By Dr. James M. Dahle, WCI Founder
There was a thread with a poll on Sermo (a doctor-only forum) recently asking what percentage of your income you paid in taxes in 2011. The lowest option was <20%. I thought that was ridiculous (since I make about an average physician salary and paid about 8% in Federal, 3.5% in payroll tax, and 4% in state income taxes), so I spoke up about it. After a few days it became evident that either most doctors have no idea what they pay in taxes, or that they pay far too much in taxes. Out of 58 responses on the poll, I was the only one who was paying less than 20% in taxes. Keep in mind that more than half of doctors make less money than I do.
I found it hilarious that 4 doctors thought they paid more than 50% in taxes. I can't quite figure out how to pull that off, even if you are single, make a ton, take a standard deduction, are self-employed, and pay ridiculous state and local income taxes. Really? More than 50%? You're either mistaken or you're stupid. Hopefully mistaken.
I found it disturbing that 38 of the 58 were paying more than 30% in taxes. No wonder doctors can't get ahead. Where are the doctors who are living in tax-free states? How about the employees (who pay less in payroll taxes)? And what about the poor pediatricians making $100K? Why do none of these doctors have an effective tax rate less than 20%?
Or is the problem simply that doctors have no idea what their effective tax rate is?
Physician Salary After Taxes
Let's run a hypothetical situation. Let's take a single doctor Kaiser employee with no kids who lives in California, rents his apartment, and only saves $15K in his 401(k) each year. Let's say he makes $200K, which is about an average physician salary. What does he pay in taxes? Let's take a look.
- Adjusted Gross Income $185K
- Taxable income $175,500
- Tax due $42,812 (21.4% of his total income)
Now his payroll taxes. Last year it was 4.2% of the first $106,800 and 1.45% of all $200K, or $7386 (3.7% of his total income).
Now his state taxes. Forgive me as I've never paid taxes in California, I'm just picking on you because I know the state taxes are pretty high. I calculate out a tax due of $14,503, or 7.3% of his total income.
Grand total for what I consider an awfully unfavorable tax situation comes out to 32.4%. Could be a bit worse for a self-employed doc who didn't bother with a 401(k), or for someone making a lot more money. But under no circumstances is he ever getting above 50%. You just can't do it.
Now, let's consider a Texas employee pediatrician, married, father of 4, sole provider. He makes $100K and since he reads the White Coat Investor, maxes out his 401(k) at $16,500. He also owns a nice home and paid $20,000 in mortgage interest, property taxes, and contributions to charity. He paid another $3,000 in student loan interest.
His federal income tax looks like this:
- Adjusted Gross Income $80,500
- Taxable income $38,300
- Tax due $899 (<1% of gross income)
He pays another $5,650 in payroll taxes and no state taxes for a total of $6,549, or 6.5% of his gross income.
What's the moral of the story? The government pays you for certain activities and not for others. You probably ought to know what they are if you prefer paying less taxes. You might not want to do all of them just to lower your taxes, but you should at least know the rules for how the game is played.
Here's the big rules (a how-to guide to lower your effective tax rate):
- Make less money
- Get married
- Have kids
- Be an employee (the employer pays for half your payroll taxes)
- Buy a huge house with a big fat mortgage and property taxes. Heck, buy two.
- Give money to charity
- Live in a state without state income tax
- Save money for retirement
- If self-employed, try to characterize every expense possible into a business expense
My wife is the physician and I am the office manager. We are looking at best ways to deal with Moonlighting income and medical director positions, both with and without state and federal withholdings. She is also employeed physician in a group she is a shareholder of. What are ways to deal with the taxable impact and what rolls might medical student loans and clinic startup loans play on the impact?
Perhaps the greatest indictment of all on the profession…
I’m not sure exactly what you’re asking. I’m not sure you’re sure either. You say your wife is employed by a group, but also an owner (shareholder) of the group. Is she an employee or an owner? Where does the medical director income come from? Is she receiving that on a W-2, 1099, or K-1?
I’m also not clear why witholdings matter to you. Whether you withold it, pay quarterly estimated payments, or pay it all at the end (with associated penalties in most cases) it’s the same amount of tax owed. It might matter to cash flow, but not to tax planning.
Med student loan interest is generally not deductible for doctors. Clinic start-up loan interest is a business expense which should be completely deductible.
Can you be more specific in your question?
You are awesome.. and yes everything you have said was a wake up call. Thank you…
White Coat, I suggest having a post polling your readers on their effective tax rate for 2012, but explicitly state the calculation specifying income as taxable income rather than AGI.
We just finished our tax return for 2012 and I’m perplexed on how you only paid 11.5% between federal and payroll. We both work (I’m an engineer, hubby is MD) so I get that we are probably at a higher marginal rate than the average physician. But for pete’s sake, at a 38% effective tax rate (using taxable income), I’m having a hard time reconciling the large difference between your stated numbers and ours, even with 2 kids and a house. And we don’t even live in California where the state tax is 10%!
….unless you are an incredibly charitable person.
There’s a post coming up in a couple of weeks on the subject that answers all your questions. It’s silly to do it using taxable income too. The whole point of tax planning is to DECREASE your taxable income. You want your taxable to gross ratio to be as low as possible, that’s the key. When I talk about the percentage of income I’m paying in taxes I’m NOT using taxable income, I’m using gross income (including retirement account contributions.)
Dear WCI,
Thanks for all of your informative posts. You mentioned that there was a post coming up in a couple of weeks about the subject? Has it already been posted? I was looking in the archives and couldn’t find it.
It runs in about 10 more hours.
So by your calculation (using gross), we are still at 32% effective. Almost double yours.
When I refer to taxable income, it’s the same thing as line 43 on the 1040. This figure takes into account retirement contributions and deductions. I’m not understanding why you wouldn’t include your deductions in your effective tax rate.
Nevermind. I agree gross is what should be used.
I emailed you an advance copy of that upcoming post.
Where is that post you mentioned?
I still can’t believe you as an EP gets to pay only 11.5% in federal income tax. I am an EP myself and i can’t imagine paying that low ever under any circumstances ever as a full-time EP, in any state, in any marriage situation. Could you clarify on this please? I think 11.5% tax is possible if you are the only income producer in the household and you work part time and do about 4-5 shifts a month max. My EP friend also pays about the same as me and we pay almost triple the amount as you in federal tax.
Like NerdyWife above, i am incredulous. Could you enlighten us how it’s possible? Where is that post you mentioned?
Here’s my post about my tax rate from this year:
https://www.whitecoatinvestor.com/10-reasons-why-i-pay-less-tax-than-mitt-romney/
I paid 9% in federal income tax for 2012 (plus payroll and state taxes for a total of 15.5%). The post lists how.
I’m surprised you’re incredulous. Here’s a way a $200K earner could pay no taxes at all:
http://www.bogleheads.org/forum/viewtopic.php?t=79510
This stuff isn’t rocket science. If you do what the government subsidizes (save for retirement, get married, have kids, give money to charity, buy a house etc), your taxes go way down.
Thanks for the link!
It seems much of your low tax comes from defined benefit plan and charity donations.. I like your website. Keep up the good work!
Well I am MD married. 2 kids and a husband who isn’t working and the federal alone is 34 % of the gross. Gross basic pay is 269000
You’re doing something seriously wrong. How much are you putting in retirement accounts or HSAs? There’s no way you’re at 34% federal even with just the standard deduction. Your marginal tax rate can’t be higher than 28%. You must be miscalculating.
Well, I just finished up my 2012 return and have taken quite a hit.
We are two MD’s with single kid who are working full time and our effective tax rate on our gross income is just above 30 %
Total gross income of 535k
Total federal tax = 142k
Total state tax = 28k
We both maximize our 401k and 403b, use HSA, etc.
I wonder if we can do anything next year to reduce the tax rate around 25 %, but I just don’t see any options.
I do think I have to look at investing properties and be creative now.
The sad part is I went to a couple of so called great financial advisors and they suggested in putting my taxable income in certain investment vehicles which would generate higher returns aka increase my income. I on the pother hand would like to pay less taxes if possible. We are seriously thinking of one of us going part time.
In a nutshell, I think a lot of double income MD”S are paying 30 % or more. Once your combined pay goes above 400/450, its a fact.
Btw, I didn’t include any other taxes, like real estate, etc.
Great blog, keep up the good work.
That sounds pretty accurate for the salary. It’s pretty amazing how much higher the percentage is at $500K compared to $250K.
sm: I’m in a similar situation. It’s nice to be here, but the percentage of dollars I get to keep is astoundingly low, and yes, it makes me want to go to part time. I think my effective rate last year was 34%, and I haven’t seen this year’s yet. I did more consulting work this year, so I’m afraid to see it.
When I was starting out in residency, I though I would work my a## off and make a lot of money before I retire by 50. It seems more prudent now to work till old age, although start cutting off on the hours/ go part time by late 40’s or early 50’s.
From a tax standpoint, you’re right. Far better to spread your income out over more years.
And I’m single income, not married.
Just calculated our effective rate for my wife (resident) and I after reading this.
Married filling jointly, no dependants, no property tax/mortage. 0% state tax.
~17-18% tax on ~$225,000 gross income.
Not bad!
My accountant has me putting away one third of my monthly income to pay toward tax estimates each quarter. I am married with 2 kids, the bread winner of the family. I am saving the maximum possible for retirement. I give very little to charity because I hardly have enough to pay my own bills. It boggles my mind that make as much as I do yet have very little extra per month.
If you feel that squeezed on such a high income perhaps you’re saving too much for retirement. You say you’re maxing things out. Is that more or less than 20% of your gross?
My husband is a surgeon and we pay 35.2% on his gross income. AMT takes away our biggest deduction, state income tax (as well as local and property taxes). I don’t see that being married helps him much – he gets a $3800 exemption for me. My husband is employed, we own a modest house relative to our income and peers, and we donated just under 3% of gross income to charity. We do not have kids and I probably won’t have them to get the tax deduction.
Buying married doesn’t help nearly as much if you’re paying via the AMT system.
Similar question for this thread. I wish to moonlight on the side in an ER or somewhere as a physician consultant. If I start an LLC prior to doing this and get the group to pay my LLC for my work (instead of paying me directly as an independent contractor), can I put the monies into a SEP IRA (I have a separate 401k for my regular job), also could I in theory then write off my expenses incurred with the LLC?, miles or a car, computer, etc.
Thank you in advance for any help
You don’t need the LLC. If you’re paid as an independent contractor you can use a SEP IRA and write off your business expenses. Read the mileage rules carefully. There is little benefit to an LLC for a single independent contractor doc.
Thanks for the quick reply, what about if LLC is set up as home business where I have a few different ER’s as clients that I speak to, also work in their ER and help them identify metrics, processes for improvement. Lets say I get paid 70k, could I put 50k into SEP IRA and with the 20k difference spend on various business expenses, maybe have the LLC actually show only a limited profit? The difference being that now I can write off a portion of my home mortgage, home business expenses, client dinners, client trips, etc that I couldn’t otherwise if I was working only as IC. Not sure of the tax laws or if this is a good idea?
You have a business. That business allows you to write off business expenses and use a SEP IRA. The LLC has nothing to do with it.
SEP-IRA rules only allow you to put in around 18.5% of what you earn in your business. A Solo 401K will allow you to put away more, but still not $50K on earnings of $70K.
I have a somewhat related question… I am currently a resident and am going to start moonlighting however I am enrolled in income based repayment for my student loans. Any additional money I make will have a direct impact by increasing my monthly student loan payment. Would it be possible to set up a company/corporation that was the recipient of my moonlighting wages instead of claiming it as income for me? I could then invest the wages that were paid to the company into my Roth IRA and at the same time, keep my student loan payments at their current rate. Thank you in advance.
If you set up a C corp and don’t pay yourself a salary, I suppose you could avoid the increase in IBR payments. However, you couldn’t then put the money into a Roth IRA. In fact, you couldn’t even take the money as wages without affecting your IBR payments. You must have earned income (wages) to contribute to a Roth IRA. The money would also be taxed at corporate rates. It could then be paid out to you as dividends (and taxed again), but you couldn’t then put that money into a retirement plan. If you use an S Corp, it’s going to affect your IBR payments because S Corps are pass-through entities.
Sorry, nice try. You can’t have your cake and eat it too. 🙂
I just discovered this blog and I wish I had discovered it 20 years ago! I have been an attending surgeon for 15 years and I’m thoroughly enjoying your blog … thank you for your contribution! I have two unrelated questions:
1. Were you serious when you wrote “buy the biggest house and mortgage possible”? I’ve heard arguments for and against this position. Given the recent housing correction, do you still feel this way? (Sorry if you’ve already discussed this in another post … if so, could you please direct me?).
2. I have formed an S corp. My CPA tells me I can deduct many expenses through the S corp. In particular, he suggests paying my childrens’ nanny as an employee of my corporation, as she is providing child care for the corporation’s employee (me). Any thoughts on this? If not, do you know of any accounting blogs, websites, books, etc, where I can learn more?
Thank you for your help and your contribution!
While buying a huge house will lower your tax bill, it will increase your monthly expenses more, so no, I don’t recommend you buy a huge house just to lower your taxes. I recommend a mortgage no larger than 2X your gross income and that you spend less than 20% of your gross income on housing related expenses (mortgage, insurance, maintenance, utilities, taxes etc)
Turning your child care expenses in a tax deduction should save you some money. I see no reason you can’t do that. The main benefit of incorporating, however, is to save on Medicare tax. More info can be found here:
https://www.whitecoatinvestor.com/incorporating-to-reduce-liability-and-to-save-taxes/
If I lived in a state that considered my house 100% asset protected, I would have purchased a huge house. I don’t, and have chosen a house/mortgage that is about 80% of my annual pay. Less furniture, less decorating, less maintenance, less TAXES, less keeping up with the Joneses, and lower utilities; for me, this has been liberating on a day-to-day basis as compared to previous arrangements. I don’t feel that I’m skimping in a newer 5K sq ft house in a not-so-cheap location. If I had to do it again, I would have bought less and retired earlier, or at least gotten myself to a financial place to retire earlier, but I still love what I do and want to work for the love of work, not because I felt I have to keep up with the Joneses or live in a mansion. Asset protection, especially for a surgeon is a great excuse to buy a very expensive home.
if you live in a state with very good homestead laws….
Can you explain more about state homestead laws?
How screwed up is it that we live in a country where the government dictates the “ideal lifestyle” through tax breaks? Why should married people get taxed less? Why is home ownership so valued…a landlord who rents out a property gets a big tax break (while the lease-holder usually ends up paying for property taxes). If someone chooses to have kids, why are they suddenly responsible for lower taxes (even though they are now utilizing more of the government-funded services)?
I just don’t understand why our tax code is so blatantly designed to favor certain lifestyle choices…it isn’t of particular economic benefit to the country, it’s just a bizarre moral imposition.
It especially sucks when your choices don’t align with the government’s dictates. But yea, it’s pretty weird. But these are the rules, better to know them than not know them.
so if my tax return says that my effective tax rate is 41% federal and 8% state that doesn’t mean that i’m paying 50% in taxes? i don’t do my own taxes and don’t have any dependents or property to write off.
I’m pretty impressed that your effective federal tax rate is higher than the highest marginal tax bracket (39.6%). Are you counting payroll taxes in that?
I’m looking over my tax info and that’s what my CPA has written down as my marginal and effective tax rate. Those are the actual percentage points. then i sat down and did the math looks like i paid 39% in taxes. we get a k1 income from a large medical organization. i made about 380k, 50k went into tax deferred accounts and i paid about 130k.
your posts are incredible by the way, very helpful. i can’t get enough reading about them. this tax stuff is still confusing but your various posts help a lot.
So you made $380K, and paid $130K. That works out to 34.2%. High, but not ridiculous, and certainly not 50%.
You may need a new CPA. The percentage written down is off.
I am a J1 visa physician trainee from India in my fifth and final year of training. In the process of filing tax returns I came across the 1040NR form for Non-resident aliens. This non-resident status appears to apply for J1 visa holders for their entire duration of training in the USA.
Is J1 visa holding physician trainee considered a “Nonstudent J1 holder?”
If so does one file 1040NR only for the first two years and then 1040 regular form
OR
Continue filing 1040NR for the entire duration of the J1 visa status.
Thanks,
Gaurav.
A non-resident must file a 1040NR according to page 3 of the 1040NR instructions if you were “engaged in a trade or business.” Now, whether a resident/fellow is a student or “engaged in a trade or business”, I’m not sure. To be honest, I’m not that well versed in immigration law. Wikipedia says this:
Taxation of income earned by J-1 visitors varies according to the specific category the visitor was admitted under; the visitor’s country of origin; and the duration of the visitor’s stay in the United States. J-1 visa holders are exempt from paying Federal Insurance Contributions Act (FICA) taxes (for Social Security and Medicare) when they are nonresident aliens for tax purposes, which is usually the first five calendar years if they are categorized as students, or the first two calendar years if they are categorized as teachers or trainees. However, they are subjected to other applicable federal, state, and local taxes. People on J-1 filing their federal income taxes who have been in the United States for five years or fewer (for students) or two years or fewer (for teachers and trainees) need to use the non-resident 1040NR or 1040NR-EZ tax forms. Some J-1 visa holders may be eligible for certain tax treaty provisions based on their country of origin.
Federal 35% my state 8.5 %. And medical as 7+%. Total. 50.5%. If in highest tax bracket is high paying specialty in NY you pay > 50%.
I am 22 and looking to take my CAT soon for admittance into med school. I am trying to get the jump on possible deductions for the future, as my goal is to become a general practitioner. I know they average 170k-220k. Is there anything I should be setting up or maintaining now to help minimize inevitable taxes?
I would prefer not to be a slave to student loans for a decade, especially since they are not tax deductible. Suggestions? I absolutely adore your blog, it is so educating, and preparing me for a more realistic future!
Go to the cheapest med school you can get into. Then live as cheaply as you can to minimize your debt. You can worry about deductions later.
Suppose you are a 2 doctor MD group (LLC) and your total revenue is $1 Million. The office overhead is 50%. You paint the office and have to put in a handicap bathroom at a price of $30000. You also have to spend $20000 on new computers to support new software for EHR and ICD10 conversion.
That leaves $400000 left. Your business partner and you decide to take a salary of $180000 each ($360000 total out of business).
This leaves $40000 in the business which you need to leave to pay January’s expenses since Jan is a slow collection month since most patients have not met their deductibles. And MDs do not have the same line of credit from banks as they did prior to 2007 so they cannot take out all of the money from the business.
The computers and the renovation cannot be deducted that year but instead is depreciated over several years
This means each doctor must pay taxes of $250000 even though they only received out $180000. At 33% tax rate each doctor will pay $82500 on a “pay” of $180000
Tough situation, I’ll agree, but it’s still unclear to me why said doctors have a 46% effective tax rate. Even paying $82,500 on $250K (33%) is a ridiculously high tax rate in my view. Do those doctors have zero deductions? High tax state? At any rate, that $70K eventually becomes a deduction to them, so the taxes paid on that income will come back to them eventually.