Adulting for HENRYs: A Guide to Turning High Earnings into Lasting Wealth

Ed. 113

Sunday, February 18, 2024

Table of Contents

INSIGHTS & OPINIONS

Soā€¦ what is a HENRY?

So, you've heard about HENRYs, right? High Earners Not, Not Rich Yet. HENRYs are labeled the "working rich" as their rich status is largely attributed to their working income, not their accumulated wealth.

To put HENRYs into context, Here is a real-life example of two Henry's we know in New Jersey, actually more like Henry and Henrietta. Their names have been changed to protect the innocent.šŸ˜„

Meet Donny the DentistšŸ’‰ and his legal eagle fiancĆ©e, Lee! These two high-flying lovebirds are raking in a whopping $500,000 combined, but their wallets are feeling the strain of student loans, lifestyle shenanigans (Aspen anyone?), Taylor front row tix, NYC rent, health insurance, and nights at Minetta Tavern. Readers, am I right?

Retirement? It's the dream as they become Walking Dead zombies in their financial nightmare. Donny and Lee are dancing the paycheck-to-paycheck cha-cha.

But fear not, dear reader, for there's light at the proverbial end of the tunnelā€¦and its not an oncoming trainšŸš†. Cue the spotlight on maximizing benefits and outsmarting taxes! Forget about retirement being MIA; we're about to make it the headliner of their financial show.

Here are the tips Donny & Lee are starting to take to set themselves up for a life of abundance instead of that hamster wheel. Skip the get-rich-quick and become wealthy forever.

šŸ‘‡šŸ’Æ

1. Priority 1, 2 & 3 isā€¦ SAVE! SAVE! SAVE!

For HENRYs (High Earners, Not Rich Yet), itā€™s save, save, save! Reducing debt is pivotal in transitioning from earning well to achieving genuine wealth. Too many times we look at saving money like we're not doing something else we should; but rather it should be viewed as doing something big, really big. Wealth building āž”ļø home buying āž”ļø family āž”ļøbetter neighborhood. āž”ļø better schools āž”ļø awesome experiences w/o tight budget = ABUNDANT LIFE

It directly boosts net worth by turning money previously spent on interest into savings and investments. This shift significantly improves cash flow, enabling higher contributions to retirement accounts and investment portfolios, accelerating wealth accumulation.

Additionally, paying off debt, particularly high-interest consumer debt, alleviates financial stress, enhances credit scores leading to a first home purchase. This freedom allows for more strategic financial decisions, career flexibility, and the ability to pursue broader personal and financial goals without the constraints of monthly debt repayments.

Ultimately, debt reduction for HENRYs is not just about eliminating liabilities; it's a foundational step towards building a secure financial future, ensuring a comfortable retirement, and achieving financial independence. This strategic focus on debt management paves the way for a transition from high earnings to substantial wealth.

2. Charitable Contributions and Donations

Making a donation to a qualifying tax-exempt charitable organization is a great way to support good causes and lessen your tax liability at the same time. The IRS allows you to deduct charitable cash donations of up to 60% of your adjusted gross income (AGI). If you contribute a non-cash asset, you can also deduct up to 30% of it from your return. Did you know that the IRS allows up to $5000 in clothing donation deduction without appraisal and up to another $5000 in art and furniture deduction without appraisal? Get on over to that Housing Works or Salvation Army and start donating and deductingā€¦but donā€™t forget that receipt!

3. State and Local Tax (SALT) Deductions

Will you itemize your tax deductions this year? If so, you should be able to deduct a portion of the taxes you pay to state and local governments using the SALT tax deduction. The maximum deductible amount is currently at $10,000, which can make a big difference in your final tax liability.

4. Mortgage Interest Deductions

Most homeowners are able to deduct all of their mortgage interest paid using this useful deduction. Your interest payments are 100% deductible up to a home loan of $750,000. If you took out your home mortgage prior to December 16, 2017, the loan limit is higher, sitting at $1 million.

5. Max Out Retirement Contributions

  1. Take advantage of employer-sponsored plans: If your employer offers a 401(k) or other retirement plan, be sure to contribute the maximum allowed amount. Not only will you benefit from the tax-deferred growth of your contributions, but many employers also offer matching contributions, which can significantly boost your retirement savings.

  2. Consider a backdoor Roth IRA: If your income is too high to contribute to a Roth IRA directly, you can still take advantage of this tax-advantaged retirement account through a backdoor Roth IRA. This involves making a non-deductible contribution to a traditional IRA and then converting it to a Roth IRA. While this strategy requires careful planning and execution, it can be a powerful tool for high earners looking to maximize their retirement savings.

  3. Don't overlook HSA contributions: While health Savings accounts (HSAs) are primarily designed to help offset the costs of healthcare, they can also be a valuable retirement savings tool. Contributions to an HSA are tax-deductible, and withdrawals for qualified medical expenses are tax-free. Additionally, once you reach age 65, you can withdraw funds from your HSA for any reason without penalty (although you will pay income tax on the withdrawal).

  4. Consider a SEP-IRA or Solo 401(k) if you're self-employed: If you're self-employed, you have a few additional retirement savings options. A simplified employee pension (SEP) IRA allows you to contribute up to 25% of your net self-employment income (up to a maximum of $58,000 for 2021). Alternatively, a Solo 401(k) allows you to contribute up to $58,000 in combined employer and employee contributions (or up to $64,500 if you're over age 50).

By following these:

6. Medical Expenses and Healthcare Costs

If your unreimbursed medical expenses in a year exceed 7.5% of your adjusted gross income (AGI), you can deduct them from your federal income tax. Almost all kinds of healthcare and medical services qualify for this deduction, including physical therapy, doctor check-ups, hospital bills, dental care, massage therapy, and more, so save your receipts.

Are you enrolled in a Health Savings Account (HSA)? Contributing to an HSA is a useful way to reduce your tax liability. These plans also have the added benefit of allowing tax-free withdrawals for medical expenses, making them doubly useful when you enter retirement.

7. Consider a Roth Conversion

If you earn too much in yearly income to contribute to a Roth IRA, consider converting traditional IRA assets to a Roth IRA. While this will cost you money in taxes for the year you convert these assets, itā€™s ultimately a smart tax strategy, allowing you to make qualified withdrawals from your Roth IRA without having to pay income tax on each distribution. The best approach is to do the conversion in a year when your tax rate is low.

8. Investment Strategies for Tax Efficiency

For high-income earners looking to preserve wealth, the effectiveness of various investment vehicles in terms of tax efficiency can vary significantly. Among the options offering notable advantages in deferring taxes and minimizing tax burdens are cash-value life insurance and annuities. These investments stand out by enabling the tax-free accumulation of value, thereby diminishing overall tax obligations. Another investment that merits attention for its tax efficiency is Real Estate Investment Trusts (REITs). REITs distribute the majority of their income as dividends to investors, which can offer favorable tax treatment and serve as an efficient method to reduce tax liability.

9. Business Expenses

If you own a business, be sure to track and organize the expenses it incurs throughout the year. Office supplies, advertising, business bank account fees, professional fees, business vehicle expenses, depreciation, business startup costs, and more can all be deducted from your tax return, meaning youā€™ll pay less at tax time.

10. Deductible Traditional IRA Contributions

If your adjusted gross income (AGI) is less than $83,000 as a single filer who is covered by a retirement plan at work, you may be able to claim a partial deduction on contributions to your Traditional IRA plan. If you are not covered by a retirement plan at work, however, you can take a full deduction up to the amount of your IRA contribution limit. This is great for any IRA assets you havenā€™t yet converted to a Roth IRA.

11. Tax Residency Planning

Does anyone think folks are moving to Florida and Texas for the food?!? Some states have higher state income tax than others, while others donā€™t require you to pay tax on income at the state level at all. Choosing a state for your primary residence can have a substantial impact on your overall tax liability, given the variation in state income tax rates and regulations. Here are some states that are often considered favorable for tax residency planning due to their tax policies:

  • Florida - Florida does not have a state income tax, making it a popular choice for tax residency. It's also known for its favorable climate and quality of life, which adds to its appeal.

  • Texas - Like Florida, Texas does not impose a state income tax on its residents. This feature, combined with a diverse economy and a large geographic area with various living environments, makes Texas another attractive option.

  • Nevada - Nevada is another state without a personal income tax. Its proximity to California makes it a convenient tax residency option for individuals who have business interests or other ties to California but wish to benefit from Nevada's tax policies.

  • Washington - Washington State does not have an income tax, which can be particularly advantageous for high earners.

  • South Dakota - South Dakota offers no state income tax and has been recognized for its favorable tax environment.

  • Wyoming - Wyoming is another state that does not levy a personal income tax.

  • Alaska - Alaska does not have a state sales tax or an income tax. Residents also receive an annual dividend from the Alaska Permanent Fund.

  • Tennessee - Tennessee has no personal income tax but does tax dividends and interest income through the Hall income tax, which is in the process of being phased out.

  • New Hampshire - New Hampshire does not tax earned income but does tax dividends and interest

There you have it ā€“ a crash course for all the HENRYs still figuring out the adulting thing. Make those money moves and turn all the hard work into long-term wealth. Adulting, here we come!

ā€œHe who buys what he does not need, steals from himself.ā€

ā€“ Swedish Proverb

Curated For You

These articles are a precursor to next weekā€™s insights and opinions when I talk more about the massive consequences of the Great Wealth Transfer.

Read past editions here

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