Nobody likes to pay taxes! Unfortunately, the mention of taxes goes to the wrong part of our brain and results in bad thoughts and bad actions.
All my clients complain that they will pay more taxes this year than they paid last year. I try to point out that this is because they made more money this year and making more money is a good thing; the more you make, the more you keep. People don’t hear me when I say this; they just continue complaining about paying more taxes.
I was reading a financial magazine and came across this quote: “I agree I’m probably going to pay higher taxes in the future, but I don’t care what the numbers say, I want to hang on to my money.” Taxes and common sense just don’t go together.
Taxes are as low now as they have been in generations. We are in the midst of two wars which have to be paid for. We cannot continue to run up budget deficits forever. At some point in the future, taxes will go up. Logically, the prospect of higher taxes in the future means that it is better to pay taxes now at a lower rate rather than deferring taxes to the future when they will be higher. Is there anything we ordinary folk can do?
First, we must realize that “tax deferral” is not necessarily a good thing. When we have money deducted from our salary and put in an IRA or 401(k), we skip paying taxes on the retirement contribution now so we can pay taxes at some date in the distant future. There still are two good reasons to contribute money to an IRA or 401(k): (1) any matching money by the employer is free money (a good thing) and (2) the fact that the money is contributed before we receive it is a good thing for all the people who have a hard time saving. One tax smart move is to put some of your salary in a Roth IRA. At the end of the year you pay income tax on most of your salary including the Roth contribution, but the Roth money is never taxed again – it grows tax free until you take it out and spend it.
Another thing to look out for is any financial person trying to sell you something that is “tax deferred.” I’ve said many times, “never buy a financial product from someone who recommends it.” Why, because he’ll probably recommend whatever gives him the biggest commission. Annuities, for example, have high commissions for the seller. Annuities are not only tax deferred, but the earnings over all those years is taxed as “income” when it is taken out and not as “capital gains or dividends” which are taxed at a lower rate.
When it comes to your taxes, think “I want to pay my fair share of taxes now” and “I want to invest so I pay the lower capital gains tax.”