I Lied About Being Debt Free And Why I Am Happy About It
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One of my favorite posts on this website recalls the time when I finally paid off my mortgage and finally became debt-free and owned, “Every Blade of Grass.”
What made me especially proud of this moment was that it was just four years removed from me being at my lowest place in life, emotionally and financially.
From that rubble, I picked myself up and charted a new course that took me to the financial and emotional highs that I am currently at.
Rapidly paying off debt, one after the other, was truly gratifying and created a new mindset for me, one that was highly debt averse.
So it might come as a shock that this post is actually a celebration of me finding out that I am indeed in debt again.
Well, unlike most people this time of year who celebrate the fact that they are getting a refund from the IRS, I actually am pleased I owe Uncle Sam some serious coin.
Granted although receiving money is typically a good thing, I feel one of the few exceptions is related to the IRS refund check.
Some people view the tax refund check as “bonus money,” and often use this windfall for ill-advised splurges.
But if you analyze the reason why you are getting the refund in the first place you will come to realize that it is essentially your hard-earned money just being returned back to you.
You basically just sent the government too much money in the first place, having overpaid your taxes.
This refund money, unlike my favorite kind of money, was completely lazy.
It did not work tirelessly for you to earn even more money.
No, this IRS refund money did not contribute at all to the “Capital Snowball,” phenomenon.
Instead this “money bum” just took an entire year off to chill at the beach while you slaved away at your 9 to 5.
In the worst case scenario you might be considered even more financially behind than when you started.
Although the average household tax refund hovers around $3k, it is not uncommon for high income individuals, such as physicians, to see even greater refund amounts.
Before I knew how the game was played, I was thrilled at getting IRS refund checks of $10k or more (which sadly happened on more than one occasion).
I essentially was giving Uncle Sam a 5 figure interest free loan over the course of a year.
Even worse was that, during this time, I was still in debt and paying interest on my own loans.
The whole situation was absolutely comical.
Here I was borrowing money and paying someone interest for it and then immediately turning around and lending that money for free to a 3rd party which, in this case, was good ol’ Uncle Sam.
I remember during this time that some of my student loan interest rates approached the 9.5% range.
By overpaying my taxes by $10k instead of channeling that money to pay off this loan, for example, I garnered an extra $950 in interest charges (granted technically the true amount would have been less as the excess payment to the IRS was spread out over 12 months).
This brings me full circle to my post title of why I am actually happy to find out I am in debt.
You see, after I learned how the game was played, I decided that turnabout was fair play.
By preparing my taxes and finding out that I have underpaid my share, I have beaten Uncle Sam at his own game.
Even though I have 0 tax exemption status listed at my W2 job (have the maximum amount for taxes withheld), because I have created multiple passive income streams, I now find myself owing Uncle Sam in the low 5 figure range.
[I had originally written this post prior to receiving my K-1 statements from my real estate syndication investments.
Prior to receiving these K-1s my Tax Software (H&R Block) had me owing the IRS a little over $13.4k.
After finally receiving the K-1s (last week of March), inputting this data into my tax software revealed a pleasant surprise and highlights the beauty of favorable tax code laws in the treatment of real estate investments:
Although I received over $20k in distributions from my 37th Parallel Property investments, because of favorable tax codes allowing depreciation, I was able to reduce what I owed to $6600 (saving me $6.8k).]
It is now Uncle Sam that has in essence given me an interest free loan over the year.
With smart investments I could parlay that into an extra $1k or so.
Sure it is not an earth shattering amount but it sure does beat the alternative.
This scenario not only eliminates that lazy “beach bum” money of the past and puts him right to work, but in the process convinces even more of his friends to join and work for me for free.
Just call me your modern day Tom Sawyer of finance.
Of course when you play this game with the government you want to make sure you are aware of all the rules so that you do not get hit with penalties which could derail this plan completely.
The IRS can, and does, penalize you if they find you have severely underpaid your taxes through the year.
There are certain thresholds in place that will trigger these penalties and it is up to you to be cognizant of them so that you do not set them off.
Please check with current guidelines as this can change from tax year to tax year but some of the following rules to avoid underpayment penalties have stood the test of time:
- You owe the IRS less than $1k
- You paid at least 90% of your total tax amount due OR 100% (110% if classified as a high earner) of the previous years tax amount (whichever amount is smaller).
- For 2018 there is a one time exception where you can underpay by 15% rather than the 10% before penalties are triggered (this took into consideration the confusion created by the new tax code changes)
Due to the amount of federal income tax I pay each year, I have quite a considerable buffer before any threshold applies to me (based on 10% underpayment threshold I would have to owe almost $30k before being penalized)
I do envision sometime in the future that my current tax withholding will not be enough as my side income streams hopefully continue to grow and bring with them higher tax implications.
I can then choose one of two available options:
- Make quarterly payments to the IRS on my estimated taxes OR
- Fill out a W-4 form and designating an even higher withhold amount (but ideally still owing taxes but below the underpayment threshold amount).
The second option sounds more appealing to me and likely the one I go with.
So there you have my rationale for being happy finding out I am in debt.
Don’t worry my debt averse nature is about to kick in and, with the exception of next year’s tax return, I will soon reclaim my debt-free designation.
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