $44,725; $89,450 for married couples filing jointly

• 24% for incomes over $95,375; $190,750 for married couples filing jointly

• 32% for incomes over $182,100; $364,200 for married couples filing jointly

• 35% for incomes over $231,250; $462,500 for married couples filing jointly

• 37% for incomes over $578,125; $693,750 for married couples filing jointly

Tax Brackets

Another benefit is higher income limits for deductions on Individual Retirement Arrangement (IRA) contributions.

If covered by a retirement plan at work, the 2023 income limits are:

• $83,000 for single

• $136,000 for married, filing jointly

If someone who isn't covered by a retirement plan at work yet their spouse is, the limit is $228,000 for married, filing jointly.

It's possible to contribute to someone's traditional IRA even if a spouse doesn't have earned income. The spouse has to have enough income to cover both of their contributions. This option is called a spousal IRA.

Double Benefit

Many married, filing jointly deductions and credits are also double those of single taxpayers.

Health Savings Account

The Health Savings Account 2024 contribution limits are:

• $4,150 for an individual

• $8,300 for a family

Other benefits can be orders of magnitude larger.

Home Gain Exclusion

If someone selling their primary residence for more than what they have into it, they may be able to exclude up to:

• $250,000 of the gain if single

• $500,000 of the gain if married, filing jointly

There are other limitations. The biggest one is the couple needs to have owned and lived in the location for at least 24 months out of the last five years.

Estate Tax Exclusion

Only large estates are currently subject to federal estate tax. The limit for 2024 is $13.61 million.

It's double for married couples, filing jointly. A surviving spouse can use their spouse's unused exclusion with the Deceased Spouse Unused Exclusion.

Someone who was married and passes away in 2024 could avoid estate tax on up to $27.22 million.

7. Buy a Home

The government encourages home ownership several ways.

Capital Gain

First, the IRS usually treats income earned from the sale of real estate as a capital gain.

The long-term capital gains tax rates are 0%, 15%, and 20% - depending on the taxpayer's income.

Home Gain Exclusion

Much of the gain from selling a home could avoid income tax.

If the ownership and residency requirements are met, a taxpayer could exclude up to:

• $250,000 of the gain if single

• $500,000 of the gain if married, filing jointly

That's a massive incentive to buy a primary residence!

Home Mortgage Interest Deduction

Interest paid on a home mortgage may lower federal taxes.

For mortgages taken out after December 15th, 2017, the maximum home loan which can be deducted is $750,000. The limit was previously $1 million.

This is an itemized deduction. Whether the interest will lower taxes depends on whether the sum of all itemized deductions is greater than the standard deduction.

Interest expense is deductible for both a primary residence and a second home.

Property Taxes

Another tax benefit of home ownership is property taxes can be deducted, up to a limit. The Tax Cuts and Jobs Act lowered the limit to $10,000 for both state and local taxes - including property taxes.

As with the home mortgage interest deduction:

• it's an itemized deduction and

• property taxes paid for multiple properties can lower taxable income.

8. Go Green

The government encourages some environmentally friendly upgrades.

Energy Efficient Home Improvement Credit

Energy-efficient improvements to a primary home may qualify for a tax credit up to $3,200.

The credit is 30% of qualified expenses, including:

• qualified energy efficiency improvements,

• residential energy property expenses, and

• home energy audits.

Additional limits apply such as:

• $1,200 for energy property costs and home energy efficient home improvements

• $250 per door and $500 total

• $600 for windows

• $150 for home energy audits

Residential Clean Energy Credit

There’s a tax credit of up to 30% for new, qualified energy property installed on a home can receive a federal tax credit.

These are things like:

• Solar electric panels

• Solar water heaters

• Wind turbines

• Geothermal heat pumps

• Fuel cells

• Battery storage technology

Electric Vehicle Tax Credit

A taxpayer may receive a $7,500 credit for the purchase of a new, qualified plug-in electric vehicle or fuel cell electric vehicle.

Restrictions apply, including a maximum modified adjusted gross income of:

• $150,000 single

• $300,000 for married, filing jointly

9. Have or Adopt up to Three Children

The tax code includes several provisions for children.

Child Tax Credit

There’s a credit of up to $2,000 per child, $1,600 of which may be refundable.

The credit is eliminated with income above:

• $200,000 single

• $400,000 married, filing jointly

Child and Dependence Care Credit

Dependent care expenses can receive a credit up to:

• $3,000 for one qualifying individual

• $6,000 for two or more qualifying individuals

The government wants parents to work

Earned Income Tax Credit

The earned income tax credit depends on the number of children:

• No child - up to $600

• One child - up to $3,995

• Two children - up to $6,604

• Three or more children - up to $7,430

Adoption Credit

Up to $15,950 per child can be credited for adoption fees and expenses.

The credit is non-refundable. However, an unused credit can be carried forward for up to five years.

10. Invest Long-Term

The U.S. government promotes long-term investing. Unlike some other countries, it has a lower tax rate for investments held at least a year and a day.

Long-Term Capital Gain

The long-term capital gains rates are 0%, 15%, and 20% and depend on taxable income. For 2023, the rates were:

• 0% for up to $44,625 and $89,250 married, filing jointly

• 15% for $44,626 to $492,300 single and $89,251 to $553,850 married, filing jointly

• 20% for taxable incomes above that

Net Investment Income Tax

There’s also a 3.8% surtax for taxpayers with investment income whose total income are above lower limits.

The surtax applies to taxpayers with income above:

• $200,000 single

• $250,000 married, filing jointly

These limits are not adjusted for inflation - meaning more Americans will likely be subject to this additional tax over time.

11. Save for retirement

The federal government encourages people to save for retirement in many ways.

It lets taxpayers reduce income by contributing to a pre-tax retirement account. Essentially, the government:

• gives a tax break initially,

• allows the investments to grow without being taxed, and

• then taxes the distributions.

Traditional Retirement Accounts

The regular contribution limit for 2024 is $23,000 for plans like:

• 401(k)

• 403(b)

• 457(b)

• Thrift Savings Plan

There's an additional catch-up contribution of $7,500 for those at least 50 years old.

Individual Retirement Account

Apart from employer plans, the traditional IRA offers a similar pre-tax saving option. However, the limits are much lower:

• $7,000 regular contribution limit

• $1,000 catch-up for those age 50 and older

Roth Accounts

Unlike with the traditional retirement accounts, contributions to Roth accounts don't lower income taxes when contributed. However, the investments grow tax-free and are designed to avoid income tax when funds are withdrawn.

The Roth contributions limits are the same as the traditional versions. An individual could contribute some to Roth and some to traditional. However, the limits are combined.

Saver's Credit

The government further encourages investing with the Saver's Credit. This is an additional credit for low to moderate income taxpayers who save for retirement.

The credit is up to 50% of the contribution made and is phased out with higher income. It's eliminated altogether above:

• $36,500 single

• $73,000 married, filing jointly

12. Give Some Away

The federal tax code includes several provisions to encourage people to give to individuals and charitable causes.

Gift Tax Exclusions

Payments made directly to educational and medical institutions are excluded from gift tax.

If both spouses are U.S. citizens, the gifts they give each other also avoid gift taxes. There's no limit to the amount of the gifts, which unlocks some interesting estate planning opportunities.

In addition, there's an annual exclusion for gifts. Anybody can give almost anyone else a gift less than $18,000 each year without having to worry about gift tax. The amount is doubled for married couples filing jointly to $36,000.

Annual giving is a way higher wealth households can pass assets to subsequent generations and avoid the gift tax. It also lowers their net worth and could help them avoid estate taxes.

Gifts to political organizations also avoid the gift tax.

Charitable Contributions

The government encourages charitable donations by allowing some of or all of it to be tax deductible. How much is deductible depends both on the organization receiving the donation and the type of donation.

As with mortgage interest and property taxes, charitable contributions are an itemized deduction. If someone's itemized deductions already exceed the standard deduction, charitable contributions will likely lower their income taxes.

If they would otherwise use the standard deduction, part of their contribution(s) likely wouldn't lower their income. Once the itemized deductions exceed the standard deduction, charitable donations begin to lower federal income taxes.

13. Don't Get Too Rich

The U.S. federal tax system is almost entirely based on income - not wealth. Estate tax is an exception.

Federal Estate Tax

The federal estate tax excludes wealth up to the following in 2024:

• $13.61 million single

• $27.22 married, filing jointly

State Estate Tax

However, some states have much lower exclusions.

The limit for Oregon is only $1 million. Estates larger than that are taxed.

The limit for Washington is only $2.193 million. Estate larger than that are assessed state estate taxes.

I hope this helped!

I am not a tax professional. For instance, I don’t prepare taxes for other families, business, and trusts.

However, I do tax planning.

If you’re interested in a review of your specific situation…

Disclaimer

In addition to the usual disclaimers, neither this post nor these images include any financial, tax, or legal advice.