How can I achieve a 13% U.S. Federal tax rate?

Question

MSNBC just had a segment explaining how Bernie Sanders paid 13% in federal taxes.

This year my income changed significantly, and I'm making a little less salary than Sanders's ~$200k. However, unlike him, I found that all the deductions I anticipated receiving are "phased out" due to income limitations.

That is, I could not take the IRA deduction, nor could I take the student loan deduction. So I had to file with only the standard deduction.

I'm on track this year to pay nearly 40% of my gross earnings in taxes! That's combining federal, state, and local, whereas Sanders, after deductions, had an effective federal tax rate of around 13%.

I'm a single filer. Assume I am in the $150k income bracket. Then per IRS tax tables, that would be 0.28 x $150,000 - $6963 = $35,037 in federal taxes which is 23.4%. I want to figure out how I can make a 13% federal tax plan.

What are some strategies that I can use to get my effective tax rate that low?

Answer 1

Sanders had the following itemized deductions on his 2014 return:

• $22,946 on home mortgage interest
• $14,843 on real estate taxes
• $9,666 on state and local income taxes
• $8,000 in monetary gifts to charity
• $350 in gifts to charity other than by cash or check
• $4,473 of deductible "meals and entertainment expenses" related to his job as a senator, of which he could only deduct $572
• In addition, a portion ($6932) of his social security benefits is not taxable.

There's no secret here: He owns expensive homes and paid quite a bit in mortgage interest and property taxes. These particular deductions are very advantageous to those taxpayers that live in areas with high real estate values.

His taxable income of $140,994 put him at the top of the 25% tax bracket in 2014, but his effective rate (total tax divided by total income) is $27,653 / $212,549 = 13.0%

That rate does not include any tax he paid on state or local income tax, social security tax, property tax, or any other tax (other than a small amount of self-employment tax).

---

As for your taxes, you gave us a number of $150,000. I'll assume that this is your taxable income. You are single, which means that you got a personal exemption of $4050. Your standard deduction is $6,300. This means that your total income is roughly $160,000.

Your effective tax rate is $35,037 / $160,000 = 21.8%.

First of all, you are comparing your income and taxes with those of two other people combined (Sen. and Mrs. Sanders). In addition, as others have said, they have more deductions because they have more expenses than you. They pay more in property tax, more in mortgage interest, and give more to charity than you. You are free to take out a large mortgage and give more to charity, just as they are.

Answer 2

There are two big problems with your complaint from the start: You are comparing federal taxes with total taxes, and you compare the tax rate with the marginal tax rate. Normally you pay a low tax rate for the first dollars, a higher tax rate for the next dollars, a high tax rate for the highest dollars. You took your rate for the highest dollars of your income, Sander's federal tax rate was the average for all of his income.

Then if you read the article, one deduction was for $5,000 of unpaid expenses. Surely you can't count that reasonably as part of his income. Next there is a massive amount of deductions for taxes that he paid. The article talks about federal tax rate, and one reason it is low is because he pays even more taxes elsewhere! And one deduction is for $8,000 of charity donations. Well, that is money that is gone out of his pocket without anything to show for it. You are welcome to reduce your tax rate by making donations to charities as well.

The only thing that you could reasonably complain about is deductions for mortgage interest. But that is a deduction that everyone gets who pays mortgage interest.

Finally to answer your question: You can achieve his 13% tax rate by ignoring all taxes except federal tax, by calculating the average tax rate instead of the marginal tax rate (these two don't change what you pay, but what the numbers are in your mind), then by making huge donations to charities, buying a big house with a big mortgage, and having unpaid expenses. Obviously instead of the taxes, you have to pay the donations, the mortgage and various house related taxes, and these expenses, which is a lot more money.

Donate $8,000 to charity, save $2,240 in taxes which is about 1.5% of your tax. Ask your employer to not pay you $5,000 for valid expenses, save another one percent. Buy a big house, pay $23,000 in mortgage interest, save $6,440 taxes, almost 5 percent. Pay tons of other taxes that are deductible. And then apply the 2014 tax table, not 2017.

Answer 3

The premise that the Sanders' effective tax rate of about 13% is "amazingly low" is also false.

In tables assembled from tax data by the Tax Policy Center, we can see that the average effective individual federal income tax rate in 2013 for households in the 96th-99th percentiles was 16.1%. For those in the 90th-95th percentile, the average rate was 11.6%. The bottom 90% of taxpayers come in under 10%.

It looks like a household income of just over $200k would put the Sanders at about the 95th percentile, so their effective tax rate is pretty much in line with their financial peers.

Answer 4

You are mixing and matching tax rates; you can not perform any valid comparisons that way.

Your total tax burden is the sum of federal income tax, FICA taxes, state taxes, and local taxes. Since we only have Sanders' federal tax rate, we can only compare your federal tax rate against his, which is not 49% since, as you stated, that is the value for everything.

Also make sure that you are calculating your effective federal tax rate for the comparison and not using your marginal rate. The media and politicians like to play loose and compare the two directly as it makes for better outrage. Remember that it is only the income in each bracket that is taxed at the higher rate.

Answer 5

How can I achieve [a lower] Tax rate?

• You don't qualify for an IRA, but what about a 401(k)? ($18,000)
• Can you get a mortgage instead of renting? (Then you also get a property tax deduction.)
• Are you married?
• Do you have a home office?
• Do you contribute to an HSA account?

The best way to lower your tax rate is to look at the available deductions then arrange your living circumstances to take advantage of those deductions. Talk to a professional who is already familiar with available tax strategies.

Since you don't mention 401(k) contributions in your question, maybe you're not getting great benefits from the company that you're working for. Would it be more profitable to start an S-Corp and work as a contractor rather than as an employee? You could pay yourself a lower (reasonable salary) and create your own retirement plan (offering more deductions).

Answer 6

From your update, $150,000 - $6,350 (the 2017 number) = $143,650 AGI (this also assumes your payroll taxes, etc., were already deducted from your check when arriving at the $150,000 number.

Of that $143,650:

• the first $9,325 will be taxed at 10% ($932.50)
• the next $28,625 will be taxed at 15% ($4,293.75)
• the next $53,950 will be taxed at 25% ($13,487.50)
• the final $51,750 will be taxed at 28% ($14,490)

For a total of $33,204 or 22.1% effective rate.

Bernie is married and his is a joint return, so assuming you married to a non-working spouse, your tax liability would drop to $25,803 or 17.2%

Add in mortgage deductions, etc, it's not hard to see how you could get down into a lower bracket.

Answer 7

I am answered based on the last update but there still are not enough numbers to actually figure this out, but we can look at the moving parts and do some back of the envelop calculations.

The first question is $150k your AGI or your total income?

From the way you are using this number in your formulas I think you intend this to be total income, since that is what you use in figuring out the percentages. However AGI is what you use in the tax tables. Your worst case AGI would be if you just took the standard deduction of $6300 for a single person.

   Your AGI: $143,700
   Your Tax: $33,273
   Percentage of total income: 22.1%

This is still a big chunk, but since you said you are paying 40% that leaves 18% unaccounted for. From that we can back figure your state tax rate as

     18% 
   -  4.9% (social security) 
   -  1.45% (Medicare)
   = 11.65% (State and Local)

This means that you are paying $17,475 in local taxes! You need to be itemizing! this would change you AGI calculations to be:

   Your AGI: $132,525
   Your Tax: $30,144
   Percentage of total income: 20%

I know this breaks the original local taxes calculation, these are all made up numbers anyway and this just shows where the described example is leaving $2k on the table for the tax man. You work with the pretend numbers you have and not the pretend numbers you wish you had.

Now, if you want to hit that magic 13% there are still a few things you can do from this point, you still need to shed $10,644 dollars of tax which is $38,014 in pretax dollars. My first suggestion would be to max out the 401k at $18,000 for someone under 50. This will change your calculations like this:

   Your AGI: $114,525
   Your Tax: $25,104
   Percentage of total income: 16.7%

Ooh, so close! Only 3.7% away, have you considered home ownership? A mortgage in the area of $200k at 4% would include $7,820 in interest payments the first year.

   Your AGI: $106,705
   Your Tax: $22,914
   Percentage of total income: 15.3%

If you have your heart set on reaching 13% you still need to identify $3,450 of deductions. This is not so much that you could not make a cash donation to a charity contributing to a tax advantaged health care account to make up the difference. You could also consider marriage and/or acquiring dependents to bring your tax bill down further.

Answer 8

You are mistaking the federal tax rate as the only tax that he has paid. He has paid ~38k in interest that you have not - putting him at a more realistic 30% tax rate.

You can do the same - as can anyone in the US - take out a mortgage and your tax rate the first few years will be significantly lower - but you are still paying a "tax". The only difference is you are paying the bank instead of paying the government.