Are you looking for ways to reduce your tax bill each year? How about maximizing your take-home profit at the end of the year? If so, it’s important that you find the right tax strategies for doctors and dentists.
There are dozens of tax strategies for doctors and dentists, which is why it’s important that you find the methods that work best for your practice. Here are five common strategies to consider implementing in your practice this upcoming tax filing season.
#1: Leverage Back Door Roth IRA Conversions
The IRS allows taxpayers to contribute up to $6,500 to Roth IRAs in 2023. This limit is increased to $7,500 if you are over 50 years old. Many high-income earners are unable to directly contribute to a Roth IRA if their Adjusted Gross Income is above the IRS limits. The back door Roth IRA conversion bypasses the income limitations, allowing high-income earners to leverage post-tax retirement contributions. The funds within the Roth IRA account will then be non-taxable upon distribution.
There are two ways to establish a backdoor Roth IRA. First, you can contribute money into an IRA and then roll over funds to your Roth IRA. It is essential to have no balance in all of your IRAs (Traditional, SEP, and Simple). This eliminates the risk of converting taxable funds following the passage of the Secure Act 2.0.
The other option to take advantage of backdoor Roth IRA conversions is to set up automatic Roth conversions from your 401(k) plan. The specifics of your 401(k) plan will determine if this is a viable option.
#2: Consider Pass Through Entity Tax
Most doctors and dentists have their practices set up as a Partnership or S Corporation. This results in all income and loss being passed down through Schedule K-1 with corresponding taxes paid on the individual return.
However, over 30 states have now enacted provisions that allow Partnerships and S Corporations to pay taxes at the business level. Then, when your individual tax return is prepared, the taxes on this income from your practice have already been accounted for on the state tax return. These taxes paid can then be deducted from your federal taxable income at your individual federal income tax rate.
#3: Review 529 Plan Contributions
Section 529 Plans, also known as Qualified Tuition Programs, are investment accounts designed to help pay for higher education expenses. Growth within the account is tax-free, withdrawals for use on qualified educational expenses are tax-free, and contributions can result in a tax deduction.
Certain states have implemented state tax credit incentives for individuals for contributions into state sponsored 529 funds. A common misconception is that you do NOT need to attend a state sponsored school to take advantage of this. For example, you can still contribute to an Illinois sponsored 529 plan and use these funds for out-of-state tuition. Be sure to check with your individual state for its specific rules.
This allows you to put money aside for higher education for your children and grandchildren, allowing for tax-free growth of these funds. Additionally, you can potentially take advantage of state tax credits along the way.
#4: Offer A Retirement Plan
Another tax strategy for doctors and dentists is to offer a retirement plan. Employer retirement contributions are a qualifying business expense on your business tax return. In addition, offering comprehensive retirement options can make your business more attractive to prospective employees.
Many medical and dental practices have some form of retirement option, making it important to evaluate your current offerings and find ways to improve. For example, switching from a Safe Harbor plan to a Cash Balance Plan allows you to increase your contribution limits. Although there are higher maintenance charges, such as for actuaries, you can siphon away more money for retirement.
#5: Hire Children for Roth IRA Contributions
Do you have busy work that needs to be done around your practice? If so, consider hiring your children. Practices set up as a Sole Proprietorship or wholly owned Partnership can avoid Social Security and Medicare taxes on payments to children under the age of 18.
In addition, wages earned by your children can go directly into a Roth IRA account, with earnings growing tax-free. Roth IRA contributions in your child’s name cannot exceed their wages. For example, if your child earns $2,000 during the year for filing paperwork, the maximum Roth IRA contribution is $2,000.
Contributions to Roth IRA accounts cannot exceed the IRS limit, which is $6,500 for 2023. Keep in mind that wages paid to your children must be reasonable. You shouldn’t be paying your child $75 an hour to file paperwork.
Tax planning for doctors and dentists can involve some unconventional strategies. Nevertheless, to find the right solutions for your practice, it’s best to reach out to an expert, like Professional Business Management, Inc.
Our team can pinpoint tax saving items that your business might be neglecting to effectively reduce your tax bill this next year. Reach out today for more information or to schedule a consultation.