Tax evasion vs. tax avoidance: What's the difference and how can you save from paying Uncle Sam too much in 2024?

Vishesh Raisinghani
Tax evasion vs. tax avoidance: What's the difference and how can you save from paying Uncle Sam too much in 2024?
Tax evasion vs. tax avoidance: What's the difference and how can you save from paying Uncle Sam too much in 2024?

People sometimes use the terms “tax avoidance” and “tax evasion” interchangeably, but in the eyes of experts and the government there’s one big difference between the two: legality.

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Simply put, tax avoidance involves legal strategies that can minimize your tax bill, whereas tax evasion is a failure to pay or a deliberate underpayment of taxes. Such actions have previously landed high-profile individuals such as Wesley Snipes in prison.

The Internal Revenue Service has clarified this difference by saying: “Tax evasion is illegal … tax avoidance is perfectly legal.”

With that in mind, here are the top five legal ways to avoid (not evade) taxes in 2024.

1. Retirement planning

Retirement planning is, perhaps, the most well-known way to minimize taxes. You can open an individual retirement account (IRA) through a financial institution like a bank or insurance company to make tax-deferred investments. You might also have access to employer-sponsored, tax-advantaged accounts such as the traditional 401(k) and Roth 401(k). Individuals can contribute up to $23,000 in 401(k) accounts in 2024. If you are aged 50 or over, you can make an additional catch-up contribution of $7,500.

These accounts are popular and relatively simple. However, a tax planning expert could help you dig deeper and uncover the benefits of other retirement planning tools, such as a Health Savings Account. These accounts have a triple tax advantage by reducing taxable income, enabling tax-free withdrawals for qualified medical expenses and allowing investment returns to grow tax-free.

2. Investing

The government takes a carrots-and-sticks approach to encourage investments into the national economy. That makes investing a great way to minimize taxes while building wealth.

On the carrots side, your tax liability for long-term capital gains could be as low as 0%, depending on your income. Investors can also use some of their losses to offset their capital gains and minimize their taxes every year. This strategy is called tax-loss harvesting.

On the sticks side, short-term capital gains tax can be between 10% to 37%, depending on your income. Effectively, the system is designed to encourage holding investments for longer periods of time.

However, duration isn’t the only factor. An investment adviser could help you implement a sophisticated investment strategy that minimizes taxes.

Read more: Find out how to save up to $820 annually on car insurance and get the best rates possible

3. Real estate

Investing in real estate is also encouraged by the tax system. For instance, Section 1031 of the Internal Revenue Code allows real estate investors to defer taxes on capital gains by exchanging one investment property for another.

Investors can also enjoy certain tax benefits if they invest in locations that the government has deemed “Opportunity Zones.” The tax benefits of investing in these zones — which is meant to encourage investment in low-income and undercapitalized communities — increase the longer the investment is held.

4. Relocating

Moving to another state or country is probably the most straightforward way to minimize taxes. For instance, Texas has no state income tax, while California’s top marginal tax rate could be as high as 13.3%.

An analysis by the Tax Foundation found a correlation between state migration patterns and individual tax policies from 2020 to 2021.

Put simply, moving to save taxes isn’t uncommon and could be a potential part of your tax avoidance strategy.

5. Owning a business

Owning a business has several tax advantages. The most well-known advantages are tax deductions for business expenses such as office supplies and vehicles. But the list also includes niche advantages related to the way capital gains are treated when you sell shares of a business, the way you pay yourself as an owner or the way you pay your employees.

Altogether, owning a business can be fairly tax-efficient if you work with an expert to craft a plan.

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This article provides information only and should not be construed as advice. It is provided without warranty of any kind.

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