Today I want to talk to you about investments and how to think about income after taxes. I want to talk about this subject a bit more because I have had many questions on this topic.
Just today I had two people add me on Skype asking questions on my how to spend money wisely post. So I am starting to realize a lot of people are having a problem with money in general. So it only makes sense to dive a bit deeper into the subject!
Rule #1 – Always Think Income After Taxes
Over the years I have had people ask me many times how do I invest my money. Well it’s practically a week long seminar to answer that kind of question. So what I will do instead is give you my number one rule when it comes to investing and one other tip.
It’s really not important where I put my money. What is important is the mindset you need to get into. The number one rule is to always think after tax. When people look at investment they look at 10% return or 5% return. It can be 20% return. That is irrelevant.
You need to know the after tax return of the investment. If you don’t take tax into consideration your going to be in for a very rude awakening. I’ve talked about it many times and I’m sure your familiar. Most people’s biggest expense is income tax. I personally spend more on taxes than anything else.
When you start thinking “after tax” you start to realize certain investments are better than other investments even if the upfront return is more.
For example lets just say you invested in normal interest bearing product like a savings account. The interest is taxed at a regular income. Interest income is taxed like employment income which is a pretty high rate.
So what if you changed that and decided to make dividend income instead. For example, lets say your an Apple shareholder and your getting .48 cents a share per quarter. This works out to about 2.5% yield. The percentage back is smaller but dividends are taxed at a much lower rate then regular interest income.
So if I have a choice of making $10k dividend or interest income I will take dividend income every single time. Because of after tax dollars is why I invest in equities. If I was to buy a stock for $10k and sell it for $20k. That $10k gain is also taxed at a different rate then dividend or interest income.
The thing about capital gains it’s only taxed once it’s realized. In other words if I buy something today for $10k and tomorrow it’s worth $20k if I don’t sell it i’m not taxed on it. You only get taxed when it’s realized gain.
So when you hear Bill Gates net worth has gone up 15 billion last year that is a unrealized gain. He doesn’t get taxed on that unless he actually sells that stock. The cool thing about this you can do some really neat financial planning. Lets say you have a bunch of Apple stock and it’s double or tripled. You can just hold onto it as long as you like and never get taxed on that. When your ready there are loopholes to pay much less tax.
Again, you have to always look at your investments after tax. Once you start thinking this way you start to realize that taxes has a major impact on your investments. Therefore in order to minimize tax look at how the government taxes you.
Income After Taxes – Three Entities
There’s three entities how we get taxed. They’re individual, corporation and trust. If you look at how government taxes these entities you’ll start to realize they seem to favor certain groups over other groups. The group they always screw over is the individual. It’s simply because there’s so many of them.
The individual is the biggest cash cow for the government. Income tax or employment income is the biggest cash cow for the government to get their money. Most of the income comes from that source. It’s a progressive income tax and they tax them the highest.
If you know that income tax is taxed the highest the answer is really simple. Don’t make employment income or put a plan together to get to that point. Basically I have zero employment income. Of course I had employment income years ago but I worked hard to get out of that bracket. When I realized it was taxed the highest I refused to make employment income and made it my mission to quit my jobs.
Look at the way the tax system is set up and instead of being a victim of it take advantage of it. Look at the tax rate for various things and put a plan together. If you make $200k per year employment income your going to get taxed at a very high rate. So what can you do? Make $200k online and get taxed at a much lower rate. How about half! At a job your paying around 30%. I usually pay around 15% with my business and it’s legal. Big difference!
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