Believe it or not, there are legitimate ways to earn tax-free income and gains. Here are some of the best opportunities to put money in your pocket without facing federal income tax:
1. Roth IRAs
These allow for tax-free income growth and withdrawals. Unlike traditional IRAs, qualified Roth IRA withdrawals are not subject to federal income tax. A qualified withdrawal occurs after you’ve turned 59½ and held a Roth IRA for at least five years, or if you become disabled or pass away. After your death, your beneficiaries can make tax-free withdrawals from your Roth IRA with proper planning.
2. Home Sale Profits
A significant portion of the profit from selling your home can be tax-free. Single homeowners can exclude up to $250,000 of gains, while married couples filing jointly can exclude up to $500,000. To qualify, you generally need to have owned and lived in the home for at least two years during the five years preceding the sale. To get the $500,000 exclusion, at least one spouse must meet the ownership requirement, and both must meet the use requirement.
3. Tax-free Capital Gains and Dividends
Individuals with lower incomes may qualify for the 0% federal tax rate on long-term capital gains and qualified dividends. In 2024, single filers with taxable incomes up to $47,025 and married couples filing jointly with incomes up to $94,050 fall within this bracket.
4. Gifts and Inheritances
Gifts and inheritances are generally tax-free. However, any income generated from inherited property, such as dividends or rental income, is taxable. Additionally, inherited assets like stocks or real estate typically receive a "stepped-up" tax basis, meaning the value is adjusted to the fair market value at the time of the benefactor’s death, which could minimize future capital gains taxes.
5. Small Business Stock Gains
Gains from qualified small business corporation (QSBC) stock may be eligible for tax-free treatment if the stock is held for over five years. Ask for details about this opportunity.
6. College Savings Plans
Section 529 college savings plans let earnings grow tax-free. When the beneficiary (typically your child or grandchild) reaches college age, withdrawals can be made tax-free for education expenses. Alternatively, you can contribute up to $2,000 annually to a Coverdell Education Savings Account (CESA), allowing tax-free withdrawals for educational expenses. However, your ability to contribute phases out at higher income levels.
Plan Ahead for Better Results
There are many tax-free income opportunities, some not mentioned here, such as life insurance payouts. Before making significant financial decisions, consult with your VAAS Tax Consultant to ensure you maximize your tax-free opportunities.