Believe it or not, there are effective strategies to generate income and gains without triggering federal income tax. Here are some tips to keep your money in your pocket, tax-free:
Roth IRAs
Roth IRAs are among the most powerful tools for generating tax-free income. Unlike traditional IRAs, qualified withdrawals from a Roth IRA are exempt from federal income tax.
To qualify, you must be at least 59½ years old and have had your Roth IRA open for at least five years, or you must be disabled or deceased. With proper planning, your heirs can also enjoy withdrawals free from federal income tax from your Roth IRA after your passing.
Home sale profits
Selling your home can come with a huge tax break. Unmarried sellers can exclude up to $250,000 in profit from federal income tax, while married couples filing jointly can exclude up to $500,000.
However, to qualify for this benefit, you’ll need to meet certain criteria:
- You must have owned the property for at least two years within the five years before the sale.
- The home must have been your principal residence for at least two of those years.
- For the $500,000 exclusion, one spouse must meet the ownership requirement, and both must pass the use test.
Capital gains and dividends
Individuals with incomes below a certain threshold can collect long-term capital gains and qualified dividends tax-free. The federal tax rate on these gains and dividends can be as low as 0%.
In 2024, single filers can have up to $47,025 in taxable income and still fall into the 0% bracket. For married couples filing jointly, that limit jumps to $94,050. It's a smart way to potentially keep more of your investment earnings.
Gifts and inheritances
Gifts and inheritances generally receive tax-free treatment, meaning the amount itself isn’t taxable. However, any income generated by the gifted or inherited property, such as interest, dividends, or rent, is subject to taxes. There may also be tax implications for the person giving the gift.
Additionally, if you inherit assets like stocks, real estate, or mutual funds, the tax basis is stepped up to the fair market value on the date of the benefactor’s passing (or six months later, if chosen by the estate executor). This means you’ll only owe capital gains tax on any appreciation after that date if you decide to sell the asset.
Small business stock gain
Gains from selling qualified small business corporation (QSBC) stock can be entirely tax-free. If you hold the stock for over five years, you may qualify for federal-income-tax-free treatment on any gains.
College saving accounts
You can accumulate tax-free income through Section 529 college savings plans, where earnings grow free from federal income tax. When it’s time for your child or grandchild to attend college, withdrawals for education expenses are also tax-free.
Alternatively, you can contribute up to $2,000 annually to a Coverdell Education Savings Account (CESA) for a beneficiary under 18. CESA earnings grow tax-free, and withdrawals for qualified college expenses–like tuition, fees, books, and room and board–are also tax-free.
Keep in mind, CESA contributions phase out if your income exceeds certain limits.
Advance planning for better results
You may have more opportunities to collect income and gains free from federal income tax than you realize. For instance, life insurance payouts due to an insured person’s death are generally not taxable. Don’t assume every source of income will be taxed.
Before making any major financial moves, consult your Smolin advisor–advance planning could help you secure tax-free income or gains that might otherwise be subject to tax.