My husband and David John Marotta’s son-in-law, Matheson Russell, is a soon-to-be UVa graduate, an aspiring tax planner, and the author of Tax-Atlas, a blog intended to help young people understand the basics of tax law. His blog post, “How to Build Wealth: Credits, Deductions, Exclusions, or Work?,” explains the difference between exclusions, deductions, and tax credits, but also evaluates which one is the most effective at earning you money.
He explains that deductions make dollars not taxable at the cost of dollars spent. Assuming that you would have spent the qualifying money anyways, for every dollar spent you save your tax rate in cents. So if you’re in the 25% tax bracket, you save 25 cents on the dollar. However, if you spent the qualifying money just to qualify, it actually costs you 100 – your tax rate cents per dollar. For example, in the 25% bracket, it costs you 75 cents on the dollar.
Exclusions make dollars not taxable, so for every dollar excluded you save your tax rate in cents. Again, for the 25% bracket, that’s 25 cents on the dollar.
Lastly, tax credits give you back money. So you’re taxed on the full amount, but for every dollar of tax credit you get a dollar back. That’s a dollar on the dollar savings, clearly the best deal.
Thus, tax credits, it turns out save you the most money. However, as Matheson says, “credits may be more efficient, but not more effective” than just working to earn money, since tax credits that you can actually qualify for are hard to find. That’s why, he concludes that:
…Hiring a tax professional brings you the best of both worlds. They would allow you to gain the most from working full-time (the second most efficient path to wealth, dollar-for-dollar), while also getting you tax credits and deductions. Incidentally, tax preparation fees are also tax-deductible.
…The combined path of working full-time and hiring a tax professional is likely to bring you the most money possible.
For families with complexity to their finances, hiring a tax professional to spend his time hunting for credits and deductions on their behalf allows them to spend their time continuing to be productive without the stress of taxes.
Wealth managers bring benefit to such families in the same way. As we’ve previously said, “The greatest engine to generate real wealth is saving and investing,” but with it comes all the complications of managing the investments.
Regardless of your current economic class, if you have or can get investable savings, you could benefit in some way from investments. Furthermore if you have any complications ranging from timing your retirement or social security benefits to figuring out how much money to defer into your 401(k) and use to fund your Roth accounts, you could benefit from having a fee-only financial planner.
Here are a five helpful articles to begin figuring out if that’s the right step for you:
- Fee-Only Financial Planners Help You in Three Ways – They help in ways you likely aren’t anticipating.
- Are Financial Advisors Hazardous to Your Wealth? – Matt Illian admits that he used to be a “part of what some in my profession jokingly call the ‘dark side.'” You should avoid the dark side like the plague.
- Ten Questions to Ask a Financial Advisor – Simple ways of finding out if they have only themselves and their best interests at heart or if they’re sitting on your side of the table.
- What Is Comprehensive Wealth Management? [ A Video ] – Learn if you have all the components of comprehensive wealth management.
- NAPFA and being a fee-only fiduciary – An interview with founder, George Marotta, about choosing Fee-Only financial planning
- Client Profile – See if you fit Marotta Wealth Management’s client profile. If so, we could be the financial advisors for you.
And you can find more in our Safeguarding Your Money series.
Image by 401k(3) 2013, used under Flickr Creative Commons License