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Visit thevoluntarylife.com to connect with the show and hear all past episodes. Here's your host, Jake. Hi, it's Jake here. Welcome to The Voluntary Life. This is part two of an interview with Joshua Sheets, who is the host of the Radical Personal Finance podcast. Joshua and I are discussing how to think about tax, both for entrepreneurs and employees, and for anyone interested in gaining more financial freedom.

In the first part of the interview, we talked mainly about employees. And in this episode, we go on to talk about tax and entrepreneurs. So here's part two of the interview. We talked a while there about issues relating to employees and thoughts about using tax-deferred accounts as an employee.

But you did say that you had some thoughts about the tax strategy and entrepreneurs. And I wanted to give you a chance to share any thoughts that you have about that. I really appreciate what you're saying about the opportunities for entrepreneurship in terms of wealth creation. I totally agree with that.

I mean, there are definitely limits to what you can do as an employee. And although entrepreneurship is a lot scarier for some people to consider, it's the opportunity for generating wealth that has way, way more power than being an employee. But there is a question of tax too. So what are your thoughts about tax strategy for entrepreneurs?

So let's go back to the three strategies. And this is a direct way of answering it as far as the timing strategy. So we talked about deferring income or accelerating income as the first example of a timing strategy. And one strategy for employees in doing that is to be able to use retirement accounts.

But there's another concept of timing, which is deferring deductions or accelerating deductions. And this is one of the unique things that's primarily available to entrepreneurs. As an entrepreneur, you have the ability to take business deductions and to either bring them forward under limitations in each country that are different, but to bring them forward or push them out.

And this can have a substantial impact on the amount of tax that you're paying. So best example here would be something like buying advertising. You may be in a business that is going to be well-served by purchasing advertising space of some kind. Well, you can get to December. You can sit down in the beginning or middle of December and you can figure out, let's say that you know that for every dollar you spend in advertising, it has a return of $2 of profit to your company in the future because you figured out a way to satisfactorily invest the money in advertising and has an actual return.

You can sit down in December and you can look at the amount of profit that your company has for the year. And you can say, "Well, do we need to go ahead and take some of this profit out now? Or should we go ahead and expend some of this money on investing into our company?

And so, could we benefit from the deduction being available in this tax year or would we benefit from the deduction in the next tax year?" And you might find that in December, you look and you say, "We don't need the money now, but we'll go ahead and we'll just plow the profits right back into advertising because we know that means next year we're going to have a much bigger customer base and much more income." Or you might decide to do the opposite.

But the point is you can control your deductions. This is the biggest benefit of entrepreneurship is the ability to take deductions and to take some of your costs and turn them into deductions. That's a timing strategy. Now, the next two are also useful with regard to entrepreneurship. The next one is income shifting.

And in an income shifting scenario, we're trying to shift income from a high-rate taxpayer to a low-rate taxpayer. And so, there are ways where we can shift income from parents who are earning income at a high tax rate to children who are earning income at a low tax rate.

You need to be careful. In the United States, we have certain rules on tax doctrines, one of them, the assignment of income doctrine. There's also kiddie taxes and things like that. That'll vary within jurisdictions. But you can look to say, "Can I shift some of the income from the high tax rate parent to the low tax rate child?" You can also shift income between a business and you as a business owner.

And this will go back and forth both ways depending on the business entity. In the U.S., you can have a business structure that's taxed as a separate entity from the owner. And you can also have an owner taxed as the same entity as the business. And so, in some cases, depending on the type of tax that you're planning for, you'll wanna go ahead and have the tax flow through the business to the business owner.

On the flip side, in some other cases, you'll wanna go ahead and have the income taxed first at the business level, at the entity level, and then flow through to the business owner. And you can also shift income between counties, between states, and between countries. And let me go with the third one and then I'm gonna apply a bunch of these examples of 'cause the most powerful benefits is when you stack them.

And you can stack them as a business owner. The third and final strategy. So, we've got timing was the first one, income shifting was the second one, and conversion is the third one where we convert income from a high rate activity to a low rate activity. And so, there are a few different aspects of this.

One of them would be changing the structure of compensation from our business from wages, which are usually taxed at the highest rate, to dividends, which are usually taxed at a lower rate. Or by converting some type of personal expense that would generally be a non-deductible personal expense into a business expense.

And you can use the simplest, most straightforward example or the most exotic example. I'll give you an exotic example first. Let's say that I have a real passion for racing expensive race cars. And this is a real, something I really love doing. So, I'm gonna buy an expensive racing car and I'm gonna go to the track and I've got all this gear that's associated with it.

Well, if I'm a high income earner and I have a high tax rate and I'm in a high income tax rate, let's say that I expend $150,000 a year on my hobby. Well, under this scenario, I have to earn much more than $150,000 a year. Let's say that I have to earn $200,000 a year, pay $50,000 of tax to be able to spend $150,000 on my personal hobby.

The simplest thing that I would do would be to convert that personal hobby into a business. Now, you have to do this appropriately and you have to run it as a business. As long as you're running any business like a business, and there'll be rules that'll vary in different countries, but in the US, that's the key thing.

You have to run it in a business-like manner. Then you can convert all or the majority of those expenses into business expenses. So, if I'm running a racing team as a profit-seeking enterprise, now the cost of the racing car, instead of it being a personal hobby that I'm out running just out of my own personal checkbook, becomes simply equipment for the racing team.

Now, my trips, instead of being personally paid trips to the racetrack, become a key component of the business expense. Now, the mechanic, instead of my having to hire the mechanic out of my personal pocketbook, that mechanic's wages become a business expense. Now, if I want to go ahead and if I make money on my racing, which hopefully I can do that, and there are many ways to do that, but I might even make money on my racing and I might turn that hobby into a business.

So, that's kind of the rich boy toy perspective, but that's exactly what wealthy people throughout the world do, is they always do something out of their business entity. Now, you need to be very careful to separate personal enjoyment and personal expenses from business expenses. If you're going to take the family on a personal trip in your private airplane, that must not be deducted as a business expense.

But if you're taking a business trip in your private airplane, that is a business expense. That's at the rich boy or rich girl level. What about at the simpler level? Well, I run a podcast. And so, what that means is I have to invest in a certain amount of business equipment.

So, I have a microphone, I have a computer, I have a certain amount of business equipment. I enjoy traveling and I like going to conferences. Well, what I do is I go to a conference and I take my podcast equipment and I record interviews while I'm there at that conference.

And so, if I come over to London and there's some fascinating, well, maybe it's some fascinating Bitcoin conference and I'm going to go and interview the global leaders of Bitcoin and I'm going to be there in London, I've now turned that trip into a business deduction. There are a number of careful rules that I need to follow.

But as long as I follow the rules, I can convert a certain amount of those personal expenses into a business deduction. So, that can save me, depending on my tax bracket, we've established that there's a 15% employment tax rate. And if I'm in a 20% personal income tax rate, that can be a savings of say 35%.

And if you expand this out and you think about the fact, I mean, did Peter Jackson, when he's filming Lord of the Rings in New Zealand, did he pay for all of his travel expenses to New Zealand out of his personal pocketbook or out of his movie production company pocketbook?

Those are all business expenses. But did he have no fun filming that movie? Of course he had fun. And that's the power of entrepreneurship because when you start to stack these things together, and let's say that in here would be just, I like to use extreme examples to illustrate the point.

But, so right now, my show is primarily crowdfunded and it's essentially crowdfunded through a Patreon campaign, which at the moment, without any advertising, I'm in the process of bringing advertisers on, but without any advertisers, it nets me after business expenses, somewhere on the range of say $1,500 a month.

Now, if we were to use something like the rule of thumb that we use in financial planning, and we were to say, how much capital would I need in the bank to be financially independent with a 4% safe withdrawal rate at $1,500 a month? 1,500 times 12 for 12 months is $18,000.

And divide that by 0.04, and we wind up with, I would need $450,000 of capital in the bank. Now, there's a big difference between having a passive portfolio of investments, paying me dividends to live on, versus having an active income. But I'm pursuing a lifestyle business that I would do even if I were fully financially independent.

So, in my mind, there's not that big of a difference because my business is location independent. It allows me to teach, which I love to do. It allows me to meet all kinds of interesting people and gives me the personal gratification of being able to help people. And I love getting those emails.

And whether or not I'm financially independent, I don't buy into this whole, I'm lazy and I sit around and do nothing idea. To me, that sounds like depression guaranteed. So, I like the work that I do. So, if I look at it from the perspective of the monthly profit from this little hobby business is $1,500 a month, I basically created a $450,000 asset for myself just simply based upon the work over the last year.

I've built a $450,000 asset, but that asset is fully tax deferred and it's never taxed because there's no actual value to the company. That's just what I'm equating it to. Now, compound that with a timing strategy. I've invested a lot of money now and I'm deferring profits to the future.

I invested a lot of the money during the years that I had a high income. So, that allowed me to bring forward some of my business deductions up front, which lowered my overall tax bill. I am also converting some of my activities that I'm interested in regardless into business activities.

So, now if I go to a conference that I would go to anyway, it's not just a personal conference. I'm pulling a business use out of it and I can build in other businesses. So, now if I want to pursue a location independent travel lifestyle, I can go ahead and build that.

And then at some point, who knows, maybe I'll change my tax jurisdiction. I'll get tired of US tax law being as confiscatory as it is and I'll say, "I might move to a country that values me as an entrepreneur a little bit more than they value me as a taxpayer." And so, now I've built this revenue that's coming from a global basis and at some point, I could convert that.

Excuse me, I could shift it from a high tax rate country to a low tax rate country. And so, here I'm converting instead of earning wages, I'm building value and dividends. I'm shifting it from one tax jurisdiction to another and I've accelerated my deductions in the years that I needed them in order to create a lifestyle business.

And there's a certain component of my personal expenses that are now going to be properly allocated over to a business checkbook because I'm pursuing a business that I love. I can't do all that stuff just simply working as an employee at one company in one place. Absolutely. I think that's a really helpful example.

There's a lot of useful content that you've shared there. And I think the two points that really come out for me as number one is that if you compare your opportunity as an employee and as an entrepreneur, as an employee, your tax strategy, I mean, it's kind of a one-trick pony basically.

You've got the timing question of do you put your money into a retirement account or do you take the tax now and put it in to tax-exempt savings? And again, those accounts in the UK, there's a limit on how much you're allowed to put into those each year too.

So, as an employee, there are strategies but they're very limited. And what you've just described, Joshua, is that as an entrepreneur, you just have way more options for looking intelligently at how to minimize your taxes exactly within the law, but taking into account all the different ways that you can adjust what you're doing in order to have a really efficient tax strategy.

And so, there's just way, way more opportunity to do so, as well as generating way more value in the process. The one thing I would say about it though, the second thing that comes to mind is that I think everything that you're saying is absolutely true and great for entrepreneurs.

There is a difference between a lifestyle business and a startup that is being built with the intention to sell in the end. And a lifestyle business in the way that you describe it, you can really go crazy with making full use of all these different opportunities to create an enjoyable life for yourself using your business in that way.

And some of those strategies won't really be applicable if you're building a business for sale because in the future, people who want to buy your business, they're going to want to see that you have generated an efficient money-making machine. This is where sometimes the opportunity to reduce tax can actually warp your business strategy a bit and lead you to do things that might not necessarily be in the interest of somebody who would want to buy the business in future.

It's not an issue for you and what you're doing because you're building a lifestyle business and you're having a great time doing it. But I think for entrepreneurs who are developing a company where they actually want to sell it in future, it's a little harder to use some of those kind of opportunities.

What do you think? You're exactly right. The thing that makes my show and my advice different than I think many other shows and many other people who deliver advice is I do my best to point out all sides of a situation because in financial planning, there is always another side and that is a very important point that you just made.

There are two aspects that I've seen that a number of times. Number one is in the sale of a company and if you have a company that you believe you're going to be able to sell as an entity, it's very important that you are maximizing the value of it.

In fact, that's probably one of your best ways to places to invest is to do the things that are going to make your business extremely attractive and that business is going to be judged based upon its profitability. So, you are absolutely right. My business at the moment, there's no sale potential.

It's purely built around me and my brand and I don't see any potential of it being sold as a going concern of any kind at the moment. That doesn't mean I won't spin off businesses from it that will have that opportunity but at the moment, I've chosen lifestyle business first.

The other flip side is even if you are running a business, it's a lifestyle business, there's always going to be a trade-off. It's the simple one. Many entrepreneurs are very good at lowering their taxable income and then they go to apply for a mortgage and find out that, wait a second, what they did to lower their taxable income didn't help their ability to qualify for a mortgage or I sold a lot of disability insurance in years past.

Same exact thing. "Well, Joshua, I'm making $150,000 a year." Yeah, but your tax return says that you're making $50,000 a year and so you're only going to qualify for disability insurance based upon the $50,000 a year instead of the $100,000 plus. So, there are problems to that but the key thing is as an entrepreneur, you can actually control that.

And so, if you know, "Okay, I'm building this business and I think my goal is to sell it in about five years." Well, five years of high profitability is going to get you where you need to go. And so, you actually have control whereas an employee, you don't. Yeah, absolutely.

And it all depends on what you're looking for because there's nothing wrong with choosing to create a business that's a lifestyle business and totally making the most of that. And there's nothing wrong with deciding that what you're creating is a startup and that what you're aiming for is something that you can actually exit from.

It's just, I think, with tax strategy as with all of these other things, you got to be aware of what you're doing and aware of what the consequences are going to be if you make certain decisions that might down the line impact on your ability to achieve your end goal, whatever that is.

And for any individual, it's going to depend on their own preferences and how they see the opportunities in their particular marketplace. But the key point that you're making, Joshua, remains that you just have way, way more opportunity as an entrepreneur to look strategically at your situation and work out how to generate the most value with the minimum tax.

And I don't think you can possibly get that kind of opportunity from the position of being an employee. This is one of the great benefits of entrepreneurship is that it opens you up to actually a lot more independence and a lot more opportunity to create value while still being really tax efficient.

Could I add a few ideas that might be helpful to employees? Those three strategies, we've specifically focused on applying them to income tax. So timing, shifting, and conversion are applied to income tax, but they can also be conceptually applied to every other type of tax. And so my encouragement to employees would be to not just focus on income, do everything you can to control your income tax, but also look at some of the other taxes that you pay.

And these will vary across jurisdictions, but let me give you some simple examples. Most of us will have some form of sales tax that we pay. Have you ever looked through and tried to figure out how much you're actually paying in sales tax? If you do that, and then you ask yourself, "How can I avoid the sales tax?" You'll be able to save yourself a substantial amount of money.

Perhaps this would result in, for example, in the US and Florida where I live, we have a 6% sales tax on packaged food, you pay the sales tax. On groceries that aren't packaged food, you don't. So if you just simply make some simple, careful selections on your groceries, you can avoid much of the sales tax on the food.

But if you start buying primarily packaged foods, there's a 6% additional cost for that. Or you can try to defer that. So for example, we have a store here that the store credit card gives an automatic 5% rebate. So anything we buy at that store credit card gets the 5% rebate.

In my mind, that helps me if I'm going to buy packaged goods from that store versus the other store, that will help me to avoid most of the sales tax that I'm going to pay on packaged goods. Little things like that done over time add up. Another example would be something like real estate taxes.

And so the county that I live in is a county called Palm Beach County. And in Palm Beach County, we have a higher tax rate on houses that we own. Comes out to be about 2% of the assessed property value. The county immediately to the north of me has a lower tax rate.

It's called Martin County. They have a half the tax rate. What basically 1% of the assessed value of the property annually in property taxes. Now, I could move up there and I could save money on property taxes. And that might be a good decision depending on my scenario. Or I could live in Palm Beach County and I could pay the higher property tax rate.

Here was how I made the decision. When I was formerly, I bought a house that's about four-tenths of a mile from my office where I maintained my financial planning practice. And one reason for that is because I'm able to deduct on my income taxes the cost of interest on my home mortgage under US tax law and also the cost of real estate tax.

So I'm able to deduct those things against my income tax. But I'm not able to deduct any kind of commuting expenses, whether I'm a business owner or not. Even as a business owner, I have to drive to my place of work and then anything from that will be business mileage.

But anything between my house and my place of business is not. It's commuting expenses. So for me, if I were to live farther north, I would have much higher commuting expenses, many more miles on the car, plus the cost of the time sitting in the car. And yes, I would have lower real estate taxes, but that would be offset with higher gas costs, higher fuel maintenance costs, not having to replace my vehicle more frequently, etc.

Whereas if I just simply move closer to my office, I do pay more for the house such that I do have a higher mortgage balance. But the interest on that higher mortgage payment is a deductible expense and I'm paying higher real estate taxes, but those are deductible. So I'm able to leverage and this is actually a shifting strategy or conversion strategy depending, but I'm shifting some expense from the commuting category, which is non-deductible expenses over to real estate tax and mortgage tax, which are deductible expenses.

So each individual type of tax that we pay has a strategy. As an employee, you might look and say, "You know what? I'm getting to the point where I'm earning some pretty decent income. Let me go to my employer and see if they will offer me some type of partnership arrangement where instead of constantly increasing my income in wages, which are going to be the highest tax, maybe I can negotiate a small share of interest of ownership and I can start to be receiving some dividends from the business instead of wages." So don't just set it aside because you're an employee.

You will be more limited in your ability to use business deductions and use these strategies on income, but income taxes are only one component of your total tax bill and each type of tax will have a different strategy that can be applied to its planning. If you buy all your stuff secondhand and you avoid the income tax, excuse me, the sales tax on that, if you go back and you look at that over the course of time, that might have a substantial difference on your total expenditure given over time and that might mean the difference to being financially independent a year sooner when you look out over a 10 or 15 year plan.

I think that's great and I just want to say for people listening to what you're saying, Joshua, because these are really helpful ideas and also you've mentioned a ton of useful things to think about and what I think would be really useful to take from it is also to come back to the point that you made at the beginning, which is that a lot of people are looking at tax from the perspective of almost total unawareness and not really even thinking about it.

The one thing that I'd really like people to get out of this is not necessarily that they have to understand or implement every single one of these ideas because there's loads of content there for people to think about. The key thing I want people to get out of it is just to really be conscious about the opportunity to minimize your tax and think about how much tax you're paying.

Try and be more aware of it so that you're going to be open to noticing opportunities to be more intelligent about your approach towards different tax strategies and that's really what I think is the starting point that will give people a much better approach because if you are more aware of it and if you're being more conscious of it then you're going to be more open-minded about really understanding some of these suggestions that you're making, Joshua.

I think that's really helpful for people who have heard the suggestions that you've got. I really appreciate you sharing your expertise. For sure and the final thought I would leave with people is, unless you have anything else, final thought I would leave is you cannot view tax planning as the one big thing.

There's a statistic that I like to cite that I read in one of my tax books that in the United States there are basically about 20,000 people who make in excess of I think it was $200,000 and pay zero federal income taxes on their money and there are a thousand people who make in excess of a million dollars and pay zero federal income tax on their money.

That's in the lead in and there was an IRS statistic, our taxing agency statistic which was in the preface of one of the tax books that I have and that statistic has fascinated me for years because and when I tell it to people the first question they ask is, "How do you do that?" and what I looked for for years and what many people look for is they're looking for the one thing.

Well, it might exist but I haven't found it yet. I've never found the one thing that makes a difference with tax planning but I've found many, many, many little things that might be able to be applied in your specific situation. So that statistic was in the preface to a book that was I think a 700 page very meaty book on tax planning strategies.

The key is by starting with an awareness of your actual situation which is where when I teach people to make income statements, I teach them to start with their gross income meaning all of their income before every single tax and every single deduction and to put on there every single expense including all the ones that are on their paycheck or including all the ones that are getting pulled out of their business if they're just running things through their business.

Put every expense on there. Then individually, you as an individual, you don't need me, you can sit down and you can look at your situation and ask yourself the question, "How could I save on this expense?" And the key is that many people get overwhelmed with financial planning is they don't know where to start and they don't know where to continue and so they try to do it all and they're looking for some outside expert to give them the one thing.

There is no one thing but there are many things and you can coach yourself to being successful and effective with the many things if you'll take them one at a time. And so just pick one and if it means you make the decision and you're looking at your sales tax rate in your local community and you're looking at saying, "Well, wait a second.

I've been in the US, we have different states, some states that do have sales taxes and some states that don't." But if you say, "You know what? I need a new lawnmower for my yard and I've been meaning to take my family on vacation. I'm going to spend a couple thousand bucks on this lawnmower.

Why don't we just go ahead and go across the state border and buy the lawnmower in the state that doesn't have the sales tax, spend overnight there and take the family on a vacation and bring it home and you'll save a couple hundred bucks on sales tax. Do it." Now, that won't apply to somebody in London.

I don't know what the jurisdiction is there but there's something like that that can be applied if you take them one at a time and then research each individual category and then track your results. And you might be able to assemble something like that listener of mine who said, "Our lifestyle is far better because of this planning." And that's the ultimate goal.

A lot of people, one of my concerns and I love serving the early retirement financial independence community. That's a core part of my audience and a core part of my message. But my concern often is that people might place all of their hope on that future eventuality instead of enjoying and appreciating today.

Because none of us are promised tomorrow. But you can live a better life now and you can work towards financial independence so that you have a better life in the future. Awesome. I think that's a great point to end on. And I mean, Joshua, it's been so great having you on.

I have lots more things that I would love to ask you about. We'll have to do it another time. We'll have to do it another time. I'm thinking that it would be good to talk about investment and a bit more because we really focus on employees and entrepreneurs. So that's an opportunity for the future.

I wanted to say two things quickly. One is just to make the obvious point that this isn't advice. Whatever you want to do with your money as a listener is up to you. This is just us having a conversation. I hope it's useful. But the purpose is to give you food for thought.

So you have responsibility for your own money and do what you will with it. This is just us putting this out there as food for thought. And the second thing I wanted to say is that for people who are interested and who are thinking about this, Joshua, where can they find out more about you and what you're doing?

Two best ways. Number one, RadicalPersonalFinance.com if they prefer just to browse on the website. The website is, I guess, a good way you can read my about page, but it's not a great fit for podcast listeners. The best way to listen to the podcast is just search the app store on your phone for Radical Personal Finance and you'll find our app.

It's a free app and that app will have all of the episodes. There's over 200 at this point. My suggestion, pick one or two of the subject lines that seems interesting and see if you like the way that I do content. It's very different than many people. If you do like it, listen to a few shows and then if you want, go back and listen to the show from the beginning.

My vision with the show is to present a cumulative curriculum over the course of a thousand episodes to try to deliver all of the content that I wish I had had at the age of 15 to be financially independent at an earlier age. So I generally don't repeat topics.

I do my best to only cover a topic if there's an additional aspect to it, but it's across the board. It's pretty hardcore. Some of it is very technical, but we talk about the financial planning lessons you can learn from dumpster divers and vagabonds and hobos. I talk about trust planning for advanced trusts.

You've got to like pretty hardcore stuff, but if you do, the best way, just search the app store for radical personal finance and dig into a couple episodes that seem interesting. Thanks so much, Joshua. It's been really fun having you on the show. Thank you, Jake. Thank you for listening to The Voluntary Life.

If you have feedback about the show, please email jake@thevoluntarylife.com. If you enjoyed this program, please share the podcast with your friends or click the donate button on thevoluntarylife.com. The LA Kings Holiday Pack is back. The perfect gift for the hockey fan in your life. A three-game pack starts at just $159 and includes a holiday blanket.

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