Pay Yourself First: Maximizing Wages, 401(k)s, and Tax Strategy

Announcer:
Hello everyone. Welcome to the Millionaire Dentist Podcast, brought to you by Four Quadrants Advisory. On this podcast, we break down the world of dentistry finances and business practices to help you become the millionaire dentist you deserve to be. Please be advised that we do speak with an honest tongue and may not be safe for work.

Jarrod Bridgeman:
Hello and welcome to the Millionaire Dentist Podcast. I'm your host, Jarrod Bridgeman. Your best friend and mine, Casey Hiers, is actually out right now. He took a little vacation down to Bermuda to see the Purdue University player or something along those lines. I don't really know. He talks a lot to me, and as usual, I didn't pay attention. But instead, I've got two amazing guests with us. I have two CPAs, and one even has an MBA. The first is Kevin Rhoton.

Kevin Rhoton:
Hey.

Jarrod Bridgeman:
What's up, bud? He's our onboarding accounting specialist here at Four Quadrants and I've got Brodie Hough who is a, I guess just a CPA, senior tax advisor?

Brodie Hough:
Yep.

Jarrod Bridgeman:
Yeah, bro.

Brodie Hough:
Appreciate it. Thanks for having me.

Jarrod Bridgeman:
You know tax stuff.

Brodie Hough:
Oh yeah.

Jarrod Bridgeman:
Yeah, I did. Kevin, you and I were chatting earlier and we're coming up on the end of 2025 and every year we like to kind of do a year-end wrap up tax planning kind of a thing. And so as we get closer to this year-end, what should practice owners be thinking about from a tax and cash flow standpoint?

Kevin Rhoton:
Yeah. Year-end is always an important time. One, to make sure you have, for this year, everything squared away, your I's dotted, Ts crossed, but then also making sure you get next year started off on the right foot. So yeah, definitely want to talk about a handful of things. Brodie and I will kind of go back and forth on a few things for not only our clients, what they need to look at, but just any practice owner to look at.

Jarrod Bridgeman:
Kevin, you already both know this, but we handle clients, practice owners from all over the country here. And what are some of the most important items that you guys advise on as we come to the end of the year?

Kevin Rhoton:
Yeah. The first one that we'll talk about is the practice owner's compensation. And a lot of times, what we look at is reasonable wages. Now, these first few things are actually items that we take care of for our clients.

Jarrod Bridgeman:
Okay.

Kevin Rhoton:
So our clients, they don't worry about this. Reasonable compensation, especially with S Corp type, the S corporations, and sole proprietors, will often move to an S Corp to bypass the self-employment tax. And sometimes they'll get caught by not giving themselves a wage just to not pay their taxes. But the IRS does expect you to pay yourself a reasonable wage for the work that you do. And if you don't, that can be a huge audit trigger.

Jarrod Bridgeman:
Right.

Kevin Rhoton:
On the other side of it is to make sure those wages that your W2 compensation is a right fit for, one, for cash flow for the practice, but two, also for any retirement funding, which I know Brodie will get into here in a minute.

Jarrod Bridgeman:
There's a term I've heard used a couple of times around here, and I am going to be honest, I don't know what it means, but what's a wage true up?

Kevin Rhoton:
Yeah. It's really just the process actually that we go through, again, to make sure that their W2 wages match the plan to make sure... Because we'll actually, we send out an email here toward the end of the year, say, "Okay, we need to make this adjustment to one of your December payrolls to true up, to get to max out."

Jarrod Bridgeman:
Yeah, kind of squaring things away.

Kevin Rhoton:
Square things away. So we review that.

Brodie Hough:
Kind of bounce off that a little bit off, off Kevin. I mean, he's right on the point, but those emails that we send out, and again, this is alluding to stuff that we already do for our clients, that's very beneficial and it relieves the stress of our clients too. But this truth-up of wages is just making sure that what we had planned for the year happens. Stuff happens during the year. Payroll gets messed up, payroll changes, you change payroll provider, for instance, that can be a very common thing throughout the year. And that can be during the transition stuff, it gets missed. And then so we're looking at year-to-date numbers for so far this year, obviously, and seeing if we're still on the line, still on the right path here. And for instance, there's times where we're missing stuff. It could be as simple as we're not on pace to get the full retirement.

Jarrod Bridgeman:
At Four Quadrants, we're an all-inclusive plan. And so this is just another one of those cogs that, if it gets rusty and kind of sticks, it can throw off the whole process.

Brodie Hough:
Absolutely. And this is a great example because this is right at the beginning of the process. This is giving you compensated and this is to not get too far ahead of ourselves with the retirement stuff, but this is a snowball at the top of the hill that if it's not rolling, that's not building up and collecting the savings across down the hill, right?

Jarrod Bridgeman:
Price your cash flow and all that.

Brodie Hough:
Absolutely. Absolutely. So yeah, 100%.

Jarrod Bridgeman:
Kevin, why is the IRS also focused on the wages versus distributions for practice owners?

Kevin Rhoton:
Yeah, actually because of S corp basis, if you pull out too much in distributions, there's a balance that needs to happen. They expect that reasonable compensation that we talked about and then a benefit to an S corp practice owner is being able to take those distributions, to be able to... And then those are tax-free. To be able to take those distributions, one, you can't take more out than your basis. And that's a whole different-

Jarrod Bridgeman:
Whole different conversation right there. Yeah.

Kevin Rhoton:
It's important. We take care of monitoring that for our clients, what their basis looks like, to make sure they're taking not too much in distributions because you can get tax. And that's the worst thing is when-

Jarrod Bridgeman:
Or if it seems like it's too much, does the IRS maybe think something criminal might be happening?

Kevin Rhoton:
Not if it's too much. They ding you with taxes.

Jarrod Bridgeman:
Okay. They're like, "Where's our money? Give us the money."

Kevin Rhoton:
Yeah. If you're pulling more money out than your basis allows, they just want to tax it. And a lot of times, again, this kind of gets onto it, probably another podcast would be shareholder loans. A lot of times though, we've talked about that before where some will hide their excess distributions as shareholder loans and we want to stay away from that.

Jarrod Bridgeman:
Frown on that.

Kevin Rhoton:
That's a red flag. And that's one of those, if the IRS comes in, looks, sees you're hiding distributions as shareholder loans that aren't true shareholder loans, then the hammer will come down. Prior year taxes, penalties, interest, the whole ballpark.

Jarrod Bridgeman:
Let's move on to retirement funding and 401k, Brodie. I'd like to hear from you a little bit here. Why do you say, specifically you, you say this all the time, and why do you say that retirement plans are the biggest tax shelters that dentists have?

Brodie Hough:
So it's a good question, and the wording is very important there. Tax shelter is a very edgy word, and it sounds like you're breaking the IRS, you're not following... You're being the bad boy, and the IRS is going to come and get you eventually.

Jarrod Bridgeman:
The bad boy of finance and dentistry.

Brodie Hough:
So what we're talking about here, that's not the aspect of tax shelter that we're referring to. So, first point on that. 401 (k) retirement plans are a huge cost savings overall. And again, at the top of it, it's very beneficial to maximize these out every year, especially for the dentist, because they are making enough money to be able to usually max this out every year. And this can lead to, I mean, even if you're under the age of where you can do the catch up contribution aspect, like for instance, 2025, it's 23 and a half thousand dollars that you can get that's non-taxable income if you're maxing that out. And that's the biggest part of it is you're maxing out that aspect, which is limiting your W2.

Jarrod Bridgeman:
Yeah, from how much can actually be taxed on that year.

Brodie Hough:
Correct. So that 23,500-

Jarrod Bridgeman:
I'm learning, you guys.

Brodie Hough:
Good. That's good. This is progress.

Kevin Rhoton:
Good job, Jarrod.

Jarrod Bridgeman:
It only took four or five years. I'm getting there, though, guys.

Brodie Hough:
Hey, that's all right.

Jarrod Bridgeman:
If this is how long it's taken me to listen to you guys talk about this, to even start to understand it, just imagine all the dentists out there that don't work with us or with a CPA worth its peanuts, just kind of swimming out there trying to stay afloat.

Brodie Hough:
No, absolutely. I mean, this is not easy stuff to understand fully, especially for people who haven't gone to school for it. We're not expecting you to understand this all, and that's why we hit on this so much during our meetings, the podcast too. We have so many different avenues because we want to reach all of you guys out there and make sure you're aware of all these different things. But yeah, ultimately, this is a great way at the very front end of things, kind of what we were willing to do a little before to get some tax savings, what were those W2 wages that you're going to be reporting under your W2, and then have that be just extra money you can invest.

Jarrod Bridgeman:
This is another one of those hand-in-hand first steps with the wage part. First, you got to get the wages ready and then so you can actually put money in your 401k, but this is just the start of... You got to start someplace and this is it.

Kevin Rhoton:
Yeah.

Jarrod Bridgeman:
Yeah.

Brodie Hough:
Absolutely.

Jarrod Bridgeman:
Get that cash flow, right? What are some deadlines or opportunities that owners can still try and capture for this year, 2025?

Brodie Hough:
Yeah. So the main thing to be worried about is the contribution aspect right now for the 401ks and the catch-up contributions and all that, you need to have those recorded through payroll by the end of the year. You can make... Technically the company, not to go down a rabbit hole here, but technically the company, the employer can pay those contributions technically a little bit later until tax deadline.

Jarrod Bridgeman:
Okay. So let's say it's your own income, you don't have to take out that exact percentage to have it add up to the total max amount. Can you do a large dump at the end of the year?

Brodie Hough:
I mean, you can record it as a large dump if you want to, the retirement contribution aspect. Absolutely. If you haven't done any retirement contributions yet, that's okay. You can do it if you have the cash flow to do it; you can absolutely do all of it in December 100% through payroll. The key is to have it recorded through payroll. So then it shows up on your W2 by the end of the year, and then that funding of it has to happen by March 15th for the business tax deadline. But besides the point, that doesn't matter. That funding aspect of it does not matter unless you get it recorded on payroll.

Jarrod Bridgeman:
Right. Now obviously, most practices and businesses would like to do it throughout the year, so it's not [inaudible 00:11:13].

Brodie Hough:
So that's just cash flow then. There too, you're spreading that out across the year instead of having to write a big, huge bill for not just yourself, but for all your employees as well, at that point too. So no, that makes sense that most people do do it across the year, but yes.

Kevin Rhoton:
Talking about what you guys were saying about the 401k, I mean, all of that is so important. Talking about getting the wages right, making sure you're maximizing your 401k or even the practice profit share, employer matches. I mean, the cash flow aspect of it for the practice, also the tax-deductible portion of it, getting that, maximizing that. We've talked about how not only does that reduce the practice income, but it's a good thing for employees. It's a good retention aspect, offering a 401k to employees, offering that match. I mean, that's tax-deductible to you, that brings down your AGI, that helps preserve the QBI benefits. We won't get into that qualified business income deduction, but that's a huge thing. So just it's so important to get that humming to maximize that benefit because there's so many benefits to it besides the fact of you maximizing your retirement and for however many years until retirement.

Jarrod Bridgeman:
There's the two benefits of the benefit of the now and the benefit of the future.

Kevin Rhoton:
Correct.

Brodie Hough:
It's really the foundation of-

Kevin Rhoton:
Everything to come.

Jarrod Bridgeman:
That's the opposite of procrastination, where you go, "Oh, that's a future Jarrod problem."

Kevin Rhoton:
Correct.

Jarrod Bridgeman:
This is going to be a future Jared solution. I've already said.

Brodie Hough:
I like that. Yeah. There you go. Trademark that.

Jarrod Bridgeman:
For future proofing. I'm going to. So Brodie, with your end cashflow and tax projections, why are so many dentists, why do they tend to either overpay or underpay with their estimates?

Brodie Hough:
No. Yeah, this is a great question because a lot of other accounts out there, and there's nothing wrong with doing this method, it's just, it's not as good as planning. And ultimately, what I'm going to lead to is it leads to tax surprises when you file your tax return. But the reason behind this overpaying and underpaying of estimates so often is because your prior account will just give you four equal estimates over the next year that keep you penalty safe, which is great. You obviously don't want to pay penalties. There's nothing wrong with that aspect.

Jarrod Bridgeman:
Right. It's still kind of the bare minimum, though.

Brodie Hough:
Right. Correct. When you could be planning, like we do with our clients, we go quarter by quarter and we're looking at historical data, current year to date data and the future data for that year that we're projecting out for the rest of the year. We're taking that all in at once and pretty much seeing what we think the taxes are going to look like for this next upcoming year. And then we pay an estimate based on where we think they are at that point.

Jarrod Bridgeman:
Right.

Brodie Hough:
So what we are really trying to do is end the surprise that comes in April or March with your business and individual tax filings, we want you to just have a nice little small refund ideally, and we then just move on. We didn't give the IRS too much money to where you're giving them tax-free money, and then you're not-

Jarrod Bridgeman:
And you're not hurting your own cash flow.

Brodie Hough:
Exactly. And then also not way underpaying. And then you owe a big, huge tax bill when it comes to April, and you're like, "What the heck? I don't have 20,000, 40,000."

Jarrod Bridgeman:
Yeah. And we've talked about before. Your quarterly estimates and things can go up and down based upon a number of factors, whether you've really done well this year or this quarter, or let's say there was a natural disaster or a COVID-type situation where your numbers dropped because there was a hurricane, and so you have less. And so I don't think a lot of people take that into account. I mean, I've never owned my own business. I never even thought about quarterly. It's just I get my paycheck, and I'm like, "Damn."

Kevin Rhoton:
[inaudible 00:15:02].

Jarrod Bridgeman:
So that's one of those things we've talked about so many times, but it's a thing that I think can be quickly forgotten about until the tax surprise, and then you're like, "Ah, shit." And then it just keeps cycling through because by that point, you're already halfway through the next year.

Brodie Hough:
Oh yeah, absolutely. And not to go down another rabbit hole, but that just leads to a great point is where a lot of people don't fully understand what the IRS is looking at and what their tax number comes from. It's not what you're taking home. A lot of business owners don't fully understand that. It's just not the take home money that's coming that they're taxing for a lot of these entities setups. It's the income, the actual business income. And you might not be taking all that business income home, which is okay. You usually need to keep some of that business income in the business so the business can keep making income.
So that's another big part of it that's a very big hurdle for a lot of people that we get in contact with because that's very complicated. And it's like, "I'm getting them taxed technically on money that's not coming home to me?" Yeah. And that's why we have these estimates to pay for that income because you're not withholding anything from that business income like you're what you're alluding to with the paycheck. So I think that's another great point right there, very quickly. And that could be a whole other episode, too.

Jarrod Bridgeman:
I mean, yeah, there's so many things that could be just its own three-hour-long podcast.

Brodie Hough:
Oh, absolutely.

Kevin Rhoton:
With those projections and the custom estimates, I see a lot of times practice owners coming to us, and their prior accountants just giving those canned estimates. And all that does, and I mean, I get the spirit behind it, is we're just trying to keep you from paying a penalty next year. Just as long as you pay 100% of last year's taxes and whatever. Well, like you were talking about, practice income can go up and down every year. And especially with the new practice owners that come in or things are just getting started up, maybe they were a 50% owner and now they're 100% owner. Well, when you're a 50% owner or if you didn't own and now you own, your estimates, those canned estimates, I call them, were based on totally inaccurate-

Jarrod Bridgeman:
Yeah, inaccurate data. Yeah.

Kevin Rhoton:
... data that doesn't apply at all to this year. And then come April, it's like, "Oh, you owe $140,000 in taxes."

Jarrod Bridgeman:
And how many of my kids can I sell?

Brodie Hough:
Yeah. And at that point, they haven't planned for it. So then they're like, "Where am I going to get this money from? I'm trying to run a business here." So absolutely.

Jarrod Bridgeman:
With the first year or two maybe, let's say with some brand new clients of ours, are they often surprised that somebody have to educate them on to be like, "This is why this quarter is different than last quarter."? Is that kind of, not like a bad thing, but just something you have to kind of remind them of?

Brodie Hough:
Absolutely. Yep. And it's almost-

Jarrod Bridgeman:
Because I mean, they're used to 20 years of canned.

Brodie Hough:
Yeah. It's almost a checkbox where, like, "Yeah, let's make sure we hit on this because they're not aware of it."

Jarrod Bridgeman:
Yeah.

Brodie Hough:
As you said, you're used to your W2, and how would it feel like-

Jarrod Bridgeman:
It's an X percentage.

Brodie Hough:
Right. You fill out that W4 and it takes out a certain percentage of your income and that you just live with it and you know that's going towards taxes. And when you take that next step up and all of a sudden you're an owner and again, not seeing that money come home exactly each month and all that and not having the withholding come out of it. Yeah, it can lead to a big, huge tax bill for sure.

Jarrod Bridgeman:
So a lot of the things we've been talking about are the things that we tend to advise on and handle for our clients, right?

Kevin Rhoton:
Yeah, that's the perfect way to put it is our clients don't have to think about any of these items at all.

Jarrod Bridgeman:
And how many people do we know who have that stress? I mean, think of how much stress we see wash off of our own clients after they've been here for a year or two.

Brodie Hough:
Yeah. It's one of the biggest, I feel like, in my opinion, that comes in for a new client is the taxes.

Jarrod Bridgeman:
And it's crazy to me too, I've seen some of the consultations that we do with practice owners that may become a client of ours, and it's how much money sometimes you guys find from the last year or two. It's like, "Oh, no, no, no, you should be owed 70 grand. You missed this," or whatever the case is.

Kevin Rhoton:
Here lately we have been amending prior year returns like crazy finding extra money.

Jarrod Bridgeman:
Yeah. So I need you to get online, right? We're talking about it here.

Kevin Rhoton:
Yeah, let me have a look at it.

Jarrod Bridgeman:
Good extra 12 bucks from the county? Nice. Love it. That's a McDonald's right there.

Kevin Rhoton:
Yep. You overpaid 8.75.

Brodie Hough:
Yeah. We'll give you the family discount; it'll be 200 bucks for that.

Kevin Rhoton:
Yeah. It'll cost you.

Jarrod Bridgeman:
Listen, I've got to give you 200 bucks and $8 for the government.

Brodie Hough:
All right.

Jarrod Bridgeman:
Well, thank you guys for coming in and I really appreciate it. So this episode is running a little long and we have a whole nother section that we wanted to talk about. So we're going to come back and have a part two to this, which will be more on the items that we advise practice owners and general just to kind of review and look at for end of the year. So we'll come back. I'll bring back Kevin and Brodie. It'll be a big party.

Kevin Rhoton:
Oh, yeah. Sounds good.

Brodie Hough:
Hell yeah.

Jarrod Bridgeman:
That'll be nice. Folks, make sure you go to our website at FourQuadrantsAdvisory.com. Check out older episodes of the podcast if you want. We've got a whole bunch of new events coming up that we'd love to see you guys at if you're in the area. We're going to be in Boca Raton, Florida. We're going to be in Naples in December, both those. So I know we're going to be at the Yankee Dental Congress. We're going to have a nice, fun social the night before the Yankee Dental Start. It has not been booked yet, but I've got a place for you where if you want to go to the page and fill out a form, we'll notify you when registration's open for that. So just take a look on there and come see us, come hear Casey and his team speak, and maybe we can help you guys out.

Kevin Rhoton:
I don't think we need Casey. Leave him down in the Bahamas somewhere.

Jarrod Bridgeman:
Hell yeah. Get out of here.

Kevin Rhoton:
Where is he? Hamas?

Jarrod Bridgeman:
Bermuda.

Kevin Rhoton:
Bermuda.

Brodie Hough:
Bermuda, whatever. It doesn't matter.

Jarrod Bridgeman:
Some kind of triangle. He may not come back.

Kevin Rhoton:
Come on, pretty mama.

Jarrod Bridgeman:
Great. Now we have to pay a royalty. Thanks, guys.

Announcer:
That's all the time we have today. Thank you to our guests for their insight and for sharing some really great information. And thank you to you, the listener, for tuning in. The Millionaire Dentist Podcast is brought to you by Four Quadrants Advisory. To see if they might be a good fit for you and your practice, go on over to FourQuadrantsAdvisory.com and see why year after year they retain over 95% of their clients. Thank you again for joining us, and we'll see you next time.