By Dr. Jim Dahle, WCI Founder
Here's a question that I've gotten in the past:
“I feel like I’m paying more in tax than most of the other doctors I know. What am I doing wrong?”
Answer: As a general rule, paying more in taxes is a good thing because it means you are making more money. While earning more does result in a higher tax bill, it also generally results in having more money even after paying taxes. Remember that only a relatively small portion of your earnings is taxed at your marginal tax rate (tax bracket), so being bumped into a higher bracket does not result in all of your earnings being taxed at that new higher rate.
Almost all doctors think they pay too much in taxes, and most of them are right. However, the way to significantly lower taxes is not to find some tricky, hard-to-find deduction or to hire the right person to prepare your taxes. The main way is to live your financial life differently: save more, get married, have children, buy a house, start a business, give to charity, hold your investments longer, etc.
There are three tax deductions that generally outpace the others for physicians. If you would like to pay less in taxes, be aware of all of these and maximize them as much as possible.
#1 Tax-Deferred Retirement Accounts
The first deduction is using tax-deferred retirement accounts. These come in a wide variety of flavors, including 401(k), 403(b), 457(b), 401(a), defined benefit/cash balance plans, solo 401(k), SIMPLE IRA, SEP-IRA, and even traditional IRA. All of them work similarly. Any money contributed into the plan by you or your employer this year is money deducted from your income before your tax bill is calculated on the remaining income.
For example, if you earn $300,000 and put $20,000 into your 401(k), you will only pay tax on $280,000. If you are single with no other significant deductions, that $20,000 contribution will reduce your federal tax bill by $7,500 (and potentially your state tax bill as well). Imagine that you could put $50,000 or even $100,000 into tax-deferred retirement accounts. You could reduce your tax burden by tens of thousands of dollars this year (plus you would be in much better shape for retirement).
The up-front tax deduction is not the only way a tax-deferred retirement contribution saves you tax money. That money also grows in a tax-protected way, meaning you do not have to pay any taxes on dividends or capital gains as you invest in the account between contribution and withdrawal. At withdrawal, all of the money in the account is taxed at ordinary income rates, but you use it to “fill the tax brackets” as you go. For most doctors, they will get a tax deduction of 24%–37% percent on contributions and then pay 10%–22% on withdrawals as they fill the various lower tax brackets with that income.
That’s a winning combination. Maxing out your retirement accounts also provides significant asset protection and facilitates your estate planning.
More information here:
Tax-Deferred Retirement Accounts: A Gift from the Government
#2 Healthcare Expenses
The second large deduction for physicians is healthcare expenses. I’m not talking about the medical and dental expenses itemized deduction on Schedule A. Since that is subject to a floor of 7.5% of income, few doctors will ever be able to claim that. I’m talking about paying for all of your healthcare expenses with pre-tax dollars. If you are an independent contractor or partner, you can deduct the entire cost of your health insurance premiums. This is a more favorable, above-the-line deduction that you currently take on Schedule 1 of Form 1040, right next to the self-employed retirement plan contributions.
You get to buy your health insurance with pre-tax dollars. If you’re in the highest federal tax bracket and spend $1,500 a month on health insurance for your family, that deduction is worth $6,660 to you in saved federal taxes alone. But wait, there’s more! If your only health insurance plan is a High Deductible Health Plan (HDHP), you can also contribute $3,850 ($7,750 for a family) [in 2023] to a Health Savings Account (HSA). That money can then be used to pay your deductibles, co-pays, or uncovered expenses with pre-tax money. That knocks another couple thousand dollars off your tax bill. If you don’t spend it all, you can roll it over to the next year and even invest it for decades until you spend it in retirement. It grows tax-protected, just like your 401(k), and as long as it is spent on healthcare (including Medicare premiums), it comes out completely tax-free.
If you are an employee, you don’t get a tax break on health insurance premiums paid. You’re probably not paying the whole premium, though, and your employer can buy your health insurance for you using pre-tax dollars, presumably saving enough in taxes to give you a raise!
More information here:
6 Ways to Reduce Taxes on Your Investments
#3 Standard Deduction
The final large deduction that physicians should know about is the standard deduction. That’s right, the one you get just for having a pulse. For 2023 (for taxes you'll file in April 2024), the standard deduction is $13,850 or $27,700 Married Filing Jointly (MFJ). You don’t have to do a thing to get it. So, if you are married and make $300,000, you don’t pay taxes on the last $27,700 of that income, saving you more than $6,600 in taxes.
It’s possible you have enough itemized deductions to save even more. 
The three main itemized deductions are state income and property taxes up to $10,000 total, charitable contributions, and mortgage interest. If the three of those add up to more than $13,850 ($27,700 MFJ), you can save even more.
Imagine that you were married and earned $500,000, paid $10,000 in state income taxes, donated $50,000 to charity, and paid another $40,000 in mortgage interest. That is $100,000 worth of itemized deductions. You just knocked $100,000 off your taxable income and $35,000 off your tax bill. Are you going to come out ahead financially paying state income taxes, giving lots of money away, and buying a fancy house? Of course not. But if you’re going to do those things anyway, you might as well get a tax break for it.
Physicians are high earners with great potential to build wealth. Understanding how the tax system works—and how you can benefit via tax deductions—will facilitate that process.
Do you use all of these tax deductions? What other deductions have you used that have saved you money in taxes? Comment below!
[Editor's Note: This article was originally published at ACEPNow.]
I am trying to reach you to invite you to give a talk to Hawai’i physicians, residents and medical students. Interested. You can reach me at 760-576-7337. If you are unable, can you suggest someone else?
If he’s not available Sotirios Keros did a talk at my school and he was really great.
Contact katie (at) whitecoatinvestor.com. I’ve spoken to Hawaiians several times over the years.
I have W2 income of about $150K and self employed 1099 income of about $80K. On the $80K there are perhaps $15K of business expenses, primarily travel/lodging/per diem meals.
Can I still deduct all my health insurance costs off the top of the 1099 income even with another part time W2 job?
I’m paying about $13K in premiums for the family.
I was thinking of switching to a HDHCP in November (open enrollment time) to take advantage of an HSA. I wasn’t offered one by the insurance broker that sold me the horrible policy we currently pay for.
Out of pocket health costs this year will be several thousand in addition and we consumed almost no care…and none of us have any major health issues.
Of note, I still max out a SEP-IRA contribution on the 1099 income.
For health insurance costs, would prorate between both income sources. Note that SEHI d/n decrease FICA taxes.
Change from that SEP to a solo-k asap. If you have made no SEP contributions for 2023, you can set it up NOW. If you’re on extension and haven’t contributed for 2022, you have until 10/15 to set up and contribute profit-sharing to the solo-k.
I wouldn’t think there would be any problem at all putting that entire health insurance premium cost onto Schedule 1 Line 17 given you’re making $80K in SE income. If you only had $1,000 in SE income I’m not so sure. It’s definitely expensive to buy on your own in late career. I’ve seen people paying as much as $25K in health insurance premiums.
Johanna says you have to prorate it, but I don’t see that anywhere in the lengthy instructions for line 17 in the 1040 instructions (read those by the way). So I’m curious where she gets that from. Seems overly conservative to me. I’ve never done that for my health insurance. It all goes through WCI and ignores my clinical partnership income.
https://www.irs.gov/pub/irs-pdf/i1040gi.pdf
On the health insurance plans, we work with several independent contractor physician organizations like Team Health, ApolloMD, Emergency Care Partners and others. One of our subject matter experts, in health insurance, designed a Fortune 500 company plan with national pricing for 1099 contractors. Check out the link for a listing of the plans and rates, https://myfinancialcoach.com/concierge-benefits-program-for-the-self-employed/. It solved a lot of problems for 1099s.
Nothing really new here. Regarding point 1, I would also mention that electing a Roth 401-k employee deferral will also save taxes. Not now, but in the future.
Not new to a CPA? Weird. 🙂
Good article but, with regard to healthcare expenses, I’d like to challenge the statement, “Since that is subject to a floor of 7.5% of income, few doctors will ever be able to claim that.” IVF is generally not covered by insurance. As of 2021, 37% of active US physicians were women and 47% were residents/fellows. Female physicians experience infertility at a rate of 24.1%. Not all of those will go through IVF but I’d bet most do. In the general population around 15% of couples have infertility problems so another chunk of male physicians will also end up paying for IVF. I suppose it depends on how you’re defining “few,” however, to me that sounds like a large swath of physicians who will qualify for a tax deduction at some point.
IVF, as I noted in recent posts on the subject, is definitely an exception even for doctors.
To be able to deduct all health insurance cost, several of our physicians in private practice have used a staff leasing company to buy benefits, payroll etc. This is different than a PEO, as most PEOs would have a co-employer relationship with the practice. The staff leasing company cost are paid to them under their tax ID (for services) and the staff leasing company leases the doc and staff back to the practice. May be a good option for some. https://myfinancialcoach.com/benefits-for-small-businesses-with-employees/