7 Secret Ways on How to Pay No Taxes
Would you believe me if I told you that Warren Buffett pays less tax than his secretary? You may wonder how a billionaire pays fewer taxes than an average-income earning secretary, and the answer is that there are two kinds of taxpayers, those who accept taxes as a natural part of life and pay whatever the government tells them to, and there are others who do everything in their power to avoid paying taxes.
Let’s give each of these types of people a name. We will call the willful taxpayer Paul and the tax avoider Jack.
To Paul, when the government comes knocking at the end of the year, he doesn’t see it as a big deal. Earning $40,000 a year, Paul hands over his $15,000 worth of income taxes and moves on about his life. Sure, he would love to keep more of the $15,000, but he sees paying taxes as a normal part of life.
Jack, on the other hand, is a medium-sized business owner who draws himself a salary from the tech company he owns and built from scratch. Jack has over 50 employees working for him and has seen his business grow year over year. Unlike Paul, Jack despises tax. He thinks to himself how can the government who played no part in making his business’s success take such a huge chunk of his money for nothing.
To make matters worse, being taxed personally and by being a business owner, Jack is subject to just about every tax imaginable, such as personal income tax, sales tax, excise tax, property tax, and investment tax. With all these potential taxes being applied to his income, Jack decided to look into how big corporations avoid paying taxes, after hearing that in 2018, Amazon paid zero income tax, even though they earned over $200 billion in revenues that year.
Determined to avoid losing a sizeable chunk of his earnings to tax, Jack looked into ways he could cut down on the amount of corporate tax his business pays, and reduce his own personal tax bill. In his hunt for tax strategies, Jack came across the following techniques.
1. Writing off Expenses
Given that most rich individuals earn their fortunes through a business, this gives them the opportunity to write off expenses and lower their taxable income. You see, most expenses you occur in your day-to-day business operations can be written off against your income to lower your taxes payable.
Let’s say you run a digital marketing agency and in $200,000 a year in revenues. If you had no expenses, in the whole $200,000 would be subject to tax. However, as most businesses incur expenses, these costs will reduce what amount of profits will be subject to tax.
For instance, if you have $100,000 worth of legitimate business expenses a year, then this would make your annual profit $100,000 instead of the $200,000 you earned in revenue, which would cut your taxes paid on your earnings by more than half.
Eligible expenses can include things like business meals, office supplies, new laptops, Internet connections, employee benefits, staff training, rent and leases, car expenses, etc. As the owner of the business, if you decide to take a trip for a conference to develop your skills in digital marketing, you can decide to write that off as well.
This method of reducing your taxes is only enjoyed by people who own businesses, leaving little wonder as to why most people who owned businesses seem to be considerably richer than people who work as employees.
2. Diverting Income
As of 2017, the United States corporate income tax rate was reduced from 35% to 21%. While this offered many companies, Amazon included, the opportunity to significantly reduce their income tax payable, many companies still elect to recognize their income in countries with even lower tax rates.
For instance, the Cayman Islands has no income tax, no corporate tax, no estate or inheritance tax, and no gift tax or capital gains tax, making it a pure tax haven. In short, whatever you earn, you keep.
Of course, without any calculations, it is obvious that this is a significant savings to any business who can realize their income overseas, but just how much would this save you, if you had set up a tax haven in this country? Let’s say your business earned $5 million last year. Instead of paying an income tax of 35% or $1,750,000, you would instead pay nothing and keep that almost $2 million for yourself.
Besides allowing you to realize income tax-free, the Caymans have very strict banking laws designed to protect banking privacy. The country does not have any tax treaties with other nations, thus guarding the finances of its offshore banking clients from the tax authorities of other countries.
Moreover, offshore corporations in the Caymans are not required to submit financial reports to any Caymans Government Authority, and incorporation in the Caymans is a very simple streamlined process. With all these benefits, it’s no wonder companies are flocking to these remote destinations to hide their earnings.
3. Netting Revenues Against Losses
If you’ve ever looked at the stats in favor of starting a business, then you will know just how bleak they could be. The numbers show that 20% of small businesses fail in their first year, 30% of small businesses fail in their second year, and 50% of small businesses fail after five years in business. Finally, 70% of small business owners fail in their 10th year in business.
With the chance of success in business being rather low, there are still numerous companies that succeed and make a fortune for which they need to protect, and one of the ways they do this is through the use of loss carryforwards.
Most businesses require a few years in operation before they start turning a profit, and in the years where a business is not exactly booming, losses are bound to be incurred. Thes losses, while unfortunate at the time, are excellent tax avoidance tools for future periods.
Like expenses, loss carryforwards can be netted against your earnings to reduce your overall taxes payable, meaning that less of your income is subject to tax.
4. Issuing Stock Options
Another way businesses reduce their taxes is by issuing stock options to its stakeholders. This method is particularly convenient for businesses for two reasons.
- It is booked as an expense which will reduce profits and ultimately the amount of money that is subject to tax.
- It does not result in a cash outflow for the business.
When stocks are issued, they are booked as an expense for accounting purposes, but no cash changes hands. This means that the company can reduce its profits through the expense and maintain a strong cash position.
Moreover, companies that use this strategy gain the benefits realized by incentivizing their shareholders to further increase the stock price. If you own stock in the company you worked for, wouldn’t you put an extra effort in order to make the company stock value rise, so that you could cash out your options for more money?
With these four corporate tax strategies in mind, Jack is starting to feel more confident that he can reduce or eliminate his corporate tax bill, but he knows that he needs to withdraw some income from his business in order to live, and once that cash to be minimally taxed, so he decides to switch gears and look into ways he can reduce his personal tax owing.
5. Leveraging Geographical Tax Laws
For the past 20 years, Jack has grown his business in the heart of Silicon Valley, however, his patients with living in the state with the highest income tax rate in the United States have finally reached a tipping point.
With a state income tax rate of 13.3% for the highest income earners, Jack is seeing a large chunk of his income being handed over to his state government, with even more being passed along at the federal level. While federal taxes can be avoided, Jack wonders what he can do to avoid some of the other taxes, he’s being subject to, that are eroding his personal well.
Jack began researching other states with lower income tax rates and was surprised to see that seven states were income tax-free, such as Texas, Nevada, and Florida, meaning that he could save the 13.3% tax he was currently paying and still enjoy the warmth of the sun all year long.
As Jack began looking into housing options in each of these three states, he wondered if there were other ways he could further reduce his personal tax bill.
6. Investing in Real Estate
Part of the reason the rich continue to get richer is that they make their money work for them, and one of the ways they do this is through real estate. You see, not only this owning real estate increase your wealth by generating income, but it also allows for the reduction in taxes payable.
When you buy a property you are acquiring and a depreciable asset, and because the asset reduces in value over time from an accounting perspective, you are able to deduct depreciation and reduce the amount of income that is subject to tax.
Common deductible expenses include repairs to the property and mortgage interest, and the more money you spend on expenses, the more you can reduce your tax selling. However, once a property is fully depreciated, what do you do? You sell that property and buy a new one.
While selling property usually triggers tax, there is such a thing as a 1031 exchange, which allows you to defer the tax you would have paid on selling the property if you buy a new property within 60 days of sale.
In essence, you can continue to depreciate your properties and then sell them in perpetuity and never pay the tax, while still being able to use the assets to generate rental income.
7. Deferring Income
While Jack has looked into moving states and using real estate to reduce his taxable income, he still feels as though some of his income will need to be sheltered for tax, and another way he could do this is by deferring his income.
The most common tax deferral vehicle is an individual retirement account or an IRA, which allows you to move your income into a fund and subject your earnings to tax at a later date. If you’re an employee, you probably used this type of account to hold your savings and allow them to grow over time, however, they also double as a solid tax-avoidance strategy.
Income earned from employment is subject to tax, unless that is, you contribute the funds to your IRA account. In the year you contribute money into your IRA, you will receive a deduction from your taxable income for the amount you contributed.
This strategy is particularly effective for high-income earners because it reduces their tax bill during their highest-earning years. For instance, if you earn $500,000 a year and are in the highest tax bracket, your income is probably being subjected to tax of up to 40%.
What if you could avoid the 40% tax and instead have part of your income only be taxed to 20%? Well, you could do just that using an IRA. When you contribute to your IRA, you do not pay any tax in the year you contribute, instead pay tax when you withdraw the funds, which is typically during retirement.
However, during retirement, you’ll probably be earning much less than $500,000, meaning that the money you withdraw will be taxed at a lower rate, and the difference in tax rates is how much you would have saved by using this income deferral technique.
With all these tax avoidance techniques in your financial toolbox, you only have one question left to answer. Which type of taxpayer will you be from here on out a Paul or a Jack?