Tax Planning for High Income Earners

For 2026 the state and local tax deduction cap is 40,400 dollars, the inflation-stepped figure under the OBBBA schedule that raised the old 10,000 dollar ceiling. The cap phases down for taxpayers with higher modified adjusted gross income, dropping toward a 10,000 dollar floor as income climbs, so the benefit is largest for married couples in the middle of the high-income band and smaller at the very top. The flat 10,000 dollar cap that applied from 2018 through 2024 is gone, which changes the planning for nearly every New York City household that itemizes.

The mechanics are worth getting right because the cap interacts with both your property tax and your state income tax. The SALT deduction covers state and local income taxes plus real property taxes, added together and then limited to the cap. For a Manhattan couple paying 28,000 dollars of New York State and City income tax and 14,000 dollars of property tax, the raw total is 42,000 dollars, but the deduction is held to 40,400 dollars. The IRS guidance on deductible taxes and Publication 17 lay out which taxes qualify and which do not, and the IRS qualified business income deduction page matters too, because business owners weigh the SALT workaround alongside their Section 199A position.

Here is a worked example. The Reyes family files jointly with 38,000 dollars of combined New York income and property tax. Under the old 10,000 dollar cap they lost 28,000 dollars of deduction every year. Under the 2026 cap of 40,400 dollars they deduct the full 38,000 dollars. At a 35 percent federal marginal rate, recovering that 28,000 dollars of deduction is worth about 9,800 dollars in federal tax each year. That is real money for doing nothing but applying the current rule. The figure repeats every year the family itemizes, so a single correct read of the cap compounds across the decade into six figures of avoided federal tax.

Even with the higher cap, the New York pass-through entity tax stays useful for business owners whose state and local taxes run past 40,400 dollars or who sit in the phase-down zone. The entity pays the state tax, which is not subject to the personal SALT cap at all, and the owner takes a credit on the personal return. The common mistake is assuming the higher cap made the PTET pointless. For owners above the cap it still moves tens of thousands of dollars of deduction off the limited personal return and onto the unlimited entity return.

An edge case is the household whose income sits right at the phase-down threshold, where a year-end income deferral can keep the full 40,400 dollar cap instead of letting it erode toward the floor. Another is the taxpayer with a large one-time capital gain that spikes modified AGI and quietly shrinks the SALT cap for that year. Both reward planning before December rather than discovery in April. We model the cap, the phase-down, and the PTET election together as part of tax strategy consulting and your individual return work. Start that review through our new client inquiry page.

The 3.8 percent net investment income tax applies once your modified adjusted gross income passes 200,000 dollars if you file single or 250,000 dollars if you file married jointly. Those thresholds are fixed in the statute and do not adjust for inflation, so each year more households drift over them as incomes rise. The tax hits investment income, meaning interest, dividends, capital gains, rental income, royalties, and passive business income. It does not touch wages, self-employment income, or income from a business you actively run.

The calculation is the part people get wrong. The 3.8 percent applies to the smaller of two numbers, your net investment income or the amount your modified AGI exceeds the threshold. So a married couple with 300,000 dollars of modified AGI, of which 40,000 dollars is investment income, pays the tax on the lesser of 40,000 dollars of investment income or 50,000 dollars of excess MAGI. The smaller number is 40,000 dollars, so the tax is 1,520 dollars. The IRS net investment income tax page walks through the same two-step test, Publication 17 covers how the income types are classified, and the IRS qualified business income guidance matters for owners deciding whether a venture counts as active or passive for this test.

A worked example shows where it bites hardest. The Okafors sell a rental property in 2026 and realize a 250,000 dollar capital gain, pushing modified AGI to 600,000 dollars. Their excess over the 250,000 dollar threshold is 350,000 dollars, and their net investment income that year is roughly 260,000 dollars counting the gain and their dividends. The tax applies to the smaller figure, 260,000 dollars, at 3.8 percent, which is 9,880 dollars on top of the regular capital gains tax. The net investment income tax rides quietly on top of every large investment event. Because the thresholds never adjust for inflation, a household that was clear of it a few years ago can find itself inside the band purely from rising income, which is why it gets checked every year rather than assumed.

The common mistake is treating the 3.8 percent as a separate small tax you can ignore. Stacked on top of the top capital gains rate, it lifts the all-in federal rate on long-term gains to 23.8 percent before New York adds its own tax. The way to manage it is to manage modified AGI and the timing of investment income. Harvesting losses against a large gain, spreading an installment sale across years, and coordinating Roth conversions all move the needle. We handle that across your return and your portfolio through investment coordination.

An edge case is the active business owner who is treated as passive in a particular venture, whose share of that income gets pulled into the net investment income base even though their main business does not. Another is the year a primary-home sale exceeds the exclusion, where the taxable portion of the gain can trigger the tax for an otherwise modest household. Both are easy to miss without a forward look. We map the thresholds and the timing as part of tax strategy consulting, and you can open that with our new client inquiry page.

You can, but the pro-rata rule makes it expensive, so the answer is usually to clear the traditional balance first. The backdoor Roth works by contributing to a non-deductible traditional IRA and converting it to a Roth, which sidesteps the income limit that blocks high earners from contributing to a Roth directly. The catch is that the IRS does not let you convert only the after-tax dollars. It treats every dollar across all your traditional, SEP, and SIMPLE IRAs as one pooled balance, and each conversion comes out proportionally.

Walk through what that does. Say you have 93,000 dollars of pre-tax money in a rollover IRA and you add 7,000 dollars of new non-deductible contributions, for 100,000 dollars total of which 7 percent is after-tax. When you convert 7,000 dollars, only 7 percent of it, about 490 dollars, comes out tax-free. The other 6,510 dollars is taxable, even though you meant to convert only your fresh non-deductible contribution. The IRS Roth IRA rules and the IRS conversion guidance describe the pooling, and Publication 17 covers the income limits that send high earners to the backdoor in the first place.

The fix is to empty the pre-tax IRA before you convert. Many employer 401(k) plans accept incoming rollovers, and a 401(k) balance is not counted in the pro-rata calculation. So you roll the 93,000 dollar pre-tax IRA into your current 401(k), which leaves your traditional IRA holding only the 7,000 dollars of non-deductible money. Now the conversion is clean, and the full 7,000 dollars moves to the Roth tax-free. The order matters, and it has to be done by December 31 of the conversion year because the pro-rata test looks at your year-end IRA balances.

A worked example. A surgeon earning 500,000 dollars wants a backdoor Roth but has a 120,000 dollar SEP-IRA from her old practice. If she converts without planning, almost the entire 7,000 dollar conversion is taxable at her top rate. If she rolls the SEP into her hospital 401(k) by December, then contributes and converts, the whole 7,000 dollars lands in the Roth with no tax. Same year, same accounts, very different bill. The rollover has to settle before year end, so a December scramble with a slow plan administrator is the most common way this plan falls apart, and it is worth starting in the fall.

The common mistake is converting in the same calendar year you still hold a pre-tax IRA, which triggers the proportional tax you were trying to avoid. An edge case is the spouse with a clean IRA and a partner with a large pre-tax balance, because the pro-rata rule is per person, so one spouse can run a clean backdoor while the other cannot until the pre-tax money moves. A third edge case is the freelancer with a SEP-IRA who would gain more by switching to a solo 401(k), which both shelters more and keeps the IRA pool empty for clean conversions. We coordinate the rollover timing and the conversion with your individual return and your investment accounts. Start that planning through our new client inquiry page.

The New York pass-through entity tax lets your business pay state income tax at the entity level instead of on your personal return, which moves that tax outside the personal SALT deduction cap. The cap only limits state and local taxes claimed on an individual return. A tax paid by your S-corp or partnership is a business deduction at the entity, not a personal itemized deduction, so the federal cap never touches it. You then claim a credit on your personal New York return for the PTET the entity paid, which offsets your personal state liability.

The net effect is a full federal deduction for state tax that would otherwise be capped. With the 2026 personal SALT cap at 40,400 dollars and a phase-down for higher earners, the PTET is most valuable for owners whose state and local taxes run well past the cap. The IRS guidance on the SALT deduction explains the personal limit the PTET works around, Publication 17 covers how state taxes flow through to the federal return, and the IRS qualified business income deduction page is relevant because the PTET deduction reduces the income that feeds the 199A calculation. The New York program details sit with the New York State PTET page.

A worked example. An S-corp owner has 250,000 dollars of New York taxable business income and owes roughly 22,000 dollars of New York state tax on it. Without the PTET, that 22,000 dollars is a personal SALT item, and once her property and income taxes already fill the 40,400 dollar cap, the extra 22,000 dollars is lost at the federal level. With the PTET election, the S-corp pays the 22,000 dollars, deducts it as a business expense, and she takes a New York credit for the same amount. At a 35 percent federal rate, deducting that 22,000 dollars she would otherwise have lost is worth about 7,700 dollars a year.

The common mistake is missing the election window. The PTET is an annual election with its own deadline, generally early in the tax year, and it cannot be made after the fact on the return. Miss the date and the entire benefit is gone for that year. The election also requires the entity to make estimated PTET payments during the year, which has to be coordinated with the owner’s personal estimates so the household does not double-pay.

An edge case is the multi-owner entity where one partner benefits and another does not, because the election binds the whole entity, so the partners have to agree on whether to elect. Another is the owner with income in several states, where each state’s pass-through workaround has different rules and credits that have to be reconciled. A third is the owner who elects but underpays the entity estimates, which can forfeit part of the benefit, so the entity payment schedule has to be tracked as carefully as the election date itself. We handle the election timing, the entity estimates, and the personal credit together through tax compliance and tax strategy consulting. Start that with our new client inquiry page.

For the right person, yes, because the deduction dwarfs the fees. A defined benefit plan, often run as a cash balance pension, can let a self-employed professional deduct 200,000 dollars to 300,000 dollars or more in a single year, far past what a 401(k) allows. The 2026 elective deferral limit for a 401(k) is 24,500 dollars, plus an 8,000 dollar catch-up if you are 50 or older, which is useful but small against a high income. The defined benefit plan is the heavy contributor because its limit is driven by your age and income, not a flat dollar cap.

The arithmetic is what makes the decision easy in the right case. The plan carries setup and annual actuarial costs, typically a few thousand dollars a year, because an actuary has to certify the funding each year. Set that against the deduction. If you are in a combined federal and New York bracket of 45 percent and you shelter 200,000 dollars, the tax saved is about 90,000 dollars in that year alone. A 3,000 dollar actuarial fee against 90,000 dollars of tax savings is a rounding error. The IRS defined benefit plan overview and the IRS retirement contribution limits set out the framework, and Publication 17 covers how the deduction flows to the return.

A worked example. An orthodontist who is 54 and nets 600,000 dollars from her practice sets up a cash balance plan. Based on her age and income, the actuary certifies a 230,000 dollar annual contribution. She deducts the full 230,000 dollars, which at a combined 47 percent rate saves about 108,000 dollars in tax. Her actuarial and administration cost runs 4,000 dollars. She also funds a 401(k) alongside it for the 24,500 dollar deferral plus the 8,000 dollar catch-up. The plan does the heavy lifting that no other vehicle can match at her income.

The plan works best for self-employed professionals over 45 with consistent high income and few or no employees, because older participants can fund larger amounts and employee coverage rules raise the cost when staff have to be included. The common mistake is treating the contribution as optional year to year. A defined benefit plan creates a funding obligation, so it suits income that is steady, not a one-time windfall that may not repeat.

An edge case is the practice with several employees, where coverage and nondiscrimination rules force contributions for staff that can erode the owner’s advantage, so the plan design has to be run before adopting it. Another is the owner near retirement who wants to fund aggressively for a few years then wind the plan down, which is a legitimate strategy but needs the exit mapped at the start. A third is pairing the plan with a 401(k) profit-sharing layer, where the two plans together raise the total shelter but also raise the coverage cost if staff are involved, so the combined design has to be tested before adoption. We size the contribution, coordinate the actuary, and fit it to your tax strategy and individual return work. Start that through our new client inquiry page.

Accelerate income when you expect your future tax rate to be higher than your rate today. Most planning pushes income later and pulls deductions forward, on the theory that a dollar of tax paid next year is cheaper than a dollar paid this year. That logic flips when your rate is heading up. If you believe rates will rise, if your own income is climbing into a higher bracket, or if a coming event like a business sale will spike your rate, paying tax now at a lower rate beats paying later at a higher one.

The most common accelerating move is the Roth conversion. You convert traditional IRA or 401(k) dollars to a Roth, pay tax now at today’s rate, and the money then grows and comes out tax-free for life. It hurts in the conversion year because you voluntarily add taxable income, but over a long horizon the math often favors it, especially for younger high earners with decades of tax-free growth ahead. The IRS conversion rules and Roth IRA guidance cover the mechanics, and Publication 17 covers how the added income lands on the return.

A worked example. A consultant who is 40 has 200,000 dollars in a traditional IRA and a current marginal rate of 32 percent. She expects to be at 37 percent within a decade as her practice grows. She converts 50,000 dollars this year and pays 16,000 dollars of tax now. Had she waited until she was in the 37 percent bracket, the same 50,000 dollars would have cost 18,500 dollars to convert, and the post-conversion growth would have been taxed along the way in a traditional account. Paying the 16,000 dollars now locks in the lower rate and starts the tax-free growth clock early.

The counterweight is the net investment income tax and the bracket creep a conversion can cause. Adding 50,000 dollars of income can push other dollars into a higher bracket or over the 250,000 dollar net investment income threshold, so conversions are usually done in measured slices that fill a bracket without spilling into the next one. The common mistake is converting a large balance in one year and triggering a far higher marginal rate than the steady-state rate you were trying to beat.

An edge case is the low-income gap year, a sabbatical, a startup year before revenue, or the window between retirement and required distributions, where your rate dips and a conversion is cheap. Another is the year of a large deductible event, such as a major charitable gift through a donor-advised fund, that can absorb the income from an accelerated conversion so the net tax cost of the move is close to zero. A third is the year before a planned move from New York to a no-tax state, where converting while still a New York resident may add state tax that a one-year wait would avoid, so the conversion and the move date have to be sequenced together. We model the bracket, the net investment income threshold, and the conversion size together as part of tax strategy consulting and your individual return. Start that planning through our new client inquiry page.