This post was written with the permission of the clients discussed below. For purposes of confidentiality, I have changed their names and changed or omitted ancillary details about their personal circumstances.
Summary/TL;DR
After a thorough analysis of their circumstances, I identified strategies that will save my clients, Rick and Angela, well over $40,000 per year in taxes while simultaneously accomplishing their short and long-term goals. We’re also filling dangerous gaps in insurance coverage, contributing to backdoor Roth IRAs, and connecting them with other proactive professionals to execute everything flawlessly.
Introduction
In many ways, no one stands to gain from tax planning in a greater sense than business owners. This is especially true after the passing of the Tax Cuts and Jobs Act (TCJA) and the introduction of the Qualified Business Income Deduction (QBI) in 2018. Understanding of the TCJA in general and QBI in particular is severely lacking in the financial services industry, meaning many clients of financial “advisors” have left a lot on the table.
In this post, I will explain how I helped my clients, Rick and Angela, save well over $40,000 per year in federal income taxes, at least through the end of the Tax Cuts and Jobs Act in 2026. This will be accomplished through optimizing their business entities and income for QBI, utilizing a donor advised fund for future charitable giving goals, and introducing them to a knowledgeable and proactive CPA who will help them execute when it comes time to file.
Finally, I’ll briefly explain how I helped them identify and fill gaping holes in their insurance coverage.
Setting the Scene
Rick owns and operates various businesses with his partner. His share of income from their joint enterprises was about $650,000 in 2022. They have liability insurance for their businesses but were only covered up to what their homeowner’s and auto contained on the personal side, leaving much of their liquid net worth open to liability. Rick and his partner also had a small buy-sell agreement and disability insurance coverage of about $1,500/mo.
Finally, Rick and Angela also have personal goals of beginning to donate to charity on an annual basis, but they were unsure of what charities they would like to give to.
Identifying Opportunities
The Qualified Business Income Deduction
When reviewing his tax return, I noticed that Rick’s Qualified Business Income Deduction was only about $10,000 when it could have been much higher. This arose from the fact that Rick and his partner elected to have their LLC taxed as a Partnership as opposed to an S-Corp.
An exposition of QBI is better suited for a future post. For now, just know that if you make over about $400,000 as a married couple (and less for single filers), then your QBI deduction begins to be phased-out. This phase-out can be addressed in several ways but is primarily solved by electing to be taxed as an S-Corp (as opposed to a Partnership) and modifying the amount of W2 wages paid out by the business. To further illustrate, below is a very oversimplified comparison of what the QBI deduction looks like for Rick when he makes the switch.
I told Rick about this, and he brought it up to his CPA, as it should have been an issue that was raised earlier. Clearly, a ton of tax savings had been left on the table since the passing of the TCJA in 2018. Unfortunately, Rick’s CPA glossed over the issue, insisting that no opportunities had been missed and that I was exaggerating the amount of tax-savings he would realize by switching.
Soon after, I introduced Rick and his partner to a CPA that I trusted to get things right – Matt Shell out of League City – who not only validated my findings but found even more opportunity for them. Matt totaled up their anticipated tax savings from the implementation of these basic principles at $40,000 – $50,000.
I mention this detail only to show that it can never hurt to have a “second look” at things. Even when you believe you have properly delegated to other professionals, nothing beats having a proactive planner at the helm of a high-executing team.
Donor Advised Funds
As mentioned above, Rick and Angela have personal goals of donating to charity but are unsure of what charities they would like to give to.
I told them about Donor Advised Funds (DAFs), which are special investment accounts made specifically for charitable giving. DAFs are generally a good fit when someone wants to donate to a charity but is uncertain of what charity they would like to give to or when they would like to make the donation. DAFs allow the contributor to itemize their charitable contribution in the year the donation is made, even if the funds aren’t donated to charity in that specific year. Funds may then be distributed to charities at any point in the future at the donator’s discretion (with only minor exceptions).
Rick and Angela haven’t decided how much they would like to contribute to their DAF yet, but let’s assume it’s $50,000. This is an additional deduction that would immediately allow them to itemize their tax deductions. If they have $20,000 in additional itemized deductions, then this totals to a $70,000 deduction – about $40,000 more than the standard deduction, translating into an additional tax savings of about $14,000 for them.
Business & Personal Insurance
No comprehensive financial plan would be complete without an insurance review. Like many business owners, a large amount of Rick and Angela’s portfolio lied outside of qualified accounts, which are generally protected from creditors and liability. Their $500,000 in homeowner’s/auto liability coverage was horribly inadequate to protect them.
Furthermore, the life and disability insurance they had in their business was also severely lacking. If an accident happened and Rick passed away, Angela would be stuck with a $2,000,000 death benefit and about $4,000,000 in business equity that she wouldn’t know what to do with (and would have experienced a dramatic devaluation given that one of its owners had just unexpectedly passed). The same principle is true for their disability coverage. If Rick had an accident that prevented him from working, think about how his business would be impacted now that one of its key revenue generators was no longer producing free cash flow! Proper life and disability insurance coverage is not only essential them personally, but also for protecting their business.
After these gaps were identified, I introduced Rick to a couple of stellar insurance agents who are helping us diagnose the proper amount of coverage and policies needed to fill these gaps.
Backdoor Roth IRA Contributions
Finally, I am helping Rick and Angela make backdoor Roth IRA contributions beginning this year (and, of course, coordinating the whole thing with their new CPA so nothing is missed). If they both max out backdoor Roths for the next 15 years, they’ll have almost $500,000 in tax-free savings that they wouldn’t have otherwise had.
Analyzing Impacts
Over the next two years (at least!), Rick and Angela will save almost $100,000 in taxes (and potentially more)! And this will have been accomplished while keeping their take-home pay identical to what it is now and helping them accomplish their additional goals of beginning to contribute to charity.
Furthermore, and the value of this cannot be understated, they can rest assured that their insurance coverage is in the process of becoming adequate, protecting them from the inherently unforeseen circumstances that often strike when we least expect. The half-million in potential tax-free savings doesn’t hurt either!
Finally, and arguably most important of all, they have started to build out a team of proactive and highly competent professionals who are helping them execute every step of the way, taking things off their plate, and keeping them abreast of future opportunities as their circumstances and the law inevitably evolve. Consequently, they are left with more time and mental energy to spend on the things they care about most – growing their businesses, traveling, and making an impact in their community.
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