When it comes to our taxes, most of us think that we have to pay the government first, and then we manage, budget and s-t-r-e-t-c-h what is left to cover our needs and those of our family. It sounds reasonable – after all, we see it happen to us every payday. Taxes are withheld from our paychecks and the net amount is deposited into our bank account. Uncle Sam takes his cut from the top!
But what if I said that there was a way to pay yourself FIRST before Uncle Sam whisks his money away? And you can do it legally! Well, it is possible and you actually have more control than you think. Here are three ways you and your family can jump to the front of the line.
Step 1: Pay Your Future Self
Those IRAs, 401ks and other qualified retirement savings plans should never be neglected. Not only is it smart planning, contributions you make as an employee are paid before taxes are calculated on your paycheck. That means you will only be taxed on the portion of your pay left after you’ve paid your future self. If your employer matches any part of your contribution, then you have not only paid yourself before paying Uncle Sam, but you have earned FREE MONEY from your employer! Maximize your earnings and make your future self happy at the same time.
Step 2: Tax Free Budget For Health
Contributing to a Flexible Spending Account (FSA) if your employer offers one just makes sense. These plans allow you to set aside money from your paychecks before taxes are calculated to be used to cover qualified expenses related to medical and dental costs. We all know that it doesn’t take long for co-pays, prescriptions, and dental cleanings to add up. Under the CARES Act, you may now use these funds for over-the-counter drugs as well.
Step 3: Family First
Another type of FSA that should be at the top of your list is a Dependent Care Flexible Spending Account. Once again, you are setting aside funds to pay for childcare expenses for children 12 and under, as well as the care of qualifying adults. Childcare is a necessity for many of us in order to work – and it is not inexpensive.
Yes, We’re Talking Real Money
Most of us recognize that we must save for the future, and that we are going to incur medical and child-care costs in our everyday life. These are expenses we are going to pay whether we set up pretax plan or not! So, it is fortunate that we have options to pay some of these expenses prior to calculation and payment of taxes. But, how much does it really save? Since these expenses can now be paid by us before federal, state, local, social security and Medicare taxes are calculated (and paid) the average savings is between 30-40% for an individual. WOW. Simply put, our costs remain the same, but now we have more money with which to pay them. Sign me up!
Where to start? Your CPA can help calculate your individual savings. Then start with step #1 – contributing to your employer retirement plan. Hopefully, your employer provides matching funds. After all, the only thing better than saving money is free money! At the McGruder Group, we can work with you or your employer to figure out how to legally stretch every dollar you earn. Contact us with any question you might have about pre-tax strategies for paying yourself first.