Tax saving strategies for high income earners

According to the ATO, you’re classified as a higher income earner if you earn over $180,000 a year.

In fact, if you’re earning in excess of $180,000, you’re taxed at 47% for the privilege.

Ouch.

For every dollar you earn, you’re giving up nearly half to the tax man. Even worse, high income earners are working Monday, Tuesday and some of Wednesday just to pay the tax man.

The good news is, no matter how much you earn, there are legitimate, legal strategies to help you reduce tax.

This article aims to set out some of the more common approaches high income earners can take to reduce their income. Don’t fear, there are many more strategies that can be tailored to your specific individual circumstances, by contacting an appropriately qualified advisor.

Many of these approaches can be taken by middle income earners as well, especially if you have a lower earning spouse.

It goes without say, but I'm going to say it anyway. This article is subject to our usual disclaimer.

Don’t invest in your own name

The golden rule for high income earners - don't earn additional income in your own name.

When you’re a high income earner, the worst place possible to earn additional income is in your own name.

Why? Because for every additional dollar earned, it will be taxed at 47%.

So if you are investing in anything that produces a profit (think interest on term deposits, dividend income from shares, positively geared property, business income), the first thing to do is get the income out of your own name.

Look elsewhere for opportunities to invest in a more tax effective structure.

For most people, this will come down to three main options:

• Investing in your spouse’s name if they have a lower taxable income than you. Depending on how much they earn, their tax rate may be from 0% all the way up to 47%. If they are on a lower tax rate than you, this is the simplest option to pursue.
  

• Investing in a trust and utilising a corporate beneficiary, to limit tax to 30%. For those with spouses that are also high income earners, this option has plenty of appeal and provides a 17% tax saving.
  

• Investing in super, to limit tax to 15%. Super is still the lowest taxed environment to invest in. But it comes with one pretty big disadvantage, you can’t access it until you meet a condition of release (this usually means you have reached 60 years of age and are retired). However, the advantage of a 32% tax saving is one of the best tax saving tactics going around.

Maximise your super contributions

For most people, they are allowed to contribute up to $27,500 to their superfund and claim a tax deduction for this amount. However, before you write a cheque for $27,500, remember you’ve got to take off the amount your employer is paying you.

So if your employer is paying you $10,000 a year in super, you’re left with $17,500 for you to contribute. If you’re in the highest tax bracket, an example of how much tax this would save is set out below.

Remember that your superfund will be paying tax of 15% on this contribution, so it’s the ‘net tax benefit’ that shows the overall tax saving.

Contribution	Personal tax saving	Tax Payable by Superfund	Net tax benefit (32%)
$5,000	$2,350	$750	$1,600
$10,000	$4,700	$1,500	$3,200
$15,000	$7,050	$2,250	$4,800

Super is a highly complex area so work with your advisor to make sure you are across the detail. A more comprehensive article about investing in super is available here.

Utilise negative gearing

Negative gearing deserves its own topic. That’s why I wrote an article about it here.

Obtain Private Health Insurance

If you earn over $90,000 as an individual, or $180,000 for a couple, you are required to pay the Medicare Levy Surcharge (MLS) if you don’t have an appropriate Private Health Insurance (PHI) policy in place.

Depending on your income, the MLS can range from 1-1.5%.

That’s an extra $2,700 per year for a high income earner. To avoid this tax:

• Obtain an appropriate Private Health Insurance Policy. The ATO has strict criteria on what constitutes an an appropriate PHI policy, so make sure you tick all these boxes when taking out PHI.
  

• To be exempt from the MLS, you and all your dependants need to be covered by an appropriate PHI policy. So if you have a baby or get married, make sure your policy captures both your spouse and children. If not, you might find yourself paying for both the PHI and MLS - a double whammy.
  

• After you turn 31 years of age, an additional 2% per year is added to the cost of your PHI policy. This is called ‘loading’. So if you take out a PHI policy when you’re 32, it’ll be 2% more expensive than if you took it out a year earlier. It might not sound like much, but consider the following. You start being a high income earner at the age of 40. You decide to take out PHI, but quickly discover your policy is 18% more expensive that it would be if you took it out prior to your 32nd birthday. For those that delay, some find that the cost of the loading makes the price so expensive that they never take out PHI, which means they get even more priced out every year. Harsh.

Take out income protection in your own name

Income protection insurance protects you against the loss of your income.

Your ability to earn an income is one of your most valuable assets in the wealth creation journey, and the loss of an income can be financially devastating.

Just look how quickly things fell apart for so many people when COVID-19 hit.

If you can’t afford to survive without an income for a decent period of time, you need to be thinking about taking out income protection insurance.

The good news is that income protection insurance is generally a deductible expense, so the tax man is essentially helping you subsidise this cost by giving you tax back for every dollar you spend on income protection insurance.

Some people will already have income protection insurance in their superfund, but it’s only saving them 15% tax there.

If you take it out in your own name, it can save up to 47%. Not bad at all.

Sometimes, income protection insurance can be troublesome if held in your superfund, because in order for it to be paid to you personally, a condition of release also needs to be achieved.

Holding income protection insurance in your own name circumvents this problem, and you save more in the long run because you get a tax deduction.

Investment bonds

Investment bonds can be an attractive option for high income earners, as tax payable is limited to 30% if the investment is held for more than 10 years.

Investments bonds are often touted as a ‘tax free’ investment, but it’s important to be clear here - the provider of the investment bond pays tax at 30% on your behalf, and after 10 years, the redemption or withdrawal of the investment does not need to be declared as income.

This means that if you’re paying tax at 47%, you’ve just saved yourself 17% tax.

Although this sounds attractive, investments bonds might be less attractive than other options because:

• 10 years is a long time to lock away your money, and you need to keep it locked away to receive the tax benefits.
  

• If you withdraw your investment within 10 years, you have to declare the withdrawal as income, but you get an offset for the tax already paid.
  

• Investment bonds also have the 125% rule, which basically means every year, you cannot put in more than 125% of your investment from the year before, otherwise the 10 year rule resets. It’s easy to get caught out here, so tread carefully.
  

• If you stop contributing for one year, you are unable to put in more money to the initial pot, as 125% of $0 is $0. In this case, it’s effectively treated as a new investment, so you’ll have to wait 10 years for this to be ‘tax free’ upon withdrawal.

Don’t start a business in your own name

If you’re a high income earned and operate a business in your own name, the good news is that there are significant tax savings available for you by moving to a company structure or trust structure. In addition, there are likely much better asset protection strategies that can be put in place as well.

If you operate a small business in a company, the company pays tax at 25% versus up to 47% in your own name. Plus you get legal protection.

It's a no brainer. Don't start a business in your own name.

Restructure your home loan

If you’ve got a home loan and are also earning interest income, you need to read my article on the benefits of an offset account.

A tax saving of up to 47% is available here.

Make donations in your own name

At all times, we should be looking for opportunities to legally reduce our tax bills.

During my time as a tax professional, it’s not uncommon to see a donation made in the name of both spouses, when one member of the family earns significantly more than the other.

With a little bit of planning, ask for the receipt to be made out in the name of the highest earning spouse.

Take this as an example. A couple decide to contribute $1,000 to their favourite charity. The husband is earning $200,000 a year, while the wife is taking some time off work to raise a new baby.

The receipt is made out in both names, meaning the wife is entitled to a $500 deduction which can’t be utilised. The husband also gets a $500 deduction, providing a tax saving of $235 ($500 x 47%).

If instead the donation had have been made out in the husband’s name only, he would have increased his tax saving to $470 ($1,000 x 47%).

These little things add up over time - if they make the same donation over 10 years, that’s $4,700, all because you asked for a donation to be issued in the name of the highest earning spouse.

A little tax tip here as well - make sure the amount is paid by the person that the invoice is made out to.

In summary

When you're a high income earner, you want to ensure that any additional income earned is not in your name, and that you can claim as many deductions as you can in your own name.

They say that a dollar saved is a dollar earned. When trying to save tax, don’t fall into the trap of spending money just for a deduction. Don’t spend a dollar just to save 47% in tax, you’ll still be 53% worse off.

At the same time though, there are many legal tax saving strategies available, you may as well take advantage of them.