As your income surpasses certain thresholds, you enter into new tax brackets, which can significantly impact your financial landscape. Understanding these thresholds and preparing for the accompanying tax obligations is crucial for maximizing your financial well-being. This blog will delve into specific tax thresholds that become relevant when your income approaches the $200k mark and provide valuable insights to help you navigate them effectively.

Thresholds to Be Aware Of:

1. Roth IRA Eligibility Phaseout: If you contribute to a Roth IRA and your modified adjusted gross income (MAGI) exceeds $198,000 for married couples filing jointly or $125,000 for single filers, your eligibility for contributions begins to phase out. Consider using a backdoor Roth IRA conversion to circumvent this limitation.

2. Net Investment Income Tax (ACA Surcharge): Individuals with MAGI exceeding $250,000 for married couples filing jointly or $200,000 for single filers are subject to the Net Investment Income Tax (NIIT). This tax applies to investment income, such as dividends, capital gains, and interest.

3. Alternative Minimum Tax (AMT): The AMT is a parallel tax system designed to ensure that high-income earners pay a minimum level of taxes. While many taxpayers are exempt from the AMT, it becomes more likely to apply as your income increases.

Additional Considerations for Higher Earners:

1. Social Security Tax Cap: Once your earned income exceeds $142,800 for 2021, you stop paying Social Security tax. This means you will contribute 6.2% less of your income towards this tax.

2. 401(k) Highly Compensated Employee (HCE) Rules: If your salary exceeds $130,000, you are considered an HCE. This designation can affect your 401(k) contributions as you may face limits on how much you can contribute if lower-earning employees in your company do not contribute enough to the plan.

3. Quarterly Estimated Tax Payments: As your income increases, your withholding from your paychecks may not fully cover your tax liability. You may need to make quarterly estimated tax payments to avoid potential penalties.

4. SALT Limit: The State and Local Tax (SALT) deduction is capped at $10,000. This means that if your combined state and local income taxes, sales taxes, and property taxes exceed $10,000, you cannot deduct the excess amount from your federal income taxes.

Conclusion:

As your income increases, it is essential to be aware of the tax thresholds and potential financial implications. By understanding these thresholds and seeking professional advice when necessary, you can effectively navigate your higher income and ensure that your tax obligations are met while maximizing your financial health.