money

Fact checked by Michael Logan
Reviewed by Lea D. Uradu

There are several ways to deduct business expenses from your small business revenue to lower your tax bill. Sometimes, business deductions can reduce your income on a dollar-for-dollar basis. You can also deduct certain expenses incurred during the startup phase of your business, but the rules are not as straightforward as those for deducting operating expenses. To understand how business startup deductions work, you must know which expenses are deductible and how to take them at tax time.

Key Takeaways

• The IRS allows certain tax deductions for creating, launching and setting up a business.
• You can’t claim startup costs if the business doesn’t take off and you aren’t actually able to start it.
• Startup expenses that you might be able to deduct include the cost of office space, hiring attorneys and accountants, and investing in the necessary software to launch your business.
• Working closely with a certified public accountant (CPA) can provide insights into the startup costs you’ll face and help you save money at tax time.

Allowable Business Startup Deductions

Launching a new business is pretty exciting. However, amidst the excitement, remember that there are inevitable costs involved in getting a new venture up and running. You may be able to reduce the tax you pay based on these expenses. Many expenses, from office supplies to legal fees, can be deductible, potentially lowering your tax liability in the crucial early stages of your business.

The Internal Revenue Service (IRS) allows certain tax deductions in three specific categories of business startup costs:

1. Creating the business: These are costs associated with investigating the creation of an active trade or business, including feasibility studies, market and product analysis (including the costs for surveys, focus groups, and other methods to understand customer needs and preferences), examining the labor supply, travel for site selection, and other costs involved in creating a new business.
2. Launching the business: This includes any costs associated with getting your business operational, including licenses and permitting fees; recruiting, hiring, and training employees; expenses related to securing suppliers; expenses for creating and distributing marketing materials like brochures, flyers, and ads; and professional fees. The costs for equipment purchases aren’t included, as they’re depreciated under normal business deduction rules.
3. Business organization costs: These are the costs of setting up your business as a legal entity such as a corporation, limited liability company (LLC), or a partnership. These costs would include state and legal fees, director fees, accounting fees, and expenses for conducting any organizational meetings.

Startup expenses that are not deductible include personal and capital expenses, pre-operational research and experimentation costs, costs for acquiring intangible assets, and existing business acquisition expenses.

There’s one thing you must keep in mind. You can only write off these expenses if you actually opened up the business. This means that any costs incurred if your company didn’t get off the ground don’t qualify for a deduction.

How to Take Business Startup Deductions

Although you may be able to deduct certain startup costs associated with your business, limits may apply. For new businesses, up to $5,000 in start-up costs and another $5,000 in organizational costs can be deducted as business expenses in the year the business begins, provided total start-up costs are under $50,000. So if your startup expenses exceed $50,000, your first-year deduction is reduced by over $50,000.

For example, if your startup expenses total $53,000, your first-year deduction will be reduced by $3,000 to $2,000. If your expenses exceed $55,000, you would lose the deduction entirely. You may then amortize the remaining expenses and deduct them in equal installments over 15 years starting in the second year of operation.

Claiming the Deduction on Your Tax Forms

If you choose to take the first-year deduction, it needs to be reported on your business tax form. That would be Schedule C for a sole proprietor, K-1 for a partnership or S corporation, or Form 1120 of a corporate tax return. In subsequent years, the amortized deduction is claimed on Form 4562, Depreciation and Amortization.

The deduction is then carried over to your Schedule C under other expenses if you’re a sole proprietor or to your partnership or corporate income tax form. You can continue to claim it under other expenses throughout the amortization period.

When Should You Claim the Deduction?

The business startup deduction can be claimed in the tax year the business became active. However, if you anticipate showing a loss for the first few years, consider amortizing the deductions to offset profits in later years. This would require filing IRS Form 4562 in your first year of business. You can choose from different amortization schedules, but once you have selected a schedule, you can’t change it.

Important

Consult with a qualified tax professional or tax advisor before claiming your startup costs to ensure compliance with current tax laws, accurately identify deductible expenses, and maximize your potential tax benefits.

What If You Don’t Start the Business?

If you spend money to research creating a business but then decide not to move forward, the expenses you incurred would be considered personal costs. Unfortunately, these expenses aren’t deductible. However, expenses incurred in your attempt to start a business could fall under the category of capital expenses, which you may be able to claim as a capital loss.

Can I Deduct My Business Start-Up Costs?

You can deduct certain startup expenses for your business, including market research, legal and accounting fees, employee training, marketing, and organizational costs. The IRS permits deductions of up to $5,000 each for startup and organizational expenses in the year your business begins, provided your total startup costs are less than $50,000. Expenses beyond this limit can be amortized over 15 years. However, to qualify for these deductions, your business must actually start operating.

How Long Are You Supposed to Amortize Start-Up Expenses?

Startup expenses exceeding the initial $5,000 deduction limit can be amortized over a period of 15 years. This means you can spread the deduction of these expenses across 15 tax years, starting with the year your business begins operations.

Where Do Start-Up Costs Appear on a Balance Sheet?

Startup costs do not typically appear directly on the balance sheet. Instead, these costs can be capitalized (meaning they are recorded as an asset) and then gradually expensed through amortization over the IRS-specified period of 180 months (15 years), starting with the month your business starts operating. The initial capitalization of startup costs on the balance sheet under “Other assets” or a similarly named category reflects their nature as investments in the business’s future operations.

The Bottom Line

Understanding and claiming business startup deductions is key for new business owners. It’s important to know which startup costs, like market research and legal fees, can lower your tax bill. Although you might feel you know enough to navigate the process, consulting with a tax advisor specializing in small business taxation is always a good idea. This step can help new businesses manage their taxes effectively and focus on growing their company.

Fact checked by Michael Logan
Reviewed by Ebony Howard

Clients who seek to disperse their worldly assets in a complex or specific manner will often use living trusts as the vehicle of choice. These versatile instruments can provide users with a wealth of benefits and protections that ensure that their financial wishes and needs are met in an efficient manner while they are living, and also after they die. Here’s what a revocable trust is and how it works and may benefit you.

Key Takeaways

• A revocable trust is a legal entity that can own, buy, sell, hold, and manage assets according to a specific set of instructions.
• It can be changed at any time or even revoked by the grantor who set it up.
• The other parties involved in a revocable trust are the trustee who oversees the management of the assets in the trust and the beneficiary or beneficiaries for whom the assets are managed.
• When the trust owner dies, the assets are exempt from probate and information about their dispersion is not made public. However, they are still subject to federal and state estate taxes.
• Different types of revocable trusts are designed to serve different purposes. Two examples are the qualified terminal interest property, or QTIP trust, and the incentive trust.

What Are Revocable Trusts?

A trust, by definition, is a legal instrument created by a lawyer. A trust resembles a corporation in that it is a separate entity that can own, buy, sell, hold and manage property according to a specific set of instructions. Some trusts have their own tax ID numbers and can be taxed as a separate entity or structured as a pass-through instrument that passes all taxable income generated by the assets in the trust through to the grantor. This is usually the case for revocable trusts, as the tax rates for trusts are among the highest in the tax code.

There are typically three parties who are involved in a trust:

• The grantor is the person who creates the trust (by paying a lawyer to draft it) and then funds it by depositing cash or assets into the trust account. Tangible property is simply re-titled in the name of the trust.
• The trustee is appointed by the grantor to oversee the management of the assets in the trust and follow any instructions that the grantor has written in the trust.
• The beneficiary is the recipient for whom the assets are managed.

The grantor, trustee, and beneficiary (or at least the primary beneficiary) can all be the same person in many cases.

All trusts are either revocable or irrevocable. The former type allows the grantor to change the instructions in the trust, take assets out of the trust and terminate it. Irrevocable trusts are called such because assets that are placed inside them cannot be removed by anyone for any reason. The instructions that are written into them can likewise not be changed. Most revocable trusts are known as revocable living trusts because they are created while the grantor is still living.

Pros and Cons of Revocable Trusts

Revocable trusts can allow grantors to disperse assets in ways that would be extremely difficult to do with a will. All assets that are deposited into revocable trusts are unconditionally exempt from the probate process, which can greatly simplify and accelerate the estate planning process.

Furthermore, all activities relating to trusts and their dispersion of assets to beneficiaries are strictly confidential and are not published in the public records of probate courts.

One disadvantage is that the assets in a revocable trust aren’t shielded from creditors to the degree that they are in an irrevocable trust. So if the grantor is on the losing end of a lawsuit, trust assets may be ordered liquidated to satisfy a judgment. Also, after the owner dies, the trust assets are subject to federal and state estate taxes. In addition, some trusts can cost thousands of dollars to create if they are complex or if they deal with complicated intangible assets.

Pros

• A revocable trust may be altered or revoked at any time by the grantor

• Assets are exempt from the probate process, which can simplify estate planning

• Activities relating to a trust and the dispersion of assets is strictly confidential

Cons

• If a grantor is sued, trust assets can be used to satisfy a judgment.

• Once the owner dies, trust assets are subject to estate taxes

• Trusts that are complex or that deal with intangible assets may be costly to set up

Types of Revocable Trusts

There are several types of revocable trusts that are designed to meet specific objectives. They include:

Qualified Terminal Interest Property (QTIP) Trust: This type of trust is generally used when the grantor has divorced and remarried. The grantor will name the current spouse as the primary beneficiary, and they will get to use the property (such as a house) inside the trust as long as they live. The property will then be distributed to the children that the grantor had from the previous marriage upon the death of the second spouse.

Incentive Trust: This type of trust can reward beneficiaries with monetary or other incentives if they meet certain criteria that are laid out by the grantor. This could include getting an education, marrying a certain type of person, or accomplishing other objectives.

There are also other types of revocable trusts that are designed to reduce estate taxes for wealthy grantors, protect land from lawsuits, and facilitate the Medicaid spend down strategy.

What Is a Major Benefit of a Revocable Trust?

There are two major benefits: First, as the owner of the trust, you get the benefits of the trust assets during your lifetime—trust income and the right to use trust assets. And second, after your death, the trust assets are distributed in the way in which you have spelled out through the terms of the trust.

What Assets Shouldn’t Be Placed in a Revocable Trust?

For a variety of reasons, retirement accounts, health savings accounts, life insurance policies, and UTMA and UGMA accounts that are set up to benefit a minor should not (or cannot) be put into a revocable trust. If you transfer a retirement account into a trust, for example, it will count as a withdrawal, which is a taxable event. Instead, you can name the trust as the beneficiary of the retirement account so the funds will transfer upon your death, and you can spell out in the trust document how the funds should be divided among your beneficiaries. Consult an estate planning attorney for assistance on creating a revocable trust and the assets that are best put into it.

Which Is Better, a Revocable or an Irrevocable Trust?

It depends on your situation and your goals in creating a trust. Revocable trusts are easier to set up and can be modified at any time by the owner, or grantor. While the trust assets won’t go through probate, they are still subject to federal and state estate taxes. Irrevocable trusts are harder to create and are very difficult to modify, but the trust assets are not subject to estate taxes upon the owner’s death. In addition, assets in an irrevocable trust are protected from creditors, so people in professions that may be at risk of lawsuits (doctors, lawyers) might want to create one to protect their property.

The Bottom Line

Revocable trusts can accomplish many objectives and provide many benefits for both grantors and beneficiaries. They can be used to reduce income and estate taxes and avoid probate. Their cost can vary according to their complexity and the number of them that are used. For more information on revocable trusts and how they can benefit you, visit the Financial Planning Association website.

Reviewed by Amy Drury
Fact checked by David Rubin

Using trailing 12-month (TTM) figures is an effective way to analyze the most recent financial data in an annualized format. Annualized data is important because it helps neutralize the effects of seasonality and dilutes the impact of non-recurring abnormalities in financial results, such as temporary changes in demand, expenses, or cash flow.

By using TTM, analysts can evaluate the most recent financial data, rather than using older numbers from full-year annual reports. TTM charts are less useful for identifying short-term changes and more useful for forecasting.

Key Takeaways

• Trailing 12-month, or TTM, refers to the past 12 consecutive months of a company’s performance data used for reporting financial figures.
• By consistently evaluating trailing 12-month numbers, company financials can be evaluated both internally and externally without regard for the artificiality of fiscal year-end.
• TTM allows for a like comparison of a company’s performance trajectory that smooths away any inconsistencies.

TTM for Financial Reporting

Companies conducting internal corporate financial planning and analysis have access to detailed and very recent financial data. They use the TTM format to evaluate key performance indicators (KPI), revenue growth, margins, working capital management, and other metrics that may vary seasonally or show temporary volatility.

By keeping a running tab of TTM metrics, a firm’s management and stakeholders can understand how the company is doing at any point in time using an apples-to-apples comparison. In other words, by always looking at the previous 12 months, effects such as seasonality or one-time charges can be smoothed out.

TTM for Equity Research

In the context of equity research and valuation, financial results for publicly traded companies are only released on a quarterly basis in securities filings in accordance with generally accepted accounting principles (GAAP). Securities and Exchange Commission (SEC) filings generally display financial results on a quarterly or year-to-date basis rather than TTM.

TTM revenue (sales) and profitability metrics show how much money the company brought in and earned over the previous one-year period, regardless of which quarter’s financial statements are being released. Less frequently, firms provide monthly statements with sales volumes or key performance indicators.

Important

TTM figures can also be used to calculate financial ratios. The price/earnings ratio is often referred to as P/E (TTM) and is calculated as the stock’s current price divided by a company’s trailing 12-month earnings per share (EPS).

Example

To get a clear picture of the last year of performance, analysts and investors often must calculate their own TTM figures from current and prior financial statements. Consider General Electric’s (GE) Q1 2015 financial results.

In Q1 2015, GE generated $29.4 billion in revenue versus $33.5 billion in Q1 2014. GE logged $148.6 billion of sales for the full year of 2014. By subtracting the Q1 2014 figure from the full-year 2014 figure and adding Q1 2015 revenues, you arrive at $144.5 billion in TTM revenue.

It depends on business type, operating cycle, and management goals

Fact checked by Timothy Li
Reviewed by Erika Rasure

The amount of working capital a small business needs to run smoothly depends on three different factors: type of business, operating cycle, and the business owners’ goals for future growth. Large businesses can get by with negative working capital (because of their ability to raise funds quickly), but small businesses should maintain positive working capital figures.

Key Takeaways

• Working capital is the cash on hand used to keep a business operational, less liabilities and obligations.
• Depending on the line of business, working capital needs may be significant in order to procure raw materials and labor.
• Service businesses, on the other hand, rely far less on working capital and can operate with less overhead.
• Businesses looking to grow and expand will require larger levels of working capital than businesses looking to maintain their current size.
• A business’s operation cycle will also impact working capital needs; businesses with a shorter time frame from production to revenue generation require less working capital.

What Is Working Capital?

Working capital refers to the difference between a company’s current assets and current liabilities. Current assets are the items a business owns that can be turned into cash within the next 12 months, while current liabilities are the costs and expenses the business incurs within the same period.

Common current assets include checking and savings accounts, marketable securities (such as stocks and bonds), inventory, and accounts receivable. Current liabilities include the cost of materials and supplies (that need to be purchased to produce goods for sale), payments on short-term debt, rent, utilities, interest, and tax payments.

Important

Seasonal businesses require different amounts of working capital at different times of the year.

A company’s working capital is a reflection of its operational efficiency and budget management. If a business has more current liabilities than assets, its working capital is negative, meaning it may have difficulty meeting its financial obligations.

A company with a very high working capital figure, conversely, is easily able to pay all its expenses with ample funding left over. Whether a given business requires high working capital is determined by three key factors: business type, operating cycle, and management goals.

Business Type

Certain types of businesses require higher working capital than others. Businesses that have physical inventory—such as retailers, wholesale businesses, and manufacturers—often need considerable amounts of working capital to run smoothly.

Manufacturers must continuously purchase raw materials to produce inventory in-house, while retailers and wholesalers must purchase pre-made inventory to sell to distributors or consumers.

In addition, many businesses are seasonal, meaning they require extremely high working capital during certain parts of the year. Leading up to the winter holidays, for example, retail businesses— such as department stores and grocery stores—must increase inventory and staffing to accommodate the expected influx of customers.

Businesses that provide intangible products or services, such as consultants or online software providers, generally require much lower working capital. Businesses that have matured and are no longer looking to grow rapidly also have a reduced need for working capital.

Operating Cycle

Ideally, a business can pay its short-term debts with revenue from sales; however, the length of a company’s operating cycle can make this impossible. Companies that take a long time to create and sell a product need more working capital to ensure that financial obligations incurred in the interim can be met.

Similarly, companies that bill customers for goods or services already rendered, rather than requiring payment upfront, need higher working capital if collection on accounts receivable cannot be made promptly.

Management Goals

The specific goals of the business owners are another important factor that determines the amount of working capital required by a small business. If the small business is relatively new (and looking to expand), a higher level of working capital is needed compared to the working capital needed by a small business intending to keep its operations small.

This is particularly true for businesses planning to expand product lines to venture into new markets because the costs of research and development, design, and market research can be considerable.

How Do You Calculate Working Capital?

Working capital is calculated by subtracting current liabilities from current assets. Both current assets and current liabilities can be found on a company’s balance sheet as line items. Current assets include cash, marketable securities, accounts receivable, and other liquid assets. Current liabilities are financial obligations due within one year, such as short-term debt, accounts payable, and income taxes.

What Is Working Capital Used for?

Working capital demonstrates a business’s ability to fund its operations and pay its short-term expenses. When a business has enough liquidity to pay its short-term debt, accounts payable, and any other costs due within one year, it is functioning well and generating enough liquidity from its business operations to cover its costs. This is a sign of the company’s financial health.

How Can I Improve Working Capital?

Working capital can be improved by increasing assets and decreasing liabilities. Reducing your company’s reliance on debt, negotiating better terms with suppliers on accounts payable, managing expenses more efficiently, and cutting extraneous costs can all improve current liabilities. Collecting receivables faster, increasing the value of marketable securities, and improving inventory efficiency can all help improve your current assets.

The Bottom Line

Working capital demonstrates how efficiently a business is operating. Having a positive working capital (i.e. current assets exceed current liabilities) is important for a small business because small businesses don’t have many other options to fall back on if its assets don’t cover its expenses.

The amount of available working capital differs greatly depending on the type of company. Companies with a high inventory of physical goods require more working capital than ones with a low inventory. Similarly, businesses looking to grow will need more working capital than those looking to maintain their size.

Lastly, a business’s operating cycle determines the level of working capital it needs: Businesses that can produce and sell goods quickly need less working capital than those with a longer duration between production and revenue generation.

Fact checked by Amanda Jackson
Reviewed by Margaret James

Getting yourself on sound financial footing is a lot like building a successful business. It can be a decades-long enterprise requiring planning, skill, patience, and a little bit of luck. The proverbial millionaire next door is an overnight success 20 years in the making. Considering the long road ahead, you have every reason to get started today.

Key Takeaways

• Financial success requires a long-term strategy with short-term goals; a deliberate plan is essential for security and success.
• Similar to businesses investing in growth, individuals should invest in education and continuous skill development to enhance career prospects.
• Managing debt is crucial for financial success. Avoid consumer debt, pay off education before making large purchases like a home, and recognize the difference between productive and wasteful consumer debt.
• A shared financial outlook and planning in marriage can contribute to financial stability.
• Patience is vital in financial planning. Allow your investment to benefit from the compounding effect to grow over time.

Have a Plan

Financial security won’t happen by accident, and it won’t happen overnight. Just as businesses have quarterly goals, annual revenue targets, and five-year business plans, you need to approach your life with a long-term strategy made up of a series of short-term actions and goals. Success rarely happens at random. You need to have a plan.

Invest in Yourself

When businesses want to grow, they invest in themselves. The same logic applies to individuals. Before you even begin your career, an investment in education can provide an opportunity to increase your potential lifetime earnings. Going to college or a trade school can provide knowledge and credentials that make you a more attractive and higher-paid part of the workforce.

If circumstances or personal interests do make education an attractive option for you, consider starting a business. Entrepreneurs from all walks of life have started successful enterprises. Working for yourself can bring more satisfaction, more money, and greater control over your job stability than working for somebody else.

Keep in mind that investing in yourself is not a one-time effort. Think of it from a business perspective. Investments in research and technology, infrastructure, and physical plants are an ongoing part of the business. Keeping up with the times and the competition is part of the process of maintaining a successful business and a crucial part of building and growing the business to take it to the next level. Looking at the situation from a personal perspective, if you have a bachelor’s degree, going back to school at mid-career can provide a boost to your credentials and help you keep pace with the competition. If you have a trade, continuing your education can open up new opportunities.

Regardless of your profession, adding a new skill or designation can increase your revenue-generating opportunities. If you run a business, opening up a new sideline can increase your opportunities in the marketplace. If you don’t own a business, moonlighting at mid-career can provide a second source of income that serves as a backup to your primary career.

Learning new skills is an investment that should continue over the course of your lifetime. Expand your interests. Keep an eye out for opportunity. You can continue to build your skill set even during retirement. A second career is not only often more fulfilling than the first one, but it can set up a revenue stream that truly makes you successful in life. Even if you’ve been tremendously successful and no longer need to work, you can continue to invest in yourself by building your knowledge base. Learning about your investment portfolio, for example, can be an interesting and lucrative opportunity. In an age marked by scandal, there’s no better motto than “trust but verify.”

Get Out of Debt

Debt management is a critical exercise for every successful business, and there’s a reason for the saying “cash is king.” Be different. Buck the trend. Don’t rack up debt in the typical consumer fashion. The cost of an education and a primary residence are generally beyond most people’s ability to pay for in cash. Beyond that, if you can’t pay cash, don’t make the purchase. As far as education and the home, pay off the education before you buy the home.

As for the home, don’t stretch your budget. Buy what you can easily afford and pay it off as quickly as possible. Forget the advice about good debt and bad debt. All debt is bad. There’s a long list of financially strapped investors who had supposedly great and fool-proof ideas about going into debt to put the money to work in investments that would earn a greater rate of return than the cost of the interest rate to service the debt.

If you are an entrepreneur, debt may be a necessary tool. Putting your money into an appreciating asset is different than using debt to fund a new car, vacation, or wardrobe. Paying interest on consumer goods is simply a waste of money and undermines your financial foundation. Investing in your business is a way to increase your potential revenue.

Note

In Q4 2024, the Federal Reserve Bank of New York noted that American household debt had risen to $18.04 trillion and delinquency rates were stable but elevated.

Find a Like-Minded Partner

Getting married can give your life a powerful financial boost. Of course, more than a few marriages have ended in divorce over the topic of money. Shared values are the key to success. While it may not sound romantic, having the same outlook on money will go a long way toward creating both a secure financial future and a happy marriage. There aren’t many couples in divorce court complaining about the fact that they are financially secure, debt-free, and successful.

Approach the financial aspects of marriage as you would a business. Plan together and spend together. The purchase of big-ticket items should not be a surprise to either partner. Make decisions regarding debt and credit as a team. If one member of the team is opening up credit cards and the other member is working two jobs to pay for the debts, the team is headed for trouble. Save together. Set a goal of living on one income while using the other to pay down debts. Once you are debt-free, live on the lower income and invest the rest.

Be Patient

Patience is a virtue that holds particular significance in the realm of finance in several ways. In the financial landscape, the power of compound interest is a prime example of why patience is a valuable asset. By allowing investments to grow over time, the compounding effect can significantly amplify returns.

Patience can also serves as a way to overcome impulsive financial decisions that can lead to unnecessary risks and losses. In a world driven by instant gratification, there’s tremendous benefit to researching something, developing a long-term plan, then following steps to execute the plan.

On a broader scale, patience is so important in achieving financial goals and milestones. Whether it’s saving for a major purchase, funding education, or planning for retirement, the ability to stay patient throughout the journey can’t be overstate. Even if you make just a little bit of progress everyday, those small incremental steps can and will add up over time to a greater benefit you will one day be able to enjoy.

What Role Does an Emergency Fund Play in Financial Planning?

An emergency fund serves as a financial safety net, providing a cushion for unexpected expenses or income disruptions. It prevents the need to tap into long-term savings or accumulate debt during unforeseen circumstances such as medical emergencies, car repairs, or job loss. One of the first things you should consider doing, even before saving for retirement, is making sure you have a large enough emergency fund.

When Should I Start Saving for Retirement?

Starting to save for retirement early is advantageous due to the power of compound interest. Ideally, individuals should begin in their 20s or 30s, allowing their investments more time to grow. As mentioned in the ‘Patience’ section above, your portfolio has a greater chance of accumulation when you start investing earlier.

How Can I Improve My Credit Score?

Improving your credit score requires responsible credit management. Pay bills on time, reduce outstanding debt, and review your credit report regularly for errors. Demonstrating responsible credit behavior over time positively impacts your credit score, meaning you’re more likely to get cheaper debt in the future (which further perpetuates your positive financial health).

What Steps Can I Take to Increase My Income?

Increasing income involves a proactive approach to career development and financial growth. Pursue opportunities for career advancement, acquire new skills, and consider negotiating salary raises. Consider advancement opportunities at other companies if your current company does not have great upward mobility. In addition, don’t just focus on your income – you can also improve the amount of money you end up with each month by keying in on expenses.

The Bottom Line

Adopt the mindset and lifestyle outlined in these five points and you will be well on your way to building a secure financial future. While the journey is long and the road not always easy, be sure to take the time to appreciate what you have. Taking time to savor the small victories will help you stay on your long-term course. Enjoy each success, no matter how small. After all, you earned it.

Reviewed by Samantha Silberstein
Fact checked by Vikki Velasquez

Whether you have an established financial plan or are just beginning to consider how to put your money to work, you should keep in mind the differences between saving and investing. These terms are often used interchangeably, but they represent different approaches to your finances. Consider saving and investing at different points in your life, but the key is to understand the pros and cons of each and how they fit into the bigger picture of your financial journey.

Key Takeaways

• Understanding the purpose of saving and investing helps in making informed financial decisions.
• Factors such as time horizon, risk tolerance, and financial goals may influence your choice to save or invest.
• Saving offers low risk and quick access to funds, while investing provides the potential for higher returns and wealth growth.
• Determining the right approach requires evaluation of your personal financial situation, goals, and comfort with saving and investing.

The Basics of Saving and Investing

Most people tend to confuse saving and investing. It’s easy to see why, though, because both involve setting money aside. But, the reasons and ways you save and invest are different, which we highlight below.

Saving

Saving refers to setting aside cash in a low-risk, low-return environment. This could include traditional or online savings accounts, money market accounts, certificates of deposit (CDs), or even a situation in which you hold onto cash outside of a financial institution.

Money held in one of these settings is more liquid than money in most investment types, which means you can access it more quickly and easily if necessary for emergencies or short-term goals. However, in exchange for carrying a lower level of risk than investments, these methods of saving money also provide less of a reward—in this case, they offer lower rates of return.

One of the key characteristics of saving is that you won’t lose your money. Although the return is generally low, the money you set aside in one of these accounts is insured by the Federal Deposit Insurance Corporation (FDIC) or the National Credit Union Administration (NCUA).

Investing

Investing your money means buying any of several different investment vehicles that carry a higher risk and, potentially, a higher reward. Investments may include stocks, bonds, exchange-traded funds (ETFs), commodities, real estate, and more.

There are many ways to access investments, including through retirement accounts, mutual funds, individual stock trading, and more. However, regardless of the type of investment or its particular risk and reward profile, the goal of all investments is the same: to grow your wealth over the long term. Keep in mind that not all investment vehicles carry the same levels of risk and reward. Some, such as bonds, may require months or even years before reaching maturity.

Factors to Consider When Deciding to Save or Invest

Saving and investing involve setting aside money for a future goal or expense. However, the time horizon, level of risk, and most pertinent financial goals vary depending on whether you are looking at saving or investing your money. Looking at these factors can help you determine what to prioritize:

Time Horizon

One of the biggest considerations when deciding whether to save or invest is your time horizon. To realize short-term goals, keeping your money in a savings account or similar vehicle may make more sense because you won’t hold the money long enough for it to grow significantly in an investment setting.

Bradley Baskir, vice president and financial advisor at Morgan Stanley, says that saving is usually better “when the time horizon for liquidity is under 12 months.” He adds that saving for short-term goals by “depositing that pool of money in a savings account may make more sense than investing it because [you] can feel confident that the money will be there” when the goal arrives.

On the other hand, other financial goals may be more significant or more open-ended. If you’re planning for retirement, you are more likely thinking years or even decades ahead. Longer-term goals like this benefit from an investment-centered approach. The longer time horizon of these priorities means your money has the opportunity to grow more significantly if it is invested. As such, you won’t need it to be liquid until you get close to reaching the goal at some point in the future.

Risk Tolerance

Your risk tolerance is the degree of risk that you are willing to take on given the potential volatility of a financial decision. Saving your money is less risky than investing it. If you invest your money, you stand to potentially lose your principal or initial investment.

Consider a situation in which you’re looking ahead to a longer-term financial goal. Given your time horizon alone, you might be inclined to assume investing is the best approach. However, if you are uncertain about your job, periods of volatility in the market, or what your financial situation will be, it may be safest to put your money in a savings account instead.

Note

Each person has a different risk tolerance, which is distinct from that person’s risk capacity, or capability to take on risk. Your risk tolerance may be dependent upon factors such as your age, financial goals, and income, among other factors.

Financial Goals

Laying out clear financial goals will help you to decide when it is appropriate to save or invest—or a combination of both. Financial goals may be large, such as preparing for a down payment on a home, a new vehicle, college tuition, or planning for retirement. They may also be more modest, such as saving for a small purchase or a short weekend trip.

The nature of your financial goals will influence your decision to save or invest. If your goal requires quick access to cash, you’ll likely opt to hold money in a savings account or similarly liquid space. On the other hand, if you hope for better returns on your money than can be achieved with savings account interest rates and over a long time, then investing may be the answer.

Many financial advisors recommend setting aside an emergency fund in a liquid account before considering investing.

Pros and Cons of Saving

Saving offers security but lower potential for rewards.

Pros

• Low level of risk

• Money is FDIC or NCUA insured

• Accessibility to your funds

• Ease of use

Cons

• Lower potential returns

• May erode purchasing power

Pros Explained

• Low level of risk: Saving your money entails a low level of risk, which means your money is safe.
• Money is FDIC or NCUA insured: In the event of a bank run, the Federal Deposit Insurance Corp. or National Credit Union Administration insures your deposits. Keep in mind that only certain deposit accounts are covered.
• Accessibility to your funds: Savings and similar accounts typically make it easy to access your funds.
• Ease of use: Most savings vehicles do not require regular upkeep or observation.

Cons Explained

• Lower potential returns: You won’t get as much bang for your buck by saving compared to investing.
• May erode purchasing power: Savings accounts may fail to keep up with inflation, which can erode your purchasing power over medium- and long-term time horizons.

Pros and Cons of Investing

Investing offers both benefits and downsides. Baskir notes that “investing is by nature a trade-off between risk and return, so those who are willing to stay the course in a diversified portfolio, over long periods of time, in any market environment, should stand to be rewarded with returns that outperform that of cash equivalents earned from saving alone.”

Pros

• Potential for (significantly) higher returns

• Align with your investment strategies

• Choose where you invest:

Cons

• Less liquid

• High volatility

• May require more monitoring

• Subject to external factors

Pros Explained

• Potential for (significantly) higher returns: You stand a better chance of earning higher returns on your principal. As your investments grow, they allow you to take advantage of compounding to accelerate gains.
• Align with your investment strategies: Investing in different asset classes, such as stocks, bonds, mutual, and ETFs, can help you achieve your investment strategy goals.
• Choose where you invest: Investing your money allows you to buy into companies, industries, and sectors that interest you or that you support.

Cons Explained

• Less liquid: Investments are less liquid than savings. It may take more time to access your funds, and it could potentially cost you money, as in the case of withdrawing early from retirement accounts.
• High volatility: Markets for stocks, commodities, real estate, and other assets are often highly volatile, meaning that you may not achieve gains and may even lose some of your principal.
• May require more monitoring: Some approaches to investing are very hands-on and require both time and specialized knowledge.
• Subject to external factors: Investors can be swayed by biases and emotion-based decision-making, which can adversely impact their investments.

Determining the Right Approach

According to Baskir, “saving is to walking what investing is to running.” He adds that it’s vital to “have enough saved up for a rainy day, typically equal to three to six months worth of expenses in the event of a layoff, health issues,” or other unexpected changes to a financial situation before investing.

To determine what works best for you, consider this checklist:

• Do you have an adequate cash cushion to cover three to six months of fixed expenses? If not, start saving.
• Do you have other short-term goals requiring quick access to cash (like travel plans)? If so, start saving.
• Are you on track to reach your retirement goals by your desired age? If not, start investing.
• Do you understand the risks involved in investing this money for a long-term goal such as retirement? You may not be able to access it until age 59½ without taxes and a penalty, plus you’ll face volatility risk, etc.
• Are you comfortable waiting to access your money to take advantage of compounding? If so, you may want to start investing.
• Do you feel comfortable with your current split of saving and investing every month? Where does it feel like you’re falling short?

Saving vs. Investing: Example

Let’s say you’re in your late 30s, single, and earn six figures. You have about two months of expenses in savings and just over a year’s salary in your company-sponsored 401(k). You also recently paid off your student loans and have $500 to reallocate to your other financial goals, which include:

• Boosting your emergency fund to cover at least three months of expenses
• Increasing your retirement savings to ensure that you will be able to retire at age 67 with an income that covers your needs
• Putting aside extra money for travel

The amount you decide to contribute to each category depends on your priorities. It’s also subject to change. For instance, you might decide that in the short term, creating an emergency fund that covers three months of expenses is most important. Once that goal is funded, you can move on to putting more money toward retirement (and fun). 

When to Save vs. When to Invest

Saving may be the best option to establish a rainy-day fund for short-term financial goals, for access to your funds on short notice, or if your risk tolerance is low and you want to protect your principal. Investing may make sense if you already have an emergency fund, are planning for long-term financial goals, seek compounding interest, can hold your funds in a less accessible account, or have a higher risk tolerance.

Choosing a Savings Account

A variety of savings accounts are available, including traditional accounts, online-only accounts, high-yield accounts, money market funds, and more. Check out Investopedia’s in-depth guide for an overview of many of the most popular savings account options and suggestions on how to pick the right account for you.

Choosing a Brokerage Account

Selecting a way to invest your money can be a much more complex question than selecting a savings account. Most beginning investors will use a brokerage account to facilitate trades. Many of the leading brokerages offer an easy-to-use interface, free trades in certain cases, and access to a variety of assets including stocks, mutual and exchange-traded funds, and more.

It pays to consider the ways you plan to invest—actively or passively, what types of asset classes you will target, and so on—and to use Investopedia’s guide to select a broker.

What Are the Advantages of Saving Instead of Investing?

Some of the advantages of saving over investing include a lower level of risk, easier access to your funds, and a comparably straightforward process.

What Factors Should Be Considered When Deciding Between Saving and Investing?

Keep in mind your financial goals—large or small, necessary or discretionary—and what the time horizons of those goals are. Your appetite for risk is also important. You can also allocate some funds to saving and some to investing in order to achieve both short- and long-term priorities.

Can Saving and Investing Be Done Simultaneously?

Absolutely. Advisors recommend that individuals set aside an emergency fund of several months’ worth of expenses in a savings account or similarly liquid option before considering whether to invest additional funds. Further, you may consider saving for some types of financial goals while you also invest in an effort to achieve other goals.

The Bottom Line

Saving and investing are sometimes used interchangeably, but they represent different ways of using your money. Saving refers to holding your funds in a low-risk, low-return savings account, CD, or money market account, while investing refers to buying and selling stocks, bonds, ETFs, mutual funds, commodities, and/or real estate.

Saving is generally better for investors with short-term financial goals, a low risk tolerance, or those in need of an emergency fund. Investing may be the best option for people who already have a rainy-day fund and are focused on longer-term financial goals or those who have a higher risk tolerance.

Warren Buffett gained his reputation as a legendary investor and business leader not just for his financial expertise but also for his ability to form successful business relationships.

Buffett, the CEO of Berkshire Hathaway (BRK.A), has consistently compared successful marriages to thriving business partnerships because he sees them as grounded in similar principles. His straightforward, at times humorous, advice on relationships offers practical wisdom for anyone looking to build lasting connections, whether personal or professional.

Key Takeaways

• According to Buffett, low expectations are the key to lasting marriages and business partnerships.
• He has said that selecting the right spouse is one of the most important decisions you can make.
• He has argued that people tend to become like the people they spend time with, recommending that people associate themselves with those who are better than them.

The Power of Low Expectations

Pushing back on the conventional wisdom that suggests one should have high standards going into a relationship, Buffett advises the opposite. “Do you look for brains? Do you look for humor? Do you look for character? Do you look for beauty? No,” he told students at the University of Georgia’s Terry College of Business in 2001. “You look for low expectations. That is the marriage that’s going to last—if you both have low expectations.”

His advice isn’t about settling for less, but about creating a realistic foundation for your relationships. Buffett said he applies the same principle to his business partnerships. “I want my partners to be on the low side on expectations coming in because I want the marriage to last,” he said. “It’s a financial marriage when they join me at Berkshire, and I don’t want them to think I’m going to do things that I’m not going to do.”

Buffett suggests that disappointment often stems from unrealistic expectations. By starting with modest expectations, both parties can be pleasantly surprised rather than consistently disappointed.

Choose Your Partners Wisely

Buffett doesn’t mince words when discussing the significance of choosing the right spouse. “The most important thing is finding the right spouse. If you make the wrong decision on that, you will regret it,” he said in a 2008 conversation with Ivey Business School students. “If you make that one decision right, I will guarantee you a good result in life.”

While Buffett has made billions in the financial world, he still says personal relationships serve as the foundation for overall success and happiness in life.

Buffett famously chooses companies with stable fundamentals combined with leadership teams that share his principles and vision for the long term. He has said that business partnerships should be approached with the same thoughtfulness as one might have when entering a marriage. For both, he says it’s important to have values and objectives that are aligned.

Associate With People Better Than Yourself

Perhaps more importantly, Buffett said in 2017 that good relationships are crucial because you become more like your partners. “You will move in the direction of the people that you associate with. So it’s important to associate with people that are better than yourself,” he said in a conversation with Bill Gates at Columbia University. “And the most important person by far in that respect is your spouse. I can’t overemphasize how important that is.”

The right partner in business and life doesn’t just stand by your side—they inspire you to become better. Likewise, in the business world, surrounding yourself with colleagues who can bring fresh perspectives and a strong sense of ethics can create success unlikely to be found on your own. It’s why Buffett says he always valued the contrarian thinking of his longtime business partner, Charlie Munger, and why he carefully selects business partners who complement rather than merely echo his own approach.

The Bottom Line

Warren Buffett says that both marriages and business partnerships depend on genuine interactions and realistic expectations, and he encourages people to select personal and professional partners carefully. Successful relationships require mutual understanding and shared values, he argues, rather than unrealistic standards or expectations.

Reviewed by Samantha Silberstein
Fact checked by Vikki Velasquez

The arrival of a baby can be both exciting and financially overwhelming. A baby can mean big changes and major expenses for new parents. How much money can you expect to spend on your little one in the first year? What financial tools should you consider creating? Here we’ll show you how to financially prepare for your family’s newest addition before they arrive.

Key Takeaways

• The cost of the delivery largely depends on the location of the facility and the health insurance policy.
• One-time costs include a stroller and nursery furniture.
• Other things to consider include the cost of child care and college savings plans.
• It’s important to have an emergency fund, especially if one parent stays at home.

One-Time Expenses

With a first born, you’ll be starting from scratch, from nursery furniture to a stroller to toys. There’s also the one-time medical expense of delivery.

Medical Bills

It is important to remember that the cost of routine birthing care is highly variable based on your location and insurance coverage.

In the United States, a woman with insurance coverage can expect to pay an average of $2,854 in out-of-pocket costs from pregnancy to postpartum, which includes labor and delivery. That’s according to the Peterson-Kaiser Family Foundation (KFF) Health System Tracker. Delivering via cesarean section had a higher average out-of-pocket cost ($3,214) than a vaginal delivery ($2,655).

According to a 2022 research article published by the Healthcare Cost Institute, the average price of labor and delivery was $13,393 in 2020 (an average of $17,103 for a c-section, and an average of $11,453 for a vaginal delivery). Prices varied by state and by hospital. The state with the lowest average price was Mississippi ($7,639) and the highest was California ($19,230).

If you have an insurance policy, review it to determine your out-of-pocket costs for prenatal care, hospital stay, tests, and postpartum care. Unfortunately, it’s nearly impossible to accurately predict how much you’ll pay without reviewing the health coverage you have available to you. Then, call the hospitals to get pricing information. Compare the hospitals against one another.

Important

An insurance policy and location are important factors when determining how much the delivery of a baby will cost. If you lack a private insurance program, Medicaid or the Children’s Health Insurance Program (CHIP) could be options for you and your child.

Travel

To get out and about you will most likely want to purchase a stroller, an infant car seat (required by law), a baby carrier, and a diaper bag. Like many of the things on this list, there is a wide range of costs.

Some brands of strollers come with a $1,000 price tag—or even higher. On the other hand, more modest options can be purchased new for under $150. Used equipment can be even more affordable.

At the very least, it’s worth buying a new infant car seat, because there’s no way to ensure that a used one hasn’t been compromised in an accident.

Home

At the very least, you’ll need a bassinet and/or crib with a mattress and sheets. Other fixtures are for convenience and comfort: a changing table, a rocking chair, a monitor, and a diaper pail. To keep your child occupied, you may want to consider a portable swing, bouncer, and play mat. The costs for these items range based on your budget, and all of them can be bought second-hand.

Feeding

Feeding costs will vary based on your particular situation. A mother who has no issues breastfeeding around the clock will see very minimal costs for months before a high chair and dishes are required. A breastfeeding pillow may be helpful. Perhaps nipple balm, as well.

If the mother will be pumping and storing breast milk, then a range of items will be needed: a breast pump, bottles, cleaning equipment, and storage bags. The cost of formula will also add significant costs to your first year of parenting.

Adoption

Adoption comes with its own set of expenses. The costs vary but can go as high as $50,000 or more. Some employers offer adoption benefits, such as time off or financial assistance. There are also government programs that may be worth exploring.

Ongoing Expenses

Once your baby arrives, the regular expenses to care for your little one kick in. Factor the following costs into your budget.

Child Care

Your single biggest budget item may be child care. Your child care costs will vary by where you live, how much care you require, and what type of care you use.

The Care Index pegs in-center child care costs at just under $10,000 per year. The average cost of a nanny is around $28,350 a year, but again, that can be higher or lower based on your location.

Some costs might be offset by a tax credit: the child and dependent care credit. Be sure to confirm if you are eligible.

Food

Once you begin feeding your child solid food, you can expect to spend roughly $100 a month. The early food costs for children are relatively small compared to what you will see from a teenager.

Clothing and Diapers

According to the USDA’s most recent The Cost of Raising a Child report, new parents should estimate clothing costs at around $670 up to $1,110 for the first two years. The amount ranges greatly based on personal preference and budget, but the lower end falls around $56 a month.

Diapers also vary in cost, but experts advise that you should budget at least $1,000 for diapers and $450 for wipes for the first year alone. That’s approximately $120 a month. Parents who choose to use disposable diapers should also expect to go through as many as 3,500 diapers in their child’s first year alone.

Making homemade cloth diapers out of repurposed fabrics (either fabrics you have on hand, or inexpensive fabrics found at thrift stores) is an option that would reduce diaper costs significantly.

Medical Bills

Plan on six wellness visits the first year for evaluations, immunizations, etc., and a few additional visits for illnesses. Check your health insurance policy for your rates.

If One Parent Stays at Home

If you become a stay-at-home parent, there are important budget changes to consider. First, you’ll have a reduced family income. You’ll also lose your benefits. And if you eventually decide to try to re-enter the workforce, your earning potential may not be where it once was.

Under the Family Medical Leave Act (FMLA), certain employers must grant you up to 12 work weeks of unpaid leave for your baby’s arrival. (Note: Small businesses do not fall under the FMLA.) Check to see what type of leave you may qualify for with your employer. If you take unpaid leave, calculate your regular expenses during that period—mortgage, utilities, insurance, groceries, etc.—and determine how you will meet those costs.

It’s a good idea to practice living on one income before the baby arrives. And work hard to try to build up an emergency fund of three to six months’ worth of living expenses.

Financial Tools to Consider

With your child’s arrival, you’ll want to create financial tools to help provide for your child’s future. Determine your priorities to begin budgeting.

College Savings Tools

According to the College Board Report, the average cost per year for college in 2024 to 2025 ranged between $11,610 to attend a public four-year in-state school and $43,350 for a private four-year education. Start saving now through one of several college education investment tools, such as a 529 plan, a Coverdell Education Savings Account, or an UGMA/UTMA account.

There have been some changes to the way some accounts can be used—namely the 529 plan. The Tax Cuts and Jobs Act (TCJA) of 2017 and the Setting Every Community Up for Retirement Enhancement Act (SECURE) of 2019 have expanded the use of 529 plans to include K to 12 education, apprenticeship programs, and the ability to pay down student debt.

The SECURE Act 2.0, passed in January 2023, offers another newly expanded benefit for 529 plans. It allows beneficiaries of these plans to roll over up to $35,000 from any 529 accounts in their name to a Roth IRA in their name over the course of their lifetimes.

Life Insurance

If you do not have life insurance, now is the time to buy it if you can afford to do so. For just a few dollars a month, you can be assured that your child will have financial resources if you and/or your partner were to die unexpectedly. Talk to your employer or an insurance agent for options on both life insurance and disability insurance. 

Health Insurance

Without health insurance, just one serious accident or illness could deplete your savings and put you in significant debt. Investigate your insurance options if you don’t already have coverage, or budget for the increased monthly premium to add your child to your policy.

Flexible Spending Accounts (FSAs)

Flexible Spending Accounts (FSAs) enable you to use pretax dollars to pay for important family budget items, like child care and healthcare expenses. Talk with your employer or financial advisor about setting up a dependent-care FSA and/or healthcare FSA. 

Ways to Save Money

No matter your income, there are numerous ways to meet your new baby’s needs without breaking the bank:

• Consignment/Thrift Stores: Babies grow quickly. Instead of paying full price for their clothing, check out gently used and even new items at your local consignment or thrift store. Many stores will also buy back items after your child has outgrown them for cash or store credit. Online swap groups and parent networks can also provide quality goods for little money—and sometimes, it’s free. 
• Family/Friends for Back-Up Childcare: Instead of having to take a day off (possibly without pay) when your child is sick, make arrangements for family or friends to help out with emergency back-up daycare.
• Borrow Items from Friends: Ask friends with young children if you could borrow items—particularly big-ticket items they’re not using, like a crib, high chair, or rocking chair.
• Baby Shower Gifts: Register so party-goers can buy what you really need and avoid ending up with what you don’t.
• Downgrade Your Lifestyle: Having a child is going to change a lot of things, including your financial priorities. After reviewing your new budget, you may not be able to make the numbers add up. Consider closing the gap by downgrading in a few key areas. For example, think about trading in your vehicle for a more affordable model, shopping at less expensive stores, or buying more generic items.

How Much Does It Realistically Cost to Have a Baby?

From pregnancy to postpartum care, it costs an average of $18,865 to have a baby, according to the Peterson-Kaiser Family Foundation (KFF) Health System Tracker. That includes childbirth. For families with health insurance, the cost is much lower, with out-of-pocket costs averaging $2,854.

How Much Does Daycare Cost?

On average, daycare was $343 per week in 2024. (In 2023, it was $321 per week.)

How Expensive Is a Nanny?

In 2024, a nanny cost an average of $827 per week. (In 2023, it was $766 per week.)

The Bottom Line

Children are a wonderful gift—but an expensive one. Good health insurance can protect you from hospital bills for the most part, but only planning and budgeting can help you handle the rest.

Reviewed by Chip Stapleton
Fact checked by Suzanne Kvilhaug

Investors can monitor the financial health of a company by understanding its debt. Gross debt is the total of the book value of a company’s debt obligations. Net debt is the company’s gross debt minus any cash and cash-like assets on the balance sheet. Net debt tells investors how much remains on the balance sheet if the company pays all obligations with its existing cash balances.

Key Takeaways:

• Gross debt is the total book value of a company’s debt obligations.
• Net debt is the book value of a company’s gross debt minus any cash and cash-like assets on the balance sheet.
• Net debt is a liquidity metric used to determine how well a company can pay all its debts if they come due immediately.

What Is Gross Debt?

A debt is money borrowed from another entity. Debts typically involve paying interest to the lender and may include bank loans, mortgages, and bonds. Gross debt is the total debt a company has at a specific time. For example, if a small business borrows $40,000 from a bank and $10,000 from a family member and has no other debts, the gross debt is $50,000.

Burdensome debt loads can be problematic for company stakeholders. Just because a company has more debt does not necessarily mean it is financially worse off than a company with less debt. For example, what may appear to be a large debt load on a company’s balance sheet may be smaller than an industry competitor’s debt on a net basis. Investors can look to net debt to further evaluate the company’s books.

Note

Net Debt = Short Term Debt + Long Term Debt – Cash or Cash Equivalents

Evaluating Net Debt

Net debt reveals additional details of a company’s financial health beyond gross debt. Net debt compares metrics between industry peers. A company’s balance sheet is used to calculate net debt. Net debt also provides insights into a company’s operational strategy.

If the difference between net and gross debt is substantial, the company has a large cash balance along with significant debt. This may occur due to liquidity concerns, capital investment opportunities, and planned acquisitions. Therefore, net debt should be examined using an industry benchmark and company strategy.

Why Is Net Debt Important During an Acquisition?

Net debt is a key factor during a buyout. When a buyer is looking to acquire a company, net debt is more relevant than gross debt from a valuation standpoint. A buyer is not interested in spending cash to acquire cash. It is more meaningful for the buyer to use the target company’s debt net of its cash balances to accurately assess the acquisition.

What Is the Difference Between Short-Term and Long-Term Debt?

Short-term debt is due in one year or less and can include short-term bank loans, accounts payable, and lease payments. Long-term debt has a maturity date over one year and includes bonds, lease payments, and term loans.

What Is Enterprise Value?

Enterprise value (EV) measures a company’s total value. It measures the market capitalization of a company, its short-term and long-term debt, and any cash or cash equivalents on the company’s balance sheet. Enterprise value is often used as a more comprehensive alternative to market capitalization when valuing a company.

The Bottom Line

Gross debt is the total book value of a company’s debt obligations that includes short term and long term debt. Net debt is gross debt minus any cash and cash-like assets on the balance sheet. Net debt tells investors how liquid a company is and how well the business can pay its debts if they come due immediately.

Fact checked by Giselle Cancio

Many assume the ultra-wealthy pay sky-high inheritance taxes. In reality, most pay far less than expected—or even nothing at all. How? Through a mix of high exemptions, legal trusts, and strategic gifting that shift tax burdens away from their heirs.

By following the same key strategies that reduce inheritance taxes and learning the loopholes that keep wealth in the family, you may be able to take your estate planning up a notch.

Key Takeaways

• Wealthy individuals often use legal strategies like trusts, gifts, and charitable donations to minimize inheritance taxes.
• High exemptions mean most estates avoid federal estate taxes, but proper planning also ensures that heirs don’t face unexpected tax bills.
• Estate planning isn’t just for the super-rich—it helps families at all income levels protect their assets and ensure a smooth transfer to heirs.

How Inheritance Taxes Work

Inheritance taxes are often misunderstood, and for good reason. Depending on where you live, they might take a sizable chunk of an estate—or leave heirs with no tax bill. The federal threshold is so high that most estates fall well below the taxable limit.

For those who owe, strategies like trusts, gifting, and charitable donations can significantly lower their tax liability and, in some cases, eliminate it.

Inheritance Tax vs. Estate Tax

Though often confused, inheritance and estate taxes are distinct.

• Estate tax is taken from the total value of a deceased person’s estate before assets are distributed.
• Inheritance tax is paid by heirs on what they receive, but only in certain states. The federal government imposes estate taxes, while inheritance taxes depend on state laws and a beneficiary’s relationship to the deceased.

Federal vs. State Inheritance Taxes

As of 2025, the federal estate tax exemption, or the amount an individual can pass on tax-free, stands at $13.99 million. This high threshold means that many estates fall below the taxable limit, thereby reducing potential tax liabilities.

Only six U.S. states impose an inheritance tax, making it easier for wealthy individuals in most regions to avoid this tax altogether. Plus, federal tax thresholds are so high that many estates don’t reach them, further reducing tax liabilities.

Common Misconceptions About Inheritance Taxes

It’s a common misconception that wealthy individuals pay substantial inheritance taxes. In reality, tax exemptions, trusts, and smart financial strategies can significantly reduce their payments. Since only a handful of states impose inheritance taxes and the federal estate tax exemption is so high, most estates owe little to nothing. In many cases, careful planning can result in little to no inheritance taxes for heirs.

How Wealthy Families Minimize Inheritance Taxes

Wealthy families often pass down fortunes while paying little to nothing in inheritance taxes. They accomplish this through high estate tax exemptions, strategic gifting, and estate planning tools like trusts. All of these methods legally minimize tax obligations and, in some cases, eliminate them altogether. Here’s how they do it.

Tax Exemptions and Thresholds

The federal estate tax exemption is extremely high—$13.99 million in 2025—meaning estates below this threshold pay no federal estate tax. If an estate exceeds this amount, tax planning becomes essential to reduce the tax burden.

One key strategy used to minimize estate taxes is the step-up in cost basis, which can significantly reduce capital gains taxes for heirs. Jason Escamilla, CFA, founder, CEO, and Chief Investment Officer of ImpactAdvisor LLC, explains that with proper planning, inherited assets can transfer tax-free if they remain below the estate exclusion limits.

“That comes across completely tax-free when you do the proper planning and when you’re below the estate exclusion limits,” he said.

Trusts and Estate Planning Strategies

Dynasty trusts, revocable trusts, and other strategies allow wealthy individuals to transfer assets without triggering high tax liabilities.

Beyond trusts, estate planning strategies like wills, beneficiary designations, and family-limited partnerships can also help structure wealth transfers efficiently.

Proper planning allows your assets to be distributed according to your wishes while minimizing tax exposure and reducing legal complications.

Setting up a trust can help reduce inheritance tax liability and provide long-term financial benefits for your heirs. Learn how to create a trust fund for your family.

Gifting Strategies

Gift-giving is another tool used to reduce the size of taxable estates and pass on wealth to heirs with minimal tax liability. However, deciding when to give and when to hold assets does require careful planning. Every time you sell an asset and pay taxes, you have less wealth working for you.

Escamilla cautions, “It’s important to keep in mind, ‘every time I do that I have less wealth.’ And so it’s a constant trade-off to consider—do we just let it ride?”

Holding onto appreciated assets until inheritance can allow heirs to benefit from the step-up in cost basis, which eliminates capital gains taxes on past appreciation.

Charitable Giving As a Tax Shield

Charitable donations can not only help causes that matter but also reduce taxable estates. By giving to charity, wealthy individuals can lower their estate’s taxable value, which reduces their inheritance taxes.

Escamilla explained that tax planning around charitable giving allows people to be more intentional with their donations, making sure that they align with their long-term financial strategy.

“You can do tax planning around it and then you can be thoughtful and say…we really wanted to donate this anyway, you know, and so we’re going to donate it in a couple of years,” he said.

Valuation Discounts for Family-Owned Businesses

Family-owned businesses can use valuation discounts to reduce the taxable value of the estate and help heirs retain more wealth after inheritance. Valuation discounts allow certain assets, like family-owned businesses, to be appraised at a lower value for tax purposes, reducing the overall estate tax burden.

For example, a Discount for Lack of Marketability (DLOM) accounts for the difficulty in selling a privately-held business interest, while a Discount for Lack of Control (DLOC) reflects the reduced influence of someone with minority ownership.

The Bottom Line

For those managing inherited assets, a lack of awareness can lead to costly mistakes.

“People eventually take over management for their parents, and this is very important, but they’re not thinking about these things. When they take this stuff over, they might think, let’s blow out these stocks, and let’s do this,” said Escamilla. Selling assets haphazardly can trigger unexpected tax bills, reducing the value of the inheritance.

Careful tax planning is crucial. Wealthy folks often pay less thanks to strategies like high exemptions, trusts, gifting, and charitable donations. Learning how these strategies work can give you more control over your own estate planning, allowing you to reduce unnecessary taxes.

Whether you’re part of a high-net-worth family or simply looking to protect your own wealth, it’s never too early to start planning for a smoother transfer to your heirs.