How to Pay Less in Taxes — Legally

The short answer is that an S-corp election can save many self-employed people between $5,000 and $20,000 or more per year in self-employment tax, depending on how much the business earns and how salary vs. distributions are structured. But the actual math depends on several moving parts, so let’s walk through how this works in practice.

When you operate as a sole proprietor or single-member LLC, every dollar of net business income gets hit with self-employment tax. That’s 15.3% on the first $168,600 of net earnings (for 2024) — 12.4% for Social Security and 2.9% for Medicare. Above that threshold, the Social Security portion drops off, but the 2.9% Medicare tax continues on all earnings. And if your modified adjusted gross income exceeds $200,000 ($250,000 for married filing jointly), an additional 0.9% Medicare surtax kicks in under Section 1411 of the Internal Revenue Code.

Now here’s where the S-corp changes things. When your business is taxed as an S-corporation (either by forming a corporation and electing S status, or by having your existing LLC file Form 2553 to elect S-corp taxation), you split your business income into two buckets: salary and distributions. You pay yourself a “reasonable salary,” and only that salary portion is subject to payroll taxes (the employer and employee halves of Social Security and Medicare). The remaining profit passes through to you as a distribution, and distributions are not subject to self-employment tax or FICA.

Let’s run through a concrete example. Say you’re a freelance marketing consultant and your business nets $150,000 after all deductible expenses. As a sole proprietor, you’d owe self-employment tax on roughly 92.35% of that net income (the IRS lets you deduct the “employer half” before calculating). That’s about $150,000 x 0.9235 = $138,525 subject to SE tax, producing roughly $138,525 x 15.3% = $21,194 in self-employment tax.

Now suppose you elect S-corp status and set your salary at $70,000 — a figure that the IRS would likely consider reasonable for the work you’re doing. You’d pay FICA taxes only on the $70,000 salary: $70,000 x 15.3% = $10,710 total (split between employer and employee halves). The remaining $80,000 flows to you as a distribution with zero employment tax. Your savings: roughly $21,194 minus $10,710 = about $10,484 per year. That’s real money.

At higher income levels, the savings get even bigger. A business netting $250,000 with a $90,000 salary would save approximately $18,000 to $20,000 per year compared to sole proprietorship status. And those savings compound over time — over a decade, we’re talking about $100,000 to $200,000 that stays in your pocket instead of going to employment taxes.

But there are costs and caveats. First, you need to set a reasonable salary. The IRS scrutinizes S-corp owners who set their salaries suspiciously low. If you’re a surgeon netting $500,000 and paying yourself $40,000, that’s going to get flagged. The IRS looks at what similar professionals earn in your geographic area, the time and effort you devote, and the skills required. A good rule of thumb: your salary should be at least 40-60% of net business income for most service businesses, though the exact percentage varies by industry.

Second, running an S-corp costs money. You’ll need to file a separate corporate tax return (Form 1120-S), set up payroll, and possibly pay for a registered agent. Expect to spend an additional $1,500 to $3,000 per year on these administrative costs. So the S-corp election typically doesn’t make sense until your business is netting at least $50,000 to $60,000 annually — below that level, the administrative costs eat up most of the tax savings.

Third, state taxes matter. Some states impose additional taxes on S-corps that don’t apply to sole proprietorships. California, for example, charges a 1.5% franchise tax on S-corp net income (minimum $800 per year). New York City imposes its own unincorporated business tax on sole proprietors but not S-corps, which can actually make the S-corp more attractive there. You need to model both scenarios for your specific state before deciding.

There are also Form 1040 implications to consider. Your S-corp salary shows up on a W-2 and flows to your personal return just like any other wage income. Distributions show up on Schedule K-1. The qualified business income (QBI) deduction under Section 199A — which can knock 20% off qualifying business income — still applies to S-corp income in most cases, though the salary portion doesn’t qualify for QBI. So setting your salary higher also means a smaller QBI deduction, which partially offsets the payroll tax savings. A good tax advisor will model the interaction between payroll tax savings and QBI deduction impact to find the sweet spot.

One more thing: the S-corp election doesn’t change your income tax. You’ll still owe federal income tax on the full business profit regardless of how it’s split between salary and distributions. The S-corp only saves on employment taxes. People sometimes confuse this and think the distributions are “tax free” — they’re not. They’re just free of the 15.3% FICA layer.

If you want to explore whether an S-corp election makes sense for your situation, reach out to our team and we can run the numbers for your specific income level and state.

Here is a real-world example to make it concrete. Suppose your LLC generates $200,000 in net profit after all business deductions. Without the S-corp election, you pay self-employment tax on the entire $200,000 — that is $200,000 times 15.3% up to the Social Security wage base ($176,100 in 2024, $176,100 in 2025) plus 2.9% Medicare on everything above that. With an S-corp election and a $90,000 salary (which must be reasonable for your industry and role), you only pay FICA on the $90,000. The remaining $110,000 flows through as a distribution not subject to self-employment tax. The savings: roughly $16,800 per year in avoided payroll taxes, minus the additional costs of running payroll (typically $1,000 to $3,000 annually for a single-owner payroll). Net benefit: $13,000 to $15,000 per year in pure tax savings for this particular income level.

Yes, tax-loss harvesting can absolutely be worth it for small portfolios, though the benefit scales with your tax bracket and the size of the losses you’re able to harvest. Even a $10,000 portfolio can produce meaningful tax savings if you’re strategic about when and how you sell losing positions.

Here’s the basic idea: when an investment in your taxable brokerage account has dropped below what you paid for it, you sell it to “realize” the loss. That realized loss can then offset capital gains you’ve earned elsewhere — and if your losses exceed your gains, you can deduct up to $3,000 of the excess against your ordinary income each year. Any remaining losses carry forward indefinitely until they’re used up.

Let’s say you have a $25,000 portfolio and one of your positions — say a tech ETF you bought for $8,000 — has fallen to $5,500. You sell it, realizing a $2,500 loss. If you have no capital gains to offset, that $2,500 loss can be deducted against your ordinary income on your Form 1040. At the 24% federal bracket, that’s $600 in tax savings. At the 32% bracket, it’s $800. At the 37% bracket, $925. Those aren’t life-changing numbers, but they add up over time — especially if you’re harvesting losses consistently, year after year.

The real power of tax-loss harvesting shows up when you reinvest the proceeds. After selling the losing position, you don’t just sit in cash — you immediately buy a similar (but not “substantially identical”) investment to maintain your market exposure. Sold an S&P 500 index fund at a loss? Buy a total stock market fund instead. Same broad market exposure, same expected return trajectory, but now you’ve locked in a tax deduction. This is the key principle: you’re not giving up future gains, you’re just converting an unrealized loss into a realized tax benefit while staying invested.

There’s a rule you absolutely need to know, though: the wash sale rule. If you sell a security at a loss and buy the same or a “substantially identical” security within 30 days before or after the sale, the IRS disallows the loss. So you can’t sell shares of the Vanguard S&P 500 ETF (VOO) at a loss and immediately buy them back. You need to either wait 31 days or buy something different — like the Schwab S&P 500 Index Fund or a total market ETF. The IRS hasn’t given perfectly clear guidance on what counts as “substantially identical,” but switching between different index providers or going from an S&P 500 fund to a total market fund is generally considered safe by most tax professionals.

For small portfolios specifically, there are a few practical considerations. First, transaction costs used to be a concern — when brokerages charged $7–10 per trade, harvesting a $200 loss didn’t make sense. But now that most major brokerages offer commission-free trading, even small losses are worth harvesting. Second, if you use a robo-advisor like Betterment or Wealthfront, tax-loss harvesting is typically built into the platform automatically. These services scan your portfolio daily and harvest losses whenever they appear, even in small amounts. The accumulated savings over a decade can be significant — Wealthfront has published data suggesting their automated harvesting adds roughly 1.5% to 2% annually in after-tax returns for typical clients.

There’s also a strategic dimension that small investors often overlook: carrying losses forward to offset future gains. If you’re in your 20s or 30s with a small portfolio today, harvesting losses now creates a “tax loss bank” that you can draw against for years to come. When you eventually sell a winning position — whether it’s a stock that tripled or real estate that appreciated — those carried-forward losses reduce the tax hit. Think of harvested losses as a form of tax savings account that sits on your return until you need them.

One caveat: tax-loss harvesting only works in taxable accounts. It does nothing in your 401(k), IRA, or Roth IRA, because gains and losses in retirement accounts aren’t reported on your annual tax return. So if your “small portfolio” is entirely in a Roth IRA, there’s nothing to harvest. Focus on this strategy for your taxable brokerage accounts only.

The $3,000 annual deduction limit against ordinary income is another factor. If you have $15,000 in realized losses and no gains to offset, you can only deduct $3,000 per year against ordinary income. The remaining $12,000 carries forward. For a small portfolio, this limit rarely comes into play — you’re unlikely to have massive losses relative to your portfolio size. But it’s good to know the rule exists.

Here’s a practical example of how this plays out over time. Suppose you have a $30,000 taxable portfolio and you’re in the 24% federal tax bracket. Over five years, market volatility creates opportunities to harvest $2,000 in losses each year. That’s $10,000 in total harvested losses. If $4,000 offsets capital gains and $6,000 is deducted against ordinary income over those years, you’ve saved roughly $960 in capital gains taxes (at 15%) plus $1,440 in income taxes (at 24%) = $2,400 total. That’s an 8% return boost on your original $30,000 — just from being smart about selling losers.

The bottom line: if you have a taxable brokerage account, tax-loss harvesting is worth doing regardless of portfolio size. The mechanics are simple, the costs are zero at most modern brokerages, and the savings accumulate meaningfully over time. The one situation where it’s truly not worth the effort is if your income is in the 10% or 12% bracket, because long-term capital gains are taxed at 0% at those income levels — so there’s less tax to save in the first place.

For context, if you have a $50,000 portfolio and harvest $3,000 in losses annually, that $3,000 deduction saves you between $660 (at the 22% bracket) and $1,110 (at the 37% bracket) in federal income tax each year, plus state tax savings on top of that. Over ten years of consistent harvesting, that is $6,600 to $11,100 in tax savings from a relatively modest portfolio — and the portfolio still holds the same economic positions because you repurchased equivalent (but not substantially identical) investments after each sale. The reinvested positions have a lower cost basis, so you have effectively deferred the tax rather than eliminated it, but the time value of deferring $10,000 in taxes over a decade is real money.

A Roth conversion makes the most sense when you expect to pay taxes at a lower rate now than you will in the future. That’s the fundamental question: are you better off paying the tax today, at your current rate, or deferring and paying it later when you withdraw from a traditional IRA or 401(k)? If the answer is “today,” a Roth conversion is probably a smart move.

There are several specific situations where the math strongly favors converting. The most common one is a temporary dip in income. Maybe you left a high-paying job and took six months off before starting a new one. Or your business had a down year. Or you retired early at 55 and won’t start Social Security until 67. In any of these cases, your taxable income for the year may be unusually low — meaning you can convert traditional IRA money to a Roth at the 12%, 22%, or 24% bracket instead of the 32% or 35% bracket you’ll face later when required minimum distributions (RMDs) kick in at age 73.

Let’s put numbers on this. Say you’re 58 and retired early with $800,000 in a traditional IRA. Your only income this year is $20,000 from a part-time consulting gig. As a single filer in 2025, your standard deduction is $15,350, so your taxable income before any conversion is just $4,650. You could convert roughly $39,000 to fill up the 12% bracket (which tops out at about $47,150 for single filers). The tax cost on that $39,000 conversion would be roughly $4,680 in federal tax. But if you wait until age 73 when RMDs force you to withdraw $40,000+ per year on top of Social Security income, that same money could easily be taxed at the 22% or 24% bracket — costing you $8,580 to $9,360. By converting now, you’re saving $4,000 to $5,000 in taxes on that one chunk alone.

The second classic scenario is when you expect tax rates to go up across the board. The 2017 Tax Cuts and Jobs Act (TCJA) temporarily lowered most income tax brackets, but many of those lower rates were set to extended through 2034 by the One Big Beautiful Bill Act. While Congress passed OBBBA extending some provisions, future legislation is never guaranteed. If you believe rates will be higher in 10 or 20 years — whether from policy changes or from your own rising income — locking In the current rates through a Roth conversion is a hedge against that uncertainty.

A third situation: you have a large traditional IRA balance and you’re worried about the RMD squeeze. Once you turn 73, the IRS requires you to withdraw a minimum amount from your traditional IRA each year based on your life expectancy. These withdrawals are taxed as ordinary income. If you also have Social Security, pension income, or other retirement income, those RMDs can push you into a higher bracket and even trigger the taxation of your Social Security benefits (up to 85% of your Social Security can become taxable). Converting some of your traditional IRA to Roth before age 73 reduces future RMDs and can keep your total retirement income in a lower bracket.

Young high earners in their 30s and 40s are another group that should think about Roth conversions — or better yet, backdoor Roth IRA contributions. If you’re earning above the Roth IRA contribution limit ($161,000 MAGI for single filers in 2025), you can still get money into a Roth through the backdoor strategy: contribute to a nondeductible traditional IRA, then immediately convert to Roth. There’s no income limit on conversions, only on direct Roth contributions. Just watch out for the pro-rata rule if you have existing pre-tax IRA balances — the IRS treats all your traditional IRAs as one pool when calculating the taxable portion of a conversion.

Roth conversions also make sense for estate planning purposes. Roth IRAs have no required minimum distributions during the original owner’s lifetime, so the money can keep growing tax-free for decades. And when your beneficiaries inherit the Roth, they do have to empty it within 10 years (under the SECURE Act rules for most non-spouse beneficiaries), but those withdrawals come out completely tax-free. Compare that to inheriting a traditional IRA, where every withdrawal is taxed at the beneficiary’s income tax rate. If your kids or grandkids are in their peak earning years when they inherit, the traditional IRA withdrawals could be taxed at 32% or higher. A Roth inheritance avoids that entirely.

When does a Roth conversion NOT make sense? If you’re currently in the 35% or 37% bracket and you expect to drop to a lower bracket in retirement, converting now means paying more tax than you would by waiting. Also, if you need to use IRA money to pay the conversion tax, the math usually doesn’t work — the whole point is to pay the tax from outside funds (checking account, savings) and let the full converted amount grow tax-free. Taking money out of the IRA itself to pay the tax essentially defeats the purpose and can also trigger the 10% early withdrawal penalty if you’re under 59½.

State taxes add another layer. If you live in a high-tax state now (like California at up to 13.3% or New York at up to 10.9%) but plan to retire in a no-income-tax state like Florida, Texas, or Nevada, it might be smarter to wait and convert after you’ve moved. Conversely, if you’re temporarily living in a low-tax state, that could be an ideal window to convert.

The strategy of “partial conversions” over multiple years — sometimes called a Roth conversion ladder — is usually more tax-efficient than converting everything at once. By spreading conversions across several years, you can fill up lower tax brackets each year without pushing yourself into the top bracket. This is especially powerful during the “gap years” between early retirement and when Social Security and RMDs begin.

Bottom line: if you’re in a low-income year, expect higher future tax rates, want to reduce RMDs, or are focused on leaving tax-free money to heirs, a Roth conversion deserves serious consideration. Talk to a tax professional who can model the specific numbers for your situation before pulling the trigger — the details matter enormously.

Yes, you absolutely can — and it’s one of the most underused tax strategies available to business owners with children. The IRS specifically allows business owners to hire their kids, pay them a reasonable wage for legitimate work, and deduct those wages as a business expense. When done correctly, this shifts income from your higher tax bracket to your child’s lower (or zero) bracket, and it can also provide payroll tax savings that most people don’t realize exist.

Here’s how it works mechanically. If you operate as a sole proprietorship or a single-member LLC (not taxed as a corporation), and you hire your child who is under age 18, the wages are exempt from Social Security and Medicare taxes (FICA). They’re also exempt from Federal Unemployment Tax (FUTA) if the child is under 21. This comes from Section 3121(b)(3)(A) of the Internal Revenue Code. So unlike hiring any other employee, hiring your under-18 child through an unincorporated business means zero payroll tax on their wages — not on the employer side and not on the employee side.

The income tax side is even better. For 2025, the standard deduction for a single filer is $15,350. That means your child can earn up to $15,350 and owe zero federal income tax. So if you pay your 14-year-old $15,000 for the year to do legitimate work in your business, here’s what happens: you deduct $15,000 as a wage expense on your Schedule C, reducing your self-employment income (and your income tax). Your child reports the $15,000 on their own tax return, takes the standard deduction, and owes $0 in federal tax. No FICA was withheld because of the under-18 exemption. The money effectively moved from your 24% or 32% bracket to your child’s 0% bracket.

Let’s quantify the savings. A self-employed parent in the 24% income tax bracket who pays their child $14,000 saves roughly $3,360 in income tax (24% x $14,000) plus about $2,142 in self-employment tax (15.3% x $14,000) = approximately $5,502 per year. If you have three kids doing legitimate work, that’s potentially $16,500+ per year in tax savings. Over a decade, with wage increases as the kids get older, you could be looking at $100,000 or more in cumulative tax savings.

But — and this is important — the work has to be real, and the pay has to be reasonable. You can’t pay your 6-year-old $15,000 to “organize paperwork.” The IRS expects the child to perform actual services that the business genuinely needs, at a rate that’s comparable to what you’d pay a non-family member for the same work. Good examples of legitimate jobs for kids include: filing documents, cleaning the office, managing social media accounts, updating website content, answering phones, packaging and shipping products, data entry, taking photos for marketing materials, and modeling for product advertisements. For older teens, the work can be more substantive — bookkeeping assistance, customer service, content creation, or graphic design.

Documentation is where most people get this wrong. You need to treat this like any other employment relationship. That means: keeping time sheets or a work log showing when the child worked and what they did, issuing a W-2 at the end of the year, and paying the child through a proper method (check or direct deposit to their own bank account — not cash with no paper trail). If the IRS audits you and you can’t produce records showing what the child did and when they did it, they’ll disallow the deduction and you’ll owe back taxes and potentially penalties.

There’s a sweet spot in terms of what to do with the money your child earns. Because the wages are earned income, your child is eligible to contribute to a Roth IRA — up to $7,000 for 2025, or their total earned income if it’s less. So if you pay your 15-year-old $10,000 for the year, they could put $7,000 of that into a Roth IRA. Assuming a 7% average annual return, that $7,000 grows to about $150,000 by the time they’re 65 — completely tax-free. Do that for three years and your child could have $450,000+ in a tax-free retirement account before they even finish high school. That’s generational wealth building using money that would have gone to the IRS.

A few caveats to keep in mind. The FICA exemption only applies when the business is a sole proprietorship, single-member LLC, or a partnership where both partners are the child’s parents. If your business is taxed as an S-corp or C-corp, you still get the wage deduction, but FICA taxes do apply — so the savings are smaller, though still meaningful. Also, state labor laws may restrict the number of hours minors can work and the types of tasks they can perform. Check your state’s child labor regulations before setting up the arrangement.

The Kiddie Tax is sometimes raised as a concern here, but it doesn’t apply to earned income — only to unearned income (investment income) of children under 19 (or under 24 if a full-time student). So wages paid to your child are taxed at the child’s own rate, not yours. This is a common misconception that stops people from using this strategy when they shouldn’t.

One more planning angle: if your child is saving for college, the wages they earn could affect financial aid eligibility. Student income is assessed at a higher rate than parent income on the FAFSA. However, contributions to a Roth IRA are not reported as an asset on the FAFSA, so funneling the wages into a Roth can mitigate this issue.

This strategy is perfectly legal, well-established in tax law, and used by thousands of family business owners every year. The key is keeping it legitimate: real work, reasonable pay, proper records, and actual payment. If you want help setting up a family employment arrangement that’s IRS-proof, contact us for a consultation.

The bottom line: hiring your children is a legitimate tax strategy that the IRS has repeatedly upheld when done properly. But “properly” means real work, reasonable wages, actual payments processed through a payroll system or reasonable record-keeping, and genuine arm’s-length treatment. A 14-year-old filing papers and answering phones for your consulting business for $10,000 a year is completely defensible. A 5-year-old “modeling” for your website earning $12,500 is going to raise eyebrows unless the compensation matches what you would pay an unrelated child model for the same work.

Yes, and this is a big deal for business owners who buy equipment, vehicles, or other depreciable assets. The One Big Beautiful Bill Act (OBBBA), signed into law in 2025, restored 100% first-year bonus depreciation under IRC Section 168(k), retroactive to property placed in service after January 19, 2025. Before OBBBA, bonus depreciation had been phasing down from 100% — it dropped to 80% for 2023, 60% for 2024, and was headed to 40% for 2025. OBBBA reversed that decline and made 100% bonus depreciation permanent rather than temporary.

What does 100% bonus depreciation actually mean in practice? It means that when your business purchases a qualifying asset — whether that’s a $50,000 piece of equipment, a $120,000 work truck, or a $2 million building improvement — you can deduct the entire cost in the year you place it in service. You don’t have to spread the deduction over 5, 7, or 15 years using the normal depreciation schedule (MACRS). Instead, you write off the full amount immediately on your tax return.

For a concrete example, imagine you run a construction company and you buy a $200,000 excavator in September 2025. Under the pre-OBBBA phase-down schedule, you’d have only been able to bonus depreciate 40% ($80,000) in 2025 and would need to depreciate the remaining $120,000 over the asset’s remaining recovery period. With OBBBA’s restored 100% bonus depreciation, you deduct the entire $200,000 in 2025. If your business is in the 24% federal tax bracket, that’s a $48,000 tax savings in Year 1 instead of $19,200. The difference — almost $29,000 — stays in your business’s cash flow right now, when you need it most.

The types of property that qualify for bonus depreciation are broad. They include tangible personal property with a recovery period of 20 years or less (equipment, furniture, machinery, computers, vehicles), qualified improvement property (QIP — basically interior renovations to nonresidential buildings like retail spaces and office buildings), certain computer software, and qualified film and live theatrical productions. Land and buildings themselves (the structural components) do not qualify for bonus depreciation, but the personal property inside them and improvements to them often do.

OBBBA also made an important change regarding used property. Under the 2017 Tax Cuts and Jobs Act, bonus depreciation was extended to used (pre-owned) assets for the first time — as long as the asset was “new to you” (meaning you hadn’t used it before). OBBBA maintains this treatment, so buying a used piece of equipment or a pre-owned vehicle still qualifies for 100% bonus depreciation, as long as it’s the first time your business is placing it in service.

One thing business owners should understand is how bonus depreciation interacts with Section 179 expensing. Both allow you to write off the full cost of an asset in Year 1, but they work differently. Section 179 has an annual dollar limit ($1,250,000 for 2025) and a spending cap where the deduction phases out dollar-for-dollar once total equipment purchases exceed $3,130,000. Section 179 also can’t create or increase a net operating loss — the deduction is limited to your taxable income from active business operations. Bonus depreciation has no dollar limit, no spending cap, and can create a net operating loss. For most businesses buying moderate amounts of equipment, either provision works. But for large purchases or years when you want to generate a loss to carry back or forward, bonus depreciation is the more flexible tool.

The vehicle rules deserve special mention. For passenger vehicles (sedans, small SUVs under 6,000 pounds GVWR), there are luxury auto caps that limit how much you can depreciate regardless of bonus depreciation or Section 179. For 2025, the first-year limit including bonus depreciation is $20,400. However, SUVs and trucks over 6,000 pounds GVWR are not subject to the luxury auto caps. Instead, heavy SUVs can be expensed up to $30,500 under Section 179, with the remainder eligible for bonus depreciation. Vehicles over 14,000 pounds GVWR (think: heavy-duty pickups, box trucks, delivery vans) have no limits at all — you can write off the entire purchase price in Year 1.

For real estate investors, OBBBA’s impact on qualified improvement property is worth highlighting. Before the TCJA fix in 2020 (the CARES Act corrected a drafting error), QIP was stuck with a 39-year recovery period and didn’t qualify for bonus depreciation at all. Now, QIP has a 15-year recovery period and qualifies for 100% bonus depreciation. If you own a rental building and spend $150,000 renovating the interior — new flooring, lighting, HVAC improvements, bathroom upgrades — you can deduct the entire $150,000 in the year the work is completed. This is a big deal for landlords and commercial property owners who regularly invest in tenant improvements.

Net operating losses (NOLs) generated by bonus depreciation follow their own rules. Post-2020 NOLs can be carried forward indefinitely but can only offset 80% of taxable income in future years (there’s no carryback for most businesses). So if bonus depreciation creates a $100,000 NOL, you can carry it forward but it will only offset $80,000 of income in a future year. The remaining $20,000 continues carrying forward. This 80% limitation was not changed by OBBBA.

The permanence of 100% bonus depreciation under OBBBA is arguably the most significant aspect of the legislation for business owners. Previously, business owners had to rush purchases to beat phase-down deadlines. Now, you can plan capital expenditures based on business needs rather than tax law sunsets. That said, “permanent” in tax law only means until Congress changes it again — but for now, business owners can count on full first-year writeoffs without worrying about expiration dates.

If you’re planning a significant asset purchase and want to understand how bonus depreciation fits into your overall tax picture, talk to our team. The interaction between bonus depreciation, Section 179, QBI deductions, and state-level depreciation rules can get complicated, and getting the elections right on your return matters.

The practical takeaway for business owners: if you are purchasing equipment, vehicles, or other depreciable assets in 2025 or 2026, talk to your accountant about the bonus depreciation schedule before you finalize the purchase. The declining bonus percentages mean that a $100,000 equipment purchase generates a significantly different first-year deduction depending on which calendar year you close the transaction.

Tax avoidance is legal. Tax evasion is a crime. That’s the one-sentence answer, but the distinction is more interesting — and more practical — than most people realize, so let’s break it down properly.

Tax avoidance means using legitimate provisions in the tax code to reduce the amount of tax you owe. Every time you contribute to a 401(k), claim a business deduction, harvest a tax loss, or structure your business as an S-corp to reduce self-employment tax, you’re practicing tax avoidance. It’s not just legal — it’s what the tax code is designed for. Congress intentionally creates deductions and exclusions to encourage certain behaviors: saving for retirement, buying a home, investing in equipment, hiring employees, donating to charity. Using those provisions as intended is your right as a taxpayer, and no accountant, tax attorney, or IRS agent would say otherwise.

Tax evasion, but, involves deliberately concealing income, fabricating deductions, or misrepresenting your financial situation to the IRS. Common examples include: not reporting cash income (like a contractor who takes $50,000 in cash payments and doesn’t include it on their tax return), inflating deductions (claiming $20,000 in charitable donations you never made), hiding money in unreported offshore accounts, filing a false return, or not filing a return at all when you owe tax. Tax evasion is a federal felony under IRC Section 7201, punishable by up to five years in prison and fines up to $250,000 ($500,000 for corporations). The IRS Criminal Investigation division (IRS-CI) investigates roughly 3,000 cases per year, and the conviction rate exceeds 90%.

The line between avoidance and evasion usually comes down to intent and truthfulness. If you take a deduction based on a reasonable (even aggressive) interpretation of the tax code and you fully disclose what you’re doing on your return, that’s avoidance — even if the IRS later disagrees with your position. You might owe additional tax and interest, maybe even a civil penalty, but you won’t go to jail. But if you hide income, create fake invoices, or maintain a second set of books, that’s evasion, and the consequences are criminal.

There’s a gray area in between that trips some people up: tax aggression. This is where a taxpayer takes an extremely aggressive position that technically has some legal basis but is unlikely to survive IRS scrutiny. Examples include: claiming personal expenses as business deductions (deducting your family vacation as a “business trip”), inflating the value of donated property for a charitable deduction, or using abusive tax shelters. These situations usually aren’t prosecuted criminally unless there’s clear evidence of willful fraud, but they can result in substantial civil penalties — accuracy-related penalties (20% of the underpayment) or civil fraud penalties (75% of the underpayment).

Let’s walk through some specific examples to make the distinction clearer. Scenario: you’re a freelance graphic designer who works from home. Tax avoidance: you claim the home office deduction for the 200-square-foot room you use exclusively for work, deducting $3,000 per year for a portion of your rent and internet. Tax evasion: you claim your entire apartment as a home office and deduct all $24,000 per year in rent, even though you have roommates and use most of the space for personal living. The first is a legitimate deduction that follows the rules. The second is fraudulent.

Another scenario: you sell a rental property for a $200,000 gain. Tax avoidance: you do a 1031 exchange, rolling the proceeds into a replacement property within 180 days to defer the capital gains tax. Tax evasion: you pocket the $200,000, don’t report the sale, and hope the IRS doesn’t notice. The 1031 exchange is explicitly authorized by the tax code. Not reporting the sale is a federal crime.

One more: you own a small business. Tax avoidance: you elect S-corp status and pay yourself a reasonable salary of $80,000 while taking $70,000 in distributions, saving roughly $10,000 in self-employment tax. Tax evasion: you pay yourself a $20,000 salary (far below what’s reasonable for your role) to minimize payroll taxes, or you run personal expenses through the business and deduct them as business costs. The first is a standard, IRS-recognized strategy. The second invites both civil penalties and potential criminal prosecution.

People sometimes worry that aggressive but legal tax planning will attract IRS attention and somehow cross the line into evasion. It generally doesn’t work that way. The IRS distinguishes between civil and criminal matters. If you take a position on your return that the IRS disagrees with, the normal process is a civil audit: they review your records, propose adjustments, and you either agree or contest the changes. Civil audits can result in additional tax and civil penalties, but they don’t lead to criminal prosecution unless the agent discovers evidence of willful fraud during the audit (hidden income, fabricated documents, etc.).

The IRS has stated publicly that taxpayers have the right to arrange their affairs to minimize taxes. Judge Learned Hand’s famous 1947 opinion put it best: there is nothing sinister about arranging one’s affairs to keep taxes as low as possible. Everyone does it — rich or poor — and nobody owes a public duty to pay more than the law demands. That principle has been reaffirmed by courts repeatedly over the past 75 years.

Here’s the practical takeaway: if you’re reading an article called “How to Pay Less in Taxes — Legally” and implementing the strategies discussed here — S-corp elections, retirement account contributions, tax-loss harvesting, bonus depreciation, hiring family members — you’re practicing tax avoidance. You’re doing exactly what the tax code encourages. Keep good records, file accurate returns, and disclose everything. That’s the entire difference between saving money legally and committing a crime.

If you’re ever unsure whether a particular strategy crosses the line, that’s exactly what a qualified tax professional is for. Schedule a consultation and we’ll make sure you’re on the right side of the line while still minimizing your tax bill.

One way to think about the boundary: if you would be comfortable explaining your tax strategy to an IRS auditor with full documentation on the table, it is avoidance. If you would need to hide information or misrepresent facts for the strategy to work, it is evasion. Legitimate strategies — S-corp elections, retirement contributions, timing of income and deductions, entity structuring — all work in the open with full disclosure to the IRS.

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