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I recently wrote in a comment on HD that I think the most important, usable, and meaningful tax breaks go to average middle income Americans. Not being a tax expert, I did some digging to find them.
Perhaps Rick Connor and others know of more I missed.
Here is what I came up with.
Child Tax Credit – helps families with qualifying children by reducing their tax liability.
Earned Income Tax Credit (EITC) – the EITC can also provide significant benefits to those within the lower end of the middle-class income range, It’s designed to supplement the income of working individuals and families.
Standard Deduction -The standard deduction reduces the amount of taxable income. Increases in the standard deduction can simplify tax filing and provide tax savings for many middle-class taxpayers. Seniors 65 + get an additional deduction.
SALT Deduction-allows federal deduction of state and local taxes, including property taxes.
Tax-free Social Security benefits (for many beneficiaries)- according to the SSA, projections show that an annual average of about 56 percent of beneficiary families will owe federal income tax on their benefits from 2015 through 2050
Retirement Savings Contributions – Tax-advantaged retirement accounts, such as 401(k)s and IRAs, allow middle-class individuals to save for retirement while reducing their current taxable income.
Roth accounts provide additional benefits with tax-free retirement income.
The “Saver’s Credit” is also available for some moderate income tax payers contributing to retirement accounts.
Education-Related Tax Benefits – Tax credits like the American Opportunity Tax Credit and the Lifetime Learning Credit can help middle-class families offset the costs of higher education.
The Health Insurance Premium Tax Credit – This is a refundable tax credit that helps eligible individuals and families pay for health insurance premiums purchased through the Health Insurance Marketplace.
Employer-Sponsored Health Insurance Exclusions – A significant portion of healthcare funding comes from employer-provided health insurance. Employer contributions are tax-free to the worker.
IRC Section 125 Cafeteria Plans- allows workers to pay their share of different employee benefit premiums on a pre-tax basis.
Health Savings Accounts (HSAs) – HSAs are tax-advantaged savings accounts that can be used to pay for qualified medical expenses.
There are also employer-funded Health Reimbursement Accounts (HRA) plus Flexible Spending Accounts (FSA)
Of coarse, various investment tax provision like capital gains, treatment of dividends, even tax-free interest on municipal bonds apply to all taxpayers.
Carried interest, capital gains treatment, and qualified dividend treatment are a few of the key tax breaks of the wealthy — in descending order of importance and dollars lost to the U.S. Treasury, in my opinion of course. Carried interest is particularly egregious.
Carried interest involves only a tiny number of tax returns – 65,000 out of 160,000,000.
On the other hand, every retiree can use capital gains and qualified dividends to lower your tax. If you are single, have $200K in qualified dividends and no other income, you will pay about $21K in Federal tax.
I do not agree that Capital Gains and Qualified Dividends are tax breaks for The Wealthy. They are tax breaks for investors, however all investors are not “The Wealthy.”
When I take a withdrawal from my taxable brokerage account, I would pay LTCG. Because I own ETFs, I have qualified dividends annually.
I certainly do not consider myself “The Wealthy.”
I was not familiar with “Carreid Interest,” so I looked it up.
What Is Carried Interest?
Carried interest is a share of profits earned by general partners of private equity, venture capital, and hedge funds. Carried interest is due to general partners based on their role rather than an initial investment in the fund. As a performance fee, carried interest aligns the general partner’s compensation with the fund’s returns.
So in other words, Carried Interest is the result of ownership in a General Partnership? Does that mean all partners in a partnership are “The Wealthy?” I guesss since mainly only The Wealthy are involved in those investment types, i will give you that one.
Really the issue of carried interest is wrapped up in the larger issue of long-term capital gains vs. Short-term capital gains/ordinary income. Realistically, there’s no good reason to have a preferential rate for long term gains. It just exacerbates wealth inequality by reducing tax rates for wealthier people. LTCG also don’t benefit traditional retirement account investors, since that’s taxed at ordinary income rates regardless.
Carried interest I agree, but the others benefit or can benefit middle class Americans.
I don’t think the right question is “can“ a tax provision benefit the middle-class or not. The better question is whether wealthier people receive an inordinate benefit from the tax provision. And wealthier people — define it however you like (top .1%, 1%, or 10% — definitely get an inordinate benefit from capital gains and qualified dividends treatment. Of course they also inordinately benefit from being able to itemize deductions generally as well — but also pay at higher effective tax rates, too.
It’s all relative. Who gets the most benefit from the standard deduction? It can wipe out 40% of the median household taxable income.
Seems to me, that list, speaks to the need for reform. I read that Japan sends you a post card, taxes calculated, telling you how much to send in. I don’t know if that’s practical here (I have no idea how their system works) but I think a majority of the people would strongly prefer that approach.
Not quite that simple in the UK, but the government did most of the work. Took me about ten minutes at most to file my taxes, although my finances were simpler back then.
Just like investing, byzantine complexity is nearly always a bad thing.
Rick is right that large numbers of middle and lower income households may not have investments that let them take advantage of many tax breaks used by high income individuals. Probably the most striking example of this is the low cap on taxable gains for middle income Americans. This is from the IRS:
Capital gains tax ratesNet capital gains are taxed at different rates depending on overall taxable income, although some or all net capital gain may be taxed at 0%. For taxable years beginning in 2024, the tax rate on most net capital gain is no higher than 15% for most individuals.
A capital gains rate of 0% applies if your taxable income is less than or equal to:
A capital gains rate of 15% applies if your taxable income is:
However, a capital gains rate of 20% applies to the extent that your taxable income exceeds the thresholds set for the 15% capital gain rate.
There are a few other exceptions where capital gains may be taxed at rates greater than 20%:
And the net investment income tax of 3.8% can apply at incomes above $250K.
Just for clarity, the above refers to long term capital gains. Short term capital gains are treated and taxed as ordinary income.
Just out of curiosity, how do all of you define middle class? I feel like the goal posts on that have moved around a lot in the last several years. Is it just income, or maybe net worth? Is it also about the things/opportunities you have? Would you still call yourself middle class based solely on your income, even if you had an above average net worth for that income?
Since the median household income is in the $80,000 range, I’d say 50% either side of that amount.
We are middle class and benefitted from some of these. The education credits were a particular blessing when our kids were in college. Chris
Richard, I love you man, really I do. You’re one of my personal favorites here on HD….. But…. I could challenge most of what you post here regarding tax breaks. I’ll just say that I’m standing by my reply in your prior post.
You are correct that most of these credits go to low and middle class income taxpayers. However the income range to qualify is all over the map. For instance the child tax credit is available to taxpayers with incomes well over $100,000 whereas the earned income tax credit (EITC) and retirement savings credit phase out at much lower incomes.
Doesn’t seem to be any consistency. Same with saving limits between 401k and IRAS. Why Isn’t it all the same? Why does the employer plans get a better deal?
Hey Rick, help me out here.
Dick, I’m off duty – we are on a 2 week vacation in the UK with our 2 sons and their families. We just did a day tour of Stonehenge and Bath with eh older grandsons.
Several years ago, at Jonathan’s request, I reviewed a book that discussed the tax code, and analyzed how several presidents took advantage of tax breaks to lower their taxes. It’s true that the tax code is available to all of us, and there are a number of tax provisions that are targeted for lower income taxpayers, and some for the middle class.
I think the most interesting telling partt of your title is the word “useable”. The provisions you list are indeed available to many tax payers. I’m somewhat aware of a number of provisions that are only “useable” to those with higher incomes. I’m not as familiar with many of them – sadly I never reached the income or career level to take advantage of many of them. My company had several executive compensation plans that provided valuable deferred compensation programs for Directors and above. There were also stock options and restricted stock unit plans. I believe they were non-qualified plans, and not guaranteed, but I know colleagues who did quite well with them. The financial industry also seems to have some unique advantages, specifically pass-through entities that characterize profits as carried interest and avoid earned income tax rates.
I know people who have vacation homes that pay no tax on their rental income based on depreciating an asset that has doubled in value over the last 5 years. That depreciation will be capture did they sell, but they may just do a 1031 exchange and avoid any capital gain tax and pass the property on to their heirs with a step-up in basis.
To me, the reality is that the well-off can afford smarter tax professionals than a lowly engineer, and take advantage of provisions that I’ve never heard of. I’m still trying to figure out how to deduct many $1000 of hair stylings as a business expense.
“the reality is that the well-off can afford smarter tax professionals”
That’s a great point. I think not insignificant.
Make sure you taste that Bath water, Rick. It’s even worse than the Fountain of Youth water
Let’s just say it wasn’t my favorite beverage that day. The honey mead we tasted at Stonehenge was quite good.