What's Rich? Down and Out on $250,000 a Year

By most measures, a $250,000 household income is substantial. It is six times the national average, and just 2.9 percent of couples earn that much or more. “For the average person in this country, a $250,000 household income is an unattainably high annual sum — they’ll never see it,” says Roberton Williams, an analyst at the Tax Policy Center, a nonpartisan think tank in Washington, D.C.

But just how flush is a family of four with a $250,000 income? Are they really “rich”? To find the answer, The Fiscal Times asked BDO USA, a national tax accounting firm, to compute the total state, local and federal tax burden of a hypothetical two-career couple with two kids, earning $250,000. To factor in varying state and local taxes, as well as drastically different costs of living, BDO placed the couple in eight different locales around the country with top-notch public school districts, using national data on spending.

The analysis assumes that this hypothetical couple – let’s call them Mr. and Mrs. Jones – are each on the payroll of companies, with professional positions. They take advantage of all tax benefits available to them, such as pretax contributions to 401(k) plans and medical, childcare and transportation flexible spending accounts. They have no credit card debt, but Mr. Jones racked up $40,208 in student loan debt in undergraduate and graduate school, and Mrs. Jones borrowed $22,650 to get her undergraduate degree (both amounts are equal to the national averages for their levels of education). They also have a car loan on one of two cars, and a mortgage for 80 percent of the value of a typical home in their communities for a family of four, which includes one toddler and one school-age child.

The bottom line: It’s not exactly easy street for our $250,000-a-year family, especially when they live in high-tax areas on either coast. Even with an additional $3,000 in investment income, they end up in the red — after taxes, saving for retirement and their children’s education, and a middle-of-the-road cost of living — in seven out of the eight communities in the analysis. The worst: Huntington, N.Y., and Glendale, Calif., followed by Washington, D.C., Bethesda, Md., Alexandria, Va., Naperville, Ill. and Pinecrest, Fla. In Plano, Texas, the couple’s balance sheet would end up positive, but only by $4,963.

Taxes take a hefty toll. Everything from property taxes and the alternative minimum tax to the taxes tacked on to cell phone bills and the high cost of gas, when combined, takes a massive bite out of earnings – in some cases even more than the federal income tax toll. And it’s not likely to get better anytime soon. States and municipalities have been steadily raising income tax rates to help close gaping holes in their budgets. Property taxes are also increasing, even though real estate values have cratered. And sales taxes are hitting record levels, in some areas nearing 10 percent. Gas taxes, alcohol taxes and hidden surcharges on everything from airline flights, ferry rides, soda, vehicle registrations and rental cars have also been stealthily rising.

On top of that, additional tax increases for couples with salaries of $250,000 or more (and singles earning $200,000 or more) are scheduled to go into effect in 2013 under the health care bill passed last March. Plus, unless Congress acts, the Bush era tax cuts will end in December next year. 

Thinking About Tomorrow
Being in the red on a $250,000 annual salary may still seem surprising. But taking responsibility for their retirement and their children’s future is costly. They are maximizing contributions to two 401(k)s--advice that's championed by almost every financial advisor in the country--and all flexible spending accounts available to them, and they are squirreling away $8,000 a year for their kids’ college educations. Their spending is conservative, based on national averages for professional couples with two kids. Not included are those hefty run-of-the-mill payouts for charitable deductions, life insurance premiums, disability insurance, legal fees – or monthly sessions at the hair colorist, or membership at a gym.

As educated professionals, they buy books, newspapers and magazines; they own computers and pay for Internet access. But the Joneses don’t take lavish vacations, don’t belong to a country club, don’t play golf, don’t drive luxury cars, don’t have a swimming pool, don’t buy designer clothes, don’t own or rent a second home, and don’t send their kids to private school. They don’t even shop for groceries at high-end markets. (They spend what the United States Department of Agriculture defines as a “moderate” amount on food for the average family of four.) In short, they’re not “wealthy,” even if they’re in the top 5 percent of earners.

In reality, to make ends meet, this squeezed couple would have to cut back on discretionary expenses – take a pass on a new suit, skip an annual vacation, and drop some kids activities. Unfortunately, the family would also probably save less, at the expense of their retirement or their kids’ educations.

State income taxes, taken alone, are just $10,557. But factor in the gas tax ($2,679), property tax ($15,222), phone service taxes and surcharges ($350) and sales tax ($2,258), and the picture looks far different. Their total tax bill, including the AMT and payroll taxes: $78,276.

“When most people think about taxes, they think first about federal income taxes, then maybe about sales taxes, but there are a lot of taxes out there,” says Mark Robyn, an economist with the Tax Foundation, a nonprofit tax research group in Washington, D.C. “It’s eye-opening to step back and take a look at the whole picture.”

The State Difference
Moving to a state with no income taxes or low taxes in general would help the Joneses bottom line. In Pinecrest, Fla., a suburb of Miami, they would owe zero state income tax, and pay an annual $10,976 in property taxes, $1,833 in sales taxes and $350 in phone service taxes, for a total state and local tax burden of $13,476. Because they would have no deduction for state and local taxes on their federal tax return, they would have to pay Uncle Sam more than they did in Huntington: $31,768. Still, the total tax burden would be significantly less: $61,621, versus $78,276 in Huntington and $71,683 in Glendale, a suburb of Los Angeles.

But for most, moving to a low-tax state midcareer is difficult, if not impossible. People are generally bound to their high-tax states by their jobs. And often, it’s tough to find high salaries in low-tax states like Florida.

What $250,000 Buys for a Family of Four
The $250,000 threshold was first mentioned in a campaign speech by President Obama in 2008. “It’s an historical accident,” Williams says. “I don’t think there was any thought given to why $250,000 — it became a mantra.” Whether or not $250,000 represents affluence “depends a great deal upon where you live,” he says.

Consider, for example, the tab for the same assortment of ground beef, tuna, milk, eggs, margarine, potatoes, bananas, bread, orange juice, coffee, sugar and cereal: In Twin Falls, Idaho, $23.41. In New York City in December of 2010, you would have to shell out 72 percent more, $40.29, according to The Council for Community and Economic Research. That higher percentage carries across all expenditures, from child care costs to haircuts.

Of course, housing costs are one of the biggest variables. In Glendale, the Joneses can live reasonably well – but not extravagantly — in a three- or four-bedroom home valued around $750,000. In Twin Falls, you would need to spend about half as much on an equivalent home.

After covering taxes and only essential expenses for housing, groceries, child care, clothing, transportation — and their dog, the Joneses would still be in the red by $1,787 in Huntington. In Plano, Texas, they would have $27,556 to spare. Factor in common additional expenses for a working couple with two children – music lessons, day camp costs, and after school sports, entertainment, cleaning services, gifts, and a annual week-long vacation – the Joneses get deep in the red in Huntington to the tune of $23,178. In Plano, the best case scenario, they would still have money to spare, but just $4963.

Some of the expenses incurred by couples like the Joneses may seem lavish – such as $5,000 on a housecleaner, a $1,200 annual dry cleaning tab and $4,000 on kids’ activities. But when both parents are working, it is impossible for them to maintain the home, care for the kids and dress for their professional jobs without a big outlay.

And costs assumed by the Joneses could be significantly higher if their circumstances changed. For example, if they worked for themselves, they would have to foot the bill for all of their medical insurance premium, which averages $14,043. As it is, they pay 30 percent of the premium and their employers pay the rest.

Bottom line: For folks like the Joneses who live in high tax, high cost areas, who save for retirement and college, pay for child care to enable two incomes, and pay higher prices for housing in top school districts ─ $250,000 does not a rich family make.