Spend $25,000 to Save $9,000?

I finally got my act together and sat with my account for tax stuff! And MAN does that always feel so good – regardless of the outcomes :) Just to knock something off your brain and free up more space, ya know? Hate those nagging thoughts that continually linger…

And just like all years, I am always shocked that I don’t owe as much as I always think I will in the end :) Mainly out of ignorance, I suppose, but regardless better to be shocked with positive news than with negative! Especially when dealing with money owed to someone. (and/or the gov’t)

Which brings us to today’s (not really) dilemma in which you tell me what YOU’D do in my shoes. I already know what I’ll be doing here, but want to blog about it today for those of you who don’t know this stuff is an option, and what the pros and cons are with it.

Here’s a snippet of what my accountant sent me:

I am working on your return and I know you requested info on SEP contributions this year. The maximum contribution you can make is $25,628. If you make the contribution you will owe $3,431 to IRS and $647 to your state. If you make no SEP contribution you will owe $9,978 to IRS and $3,195 to to your state.

So in a nutshell if I invest $25 Grand into my SEP IRA retirement account right now (the max allowed based on my biz profit from 2012), I can cut out a TON of taxes owed to the government. Specifically $9,095 worth! And that’s *outside* of my $8,000 quarterly payments – now increased to $8,600 too.

The pros to doing this:

  1. If I say yes, it forces me to save a ton more for retirement!
  2. I don’t have to pay the gov’t over $9,000 for *nothing* in return.

The cons to doing this:

  1. That’s a $hit ton of money!!! All of which took a lot of work to earn…
  2. That’s a $hit ton of money!!! ;)

Now you can probably guess which avenue we’ll be taking if you’ve been reading this blog for more than a week (hint: I haven’t missed a max SEP deposit in three years), but it doesn’t mean that I don’t stop to consider everything again just to make sure I’m making the right move for us (our family) at this point in time. And I think that’s an important takeaway here: what was important one year ago when deciding that, yes, I’ll be maxing out our SEP again this year, is not always the same case when you fast forward into one more year of life lived.

But if there is one thing I do my damnedest to complete year and and year out, at least when it comes to finances, it’s ALWAYS maxing out the most rewards for the cheapest bucks. Or however that saying goes… Basically I have a hard time saying no to a good deal :) So every year I scheme for ways to complete these missions no matter what’s going on in our financial lives, and so far so good, fortunately. (And before the SEP it was the 401(k)! Something most of us have access to.)

So the plan for being able to invest so much money this year? Strategic saving and a ton of hustling. As well as offloading properties I no longer wanted any more (remember that idea of trading an online one for a real one? well we decided it was better to put into retirement than in areas I have zero experience in ;)) We’ve had to stay on our game with all the changes that popped up last year like babies who eat thousands of dollars and changes to my wife’s earning power, but no one ever said this stuff was easy… And we only start all over again this year!

What would you do in a situation like this? Or maybe you ARE in the situation? Whether with an SEP, 401(k), or even Traditional IRA, there are a slew of different tools out there we can take advantage of to help lower our taxes. But it all comes down to some sexy ass planning and an unwillingness to give up no matter how much we’re tempted to stray… Like those dang sirens back in the pirate ship days, we must avert our eyes!

(Photo by stockmonkeys.com)

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  1. My Financial Independence Journey March 19, 2013 at 5:43 AM

    When it comes to tax deferred savings my favorite is the 401k up to the match. I don’t like passing up free money. Afterwards I would go with a traditional IRA. But you always have to be cognizant of the fact that if you’re using tax deferred accounts, you’re locking money away for years. So that takes the money off the table for things like starting a business or early retirement.

    1. J. Money March 19, 2013 at 9:25 PM

      True that. 401(k)s are dope. I once had 100% matching of up to 100% that I put in up to the legal limit (like, I literally put in $16,500 and my employer gave me $16,500 back) – it was insane. And even more so that I was one of only like TWO people who took advantage of it!

      1. K March 25, 2013 at 2:37 PM

        uh where is this? and are they hiring? LOL

        1. J. Money March 27, 2013 at 9:37 AM

          nope! they went out of business! ;)

  2. Ken March 19, 2013 at 6:00 AM

    I noticed last year (for 2011’s return) that I was about to enter the phase-out range for the student loan deduction, and that bothered me, so I began doing research on other things I can do to lower my tax bill.

    In no small part due to your blog, I opened up a Traditional IRA for the 2012 tax year and went beyond the 401(k) withholding needed to get my employer match. For a while, I even considered the pros/cons of buying instead of renting a place (but I don’t have the savings yet to pull that off).

    I expect I’ll do all the same things for the 2013 tax year, too.

    1. J. Money March 19, 2013 at 9:26 PM

      Good for you! Empowering yourself with knowledge is smart my friend, that makes me happy to hear :)

  3. @pfinMario March 19, 2013 at 6:32 AM

    Ah, your headline was misleading. I thought you were going to say your accountant wanted you to incur extra business expenses or give that amount to charity. You’re really *investing* $25,000. Of course, this doesn’t change the fact that yesterday there were $25,000 that you could put your hands on that aren’t there today. Still, I agree that you made the right decision.

    Besides everything that you said, you also get the benefit of getting to tell your friends that you just made an investment with an immediate 36% return (probably because you’re so good at investing)

    1. J. Money March 19, 2013 at 9:26 PM

      Hahah… never though of it like that :)

  4. Lance @ Money Life and More March 19, 2013 at 7:20 AM

    As long as you have saved that money throughout the year knowing you were going to do that I say go for it! Especially if you aren’t saving in any other way for retirement. I plan on looking into my options for self employed retirement plans but I know I have to be careful because I also have access to a 401(k) and IRAs. Good thing I have a very good friend who is an awesome attorney AND CPA… best of both worlds :)

  5. Greg@ClubThrifty March 19, 2013 at 7:28 AM

    I would have to agree with Lance. As long as you have saved enough with this plan in mind to begin with, then you should go for it. Since you are bathing in cash, I’m guessing you could swing it. ;)

  6. ashley March 19, 2013 at 7:37 AM

    I’m so glad to hear you say this. While not as large as your amounts – we owed the gov’t 1,800. We both have retirements with max, but not much else. We noticed if we put 5,000 into an IRA we would only have to pay 800. (We could afford 5,000, not 10,000)

    While some family members (my mother) told me it was down right stupid to *throw away* 5,000, I saw it as an immediate 20% return and a forced retirement vehicle. We still have a 9 month emergency fund left, and pretty secure jobs.

    Anyway, THANK YOU for sharing. I know I made the right decision, but it’s nice to hear that others do it too!

    1. J. Money March 19, 2013 at 9:36 PM

      Heck yeah! Way to go! Gotta take advantage of these tools at our fingertips :) I’m glad you enjoyed the post!

    2. JMK March 23, 2013 at 8:39 AM

      I’m stunned that your mother things saving for retirement is throwing your money away. Makes me wonder what state her retirement funds are in? Or, perhaps in her generation she has the luxury of a defined benefit pension plan and additional personal retirement savings are/were not essential. I have this situation with my inlaws. He worked for the same company from the time he left school until he retired (who does that anymore?) Now they live comfortably on his pension, and so sometimes they struggle to understand conversations between their kids/kids spouses about various retirement savings vehicles. They just never had to understand all the options or make investment decisions. Everything was done on their behalf. To them all income that landed in their account was theirs to spend on living. Retirement savings were never a line item on their budget.

      1. J. Money March 23, 2013 at 11:39 AM

        Def. different times for sure.. I was just telling a buddy last night that he was a rarity having worked for a company for 5 years straight! That’s like a record these days :)

  7. Sense March 19, 2013 at 7:58 AM

    If I had enough spare money laying around, I’d DO IT! Of course! You aren’t actually spending it, just saving it for later. :) Love it!

  8. @pfinMario March 19, 2013 at 8:18 AM

    Ha ha. Yeah, I got fooled too :)

  9. Johnny Moneyseed March 19, 2013 at 8:39 AM

    You have to imagine that at least some portion of that $25k is completely free money that you would otherwise lose. I’ll take free money any day, even if it costs me a little bit :)

    1. J. Money March 19, 2013 at 9:38 PM

      It’s kinda like what they say in business – it takes money to make money! Every time we interview marketers for our projects, the first thing we say is “if you make our company tons of money, we’ll pay you tons of money in return” :) Only problem is people can rarely figure out how to make tons of money, haha… or else they’d be doing it themselves!

  10. Liz March 19, 2013 at 9:20 AM

    One question though – wouldn’t it have been smarter for you to invest this throughout the year (maybe 2,000/month and put up the balance at tax time) so that you could invest at different points in the market? Right now you’d be putting all that money in when the market is high (not saying it won’t go up, but had that money been invested periodically throughout the last year you would have already seen a return).

    1. @pfinMario March 19, 2013 at 10:51 AM

      To my ears, that sounds a lot like trying to time the market…

      1. Jacque March 19, 2013 at 11:30 AM

        To my ears, it sounds more like dollar cost averaging.

        1. Maegan March 19, 2013 at 12:16 PM

          Agreed. Also, Liz’s comment assumes that J$ plans to go long in stocks with a buy and hold strategy and/or the general belief that stocks will generate an adequately positive return over whatever time period is being considered. However, let’s not forget that he could also hold that money in a cash-equivalent fund if he expects a stock market correction or even just hold it in the cash-equivalent fund as a set-aside for future dollar cost averaging (by moving set amounts from the cash-equivalent fund to the stock fund, all within the SEP) over the upcoming year. That way, he is maxing out his contributions for 2012, yet maintaining the flexibility that dumping a lump sum in the stock market will sacrifice.

    2. Leigh March 19, 2013 at 12:04 PM

      Theoretically yes, but it sounds like he doesn’t know how much he can contribute until his accountant calculates his exact income for the year. I didn’t make my Roth IRA contribution until I knew my exact income for the year either.

      1. J. Money March 19, 2013 at 9:41 PM

        Love these comments!! And Leigh hit it on the head – I never know what my final number will be until the end. Though realistically I can guesstimate within a few thousand dollars based on how business is going throughout the year. And then contribute, say, one thousand a month to be conservative until I know what the real number is in the end – but I tend to just like doing it in one big chunk and being done with it. Even if I lose some in the end due to market swings,etc.

        But yes – in a perfect world I’d rather it be done slowly over time automatically for me :) I’m a big fan of dollar cost averaging!

  11. Kevin @ RewardBoost March 19, 2013 at 9:43 AM

    It sounds like it makes sense for you, but I personally wouldn’t be able to do it. I don’t have a bunch of money saved up in cash, so it would be more valuable to me to have instant access to a big lump sum. Once I had saved that amount for a year, then I would feel more comfortable putting that much in a restricted access retirement account.

  12. Carrie M March 19, 2013 at 9:45 AM

    My husband and I are thinking of contributing $10k to a 529 which would cause us to get a refund instead of having to owe the IRS. We’ve been talking for a while now about opening a 529 account for one or both of us to then turn over to our kids when they are born, so we think this is a good chance to start it off big and reap the tax credit rewards. I’m wondering if these late contributions to your SEP, an IRA, or 529 have a cutoff date other than the tax filing deadline? I had assumed that the cutoff dates were Dec 31st but it seems thats not true based on your SEP contribution. Any advice for us 529 newbies?

    1. Steve March 19, 2013 at 2:22 PM

      Carrie — are you sure? Most 529’s that I’m aware of act like “Roths” in that there isn’t a tax deduction but you get the money tax free when used on college education funs. Some states (not the IRS) may provide a tax credit when you invest but not the IRS that I’m aware of.

      For IRA’s etc. you have until the tax deadline (e.g. April 15th) to make an investment/deduction that could be applied to the previous tax year.

      1. J. Money March 19, 2013 at 9:44 PM

        Yup – April 15th is the cutoff for most of them (if not all?) as Steve mentioned. As for 539 stuff, we just started ours a few months ago and put in the max amount we were able to get a tax credit for *per our state*. But you’re right that you may be able to have both parents create one to double the offsets – just depends on the state and plan you have. There’s def. a good possibility of savings there though!

  13. John S @ Frugal Rules March 19, 2013 at 9:59 AM

    Like Lance and Greg said, if you’ve got the cash saved for it…which I believe you do, then I’d totally go for it. Normally I would not, but if it keeps more money away from the feds and more in my IRA then it’s a no brainer for me. We weren’t in this situation last year, but all signs are pointing to it being so for this year. :)

  14. MainlineMom March 19, 2013 at 10:14 AM

    Seems like a no-brainer to me, UNLESS you know you’re going to need that 25K for something super important in the near term. For example we had always contributed the max allowable to our 401K and Roth IRAs but last year we decided we are going to adopt a kid which costs about 30-35K. So we cut back our contribution to just the max that our employers match. It’s a short term cut back just to save a little extra cash right now.

    Interestingly I’m handling my grandparents’ finances now and seeing the flip side of this…huge taxes due when you take out of your tax deferred IRA. It makes the ROTH IRA even more attractive to me.

    1. J. Money March 19, 2013 at 9:46 PM

      Awww so awesome you’re adopting!! And so freakin’ expensive, jeez :( If you ever want to guest post about it do let me know! I’ve been fascinated by that process for years and so far no one’s taken me up on my guest post offer :)

      1. MainlineMom March 20, 2013 at 11:53 AM

        Oh really? Well I probably could do that…although it might be more helpful when we are through the process and have totaled the final costs! There’s so much information about paying for adoption out there and I would love more people (like your audience!) to hear it. The cost deters a lot of good intentioned people, and it shouldn’t!

        1. J. Money March 20, 2013 at 7:51 PM

          Good point! Or we can do a two part series? One now with what you know, and one later once it’s all done and happy? Maybe you’ll get some good tips from my readers who have gone through the process too? Whatever you want though :) Either way, i want pictures once you have your cute little bundle!!!

  15. Grayson @ Debt RoundUp March 19, 2013 at 10:17 AM

    I have to agree with everyone here. Investing it is the way to go as long as you have the available cash and it doesn’t put you in a bad spot. Better to pay yourself then to give it to the government for nothing in return. Wise decision.

  16. michael March 19, 2013 at 10:20 AM

    As a long time reader of this blog I know that you won’t take this option. My business accountant once told me that even after paying the taxes and 10% penalty for early withdrawal of IRA funds that because I am in a higher tax bracket that I could always make the deposit, wait until after Arpil 15th, Withdrawal the money and still have a positive return on my investment because of my tax bracket savings. It seems silly, but he showed me the numbers.

    1. J. Money March 19, 2013 at 9:48 PM

      Haha… you’re right that I wouldn’t like the option myself, but if it’s all accurate and you think it’s a good plan, by all means do your thing :) Reminds me of a friend who would throw in a ton into his 401k to get the matching and then take out a loan to himself with it with double the money in there :) Which he decided to not pay back because even w/ penalties and what not it only took out like 40% of the 100% matches he got in the long run… Too risky for my blood, but for others I guess it makes sense.

  17. Zach @ The True Generalist March 19, 2013 at 11:02 AM

    I’m not totally up on my SEP IRA tax benefits but won’t you have to pay taxes on that later on when you remove it for retirement? So this really just limits the taxes you pay now by deferring payment til retirement, right?

    1. J. Money March 19, 2013 at 9:49 PM

      Haha yeah – guess that’s true if you look at it that way :) But on the other hand more money should grow into even more over time too by the time that happens, eh? and perhaps I’ll be in a smaller tax bracket or something (hah!).

  18. Jacque March 19, 2013 at 11:32 AM

    We are in a mini scenario of what you were facing. After reading the horror stories about removing PMI from a mortgage a few weeks ago, we reevaluated our choice to only put 15% down on our first house and keep a bit of a cash cushion (we had been on the fence either way). Looking at the numbers, we will spend $9,000 to save $2400 on PMI over the next 2-3 years.

    1. J. Money March 19, 2013 at 9:50 PM

      Awesome! A nice chunk of change saved :)

  19. Nick @ ayoungpro.com March 19, 2013 at 12:20 PM

    I would definitely be making a contribution to the SEP. I think you are making a wise decision. I love how you don’t just put everything on autopilot and forget about it though. You are right, situations can change from year to year.

    1. J. Money March 19, 2013 at 9:52 PM

      I only put boring small bills on autopilot – the rest is manually handled because a) things change like you and I both mentioned and b) I need to FEEL the pain/happiness of shooting my money places. When it’s on autopilot you don’t feel anything which can be bad as well as good in my opinion. Like with taxes from a 9-5. It’s all automatically taken out but you don’t really *understand it* as much as when you have to pay quarterly and physically write out the checks every 3 months – it’s brutal! Haha… but gives you a real sense of the situation.

  20. Tony@WeOnlyDoThisOnce March 19, 2013 at 12:58 PM

    Great breakdown of pros/cons. Interesting point about where exactly that money goes.

  21. Retire By 40 March 19, 2013 at 1:12 PM

    Wow, that’s a lot of money. It will be great to increase your retirement portfolio like that every year though. I’m going to skip this year because I’m still not making much money. Next year, I’ll try to contribute more.

  22. Craig March 19, 2013 at 1:50 PM

    In the lower tax brackets, Long term capital gains and qualified dividends are taxed @ 0%!
    It looked like this was going to go away, but the final? updates made them permanent. I know to keep these things in mind when making investment decisions. I live in a state (TN) that doesn’t tax capital gains at all, so that makes them even more attractive.

  23. Jacob Erickson March 19, 2013 at 2:54 PM

    As long as you can afford the $25k then what you are doing is a no brainer. I love the idea of having to give $9k less to the goverment and increasing your retirement account by $25k. Sounds like a win-win to me!

  24. Jacob @ iHeartBudgets March 19, 2013 at 3:31 PM

    Man, it’s be hard for me to commit that money, I’ll be honest. But probably because I’m on a tight budget ATM. With your monster cash savings account, I think you made the right decision, as you’ve got a great EF in place. Plus, the tax savings is a nice perk.

    Now, if you were spending $25k on a new *business* car or something for a $9k deduction, I’d probably take my shoe off and throw it at you! :)

    1. J. Money March 19, 2013 at 9:53 PM

      Haha… I’ll have to alert you when that’s happening then so you can avert your eyes :)

  25. Edward Antrobus March 19, 2013 at 4:16 PM

    Man, if I had 25 large to dump in my IRA, I don’t think I’d need to invest money in it ever again. By the time I got to retirement, that would be close to half a mill, which should cover my life expectancy.

    1. J. Money March 19, 2013 at 9:54 PM

      Well, in theory anyways :) I’m just pumping and dumping in there to make triple-sure there’s enough to live on later when I’m old and gray!

  26. Matt @ My Coin Blog March 19, 2013 at 4:41 PM

    That’s a no-brainer! I’m behind you 100% on that one.

  27. stephanie March 19, 2013 at 8:52 PM

    @Jacob-that made me laugh! I could just see a big ol’ shoe hurling through the air and zoinking JMoney. Honestly, I like being one of the last ones on in the evening and reading the comments!

    JMoney, I would say, if I were the one with the 25G, I would make the wisest decision possible, and yours sounds well-thought-out. I highly recommend it, as I know you are not going to be rash with this decision. And HUGE congrats for having that 25G available – that’s an awfully large sum to me, and I admire you for having the committment (read: cojones) to have saved it. Incredible!

  28. J. Money March 19, 2013 at 9:55 PM

    I like that you read all the comments :) That’s the best part of this blog! usually much more entertaining than my words, haha… and many more minds giving opinions too, which is great.

  29. mobilechad March 19, 2013 at 10:34 PM

    I had a somewhat related decision to make:
    I’m leaving my full time job in April and taking some time to travel and explore building up a bunch of independent income streams (I’ve got a few now so this isn’t as crazy as it sounds). I had to decide whether or not I wanted to fully fund my 401k this year or not. It was a tough few months, but I bumped my 401k withholding up to 75% and will max out the 401k before I leave the job. Having almost no income for 4 months has helped me figure out how things are going to work post-job, so it’s been a nice side benefit.

    1. J. Money March 20, 2013 at 7:53 PM

      YES! Smart!!! I did the same for 3-4 months (had it at 90% cuz we got 100% matching!) and boy do you learn a lot, you’re right. And worst case you can always tap it later and pay all the crazy fees too in a worst WORST case scenario, you know? Good for you on maxing that thing out… Would love to hear more about your projects too some time – always looking for goods ones to invest in myself :)

  30. Jose March 20, 2013 at 8:00 AM

    That’s actually $12,993 you would have to pay the government if you include the state tax. Look at it this way, If you max out your SEP you’ll get an immediate return of 50.7 percent on that investment (the amount you would NOT have to pay in taxes). Even though it is a shit ton of money I would absolutely do it if I could afford it!

    1. J. Money March 20, 2013 at 7:54 PM

      Damn, you’re right! Cuz I’m paying with money already taxed! But isn’t that why I’m getting the break actually? Cuz I was already taxed on it? So maybe it is only $9k? (I suck at this stuff)

  31. Shafi March 20, 2013 at 3:31 PM

    Your title says:
    Spend $25,000 to Save $9,000?

    If I understood the article correctly, you are not spending anything. You are saving $25,000 to save $9,000. The 25G goes to your retirement account and is not sitting in savings and getting rot on a monthly basis.

    1. Nic March 20, 2013 at 4:50 PM

      I second this opinion….what you’re actually doing is saving $25k to save $9k….or Simplified even further “To Save or Not to Save $16k”.

  32. J. Money March 20, 2013 at 7:55 PM

    Haha yes, you two are correct. Or even more technically: I’m investing money to save money :)

  33. Tony March 21, 2013 at 9:09 PM

    First year facing a similar situation but not to the extent of $25,000. I had to put $10,000 into our traditional IRA’s or pay the IRS an extra $2,000. Invested it and made $600 in the 2 months it’s been invested.

  34. Pauline March 22, 2013 at 2:29 PM

    I would certainly invest the money. I have a similar case since I sold a property and can either buy another one within two years or give 30% of profit to the state, so far, I am going with another property!

  35. J. Money March 23, 2013 at 11:38 AM

    Interesting! I feel like we have something here in the States like that too – a “like purchase” or something? I’d much rather re-invest the money than pay 30% – yikes! Hope you find a new one you like a lot :)

  36. Mary Anne @ BillGuard March 28, 2013 at 4:22 PM

    In terms of getting a “return” on your savings — you’re getting a so-called “guaranteed” $9,000 “return” by following your accountant’s advice, which translates into an almost 33 percent guaranteed benefit. I’d say that’s a very strong reason to heed his advice and put that money into a SEP-IRA. (And for the rest of the readers, it’s a great reason to get an accountant. Yes, hiring a CPA costs money, but when they can find $9,000 in tax savings for you, they’re worth every dime!)

    1. J. Money March 29, 2013 at 8:11 PM

      Yup! CPAs can save you a TON – much more than you pay them especially early on in the working together.