Why You Shouldn't Wait until December to do Year End Tax Planning
Why You Shouldn’t Wait Until December to Do Year End Tax Planning
Most people fear the thought of tax planning since it’s no simple task. Task planning is more than just filling your returns. It involves seeking and adopting techniques that can help reduce tax owned. So, it makes sense to start to do tax planning earlier in the year rather than later.
Yes! December seems like the perfect month on the tax calendar. However, that’s not the case. Individuals and businesses that wait until December are likely to pay more taxes than those who start earlier.
Here, we’ve highlighted several other reasons starting a tax plan earlier is a good idea. Let’s dive in!
Importance of Tax Planning
Having a tax plan allows you to forecast your tax liabilities ahead of time. This way, your Certified Public Accountant (CPA) can identify strategies that can reduce your future taxes. Here are four reasons tax planning is crucial.
To Pay Less
Perhaps one of the most important reasons to plan your tax is to reduce overall taxes. Most individuals can benefit from tax planning, but it applies mostly to those in these situations:
- Self-employed or small business owners
- Individuals with investments with huge unrealized losses or profits
- Those who’ve encountered a major life-changing event during the year, including marriage, divorce, selling a home, or having a child.
- People who have moved between states
- Those sending their kids to colleges for the first time
- People who have bought health insurance from the government health exchange
Enough Time to Implement Planning Ideas and Take Advantage of Benefits
Having a tax reduction strategy ahead of time allows individuals and businesses to take advantage of their benefits. Although you can achieve some strategies within a short time at the last minute, most require enough time for proper analysis and implementation.
Usually, it takes months to transfer incomes between people and companies. Also, it takes a lot of time to process the most tax advantages company retirement plans, which must be done by December 31.
It’s wise to plan for tax in early October or early November. We recommend business owners or individuals with a complicated tax situation to plan early enough, especially those with a 401 (k) or any other retirement plan requiring deferred wages. This way, they can complete the plan and implement it before December.
To Leverage Annual Tax Changes
At least every year, tax laws undergo different changes. While most times changes are minor, sometimes they are significant. Irrespective of the changes in tax law, one thing remains clear- tax results for every year differ.
These tax law changes make tax planning crucial so you can leverage the changes. Maybe you need to delay something until the next law takes effect. Or maybe you need to take advantage of a certain law before it expires.
It’s crucial to stay informed about expiring laws or newly implemented laws so you can be in a suitable position for planning your tax.
Tax Reduction Strategies Often Have a Firm Deadline
It’s no secret! All tax planning ideas become useless when New Year’s Eve arrives. Whether you have good ideas or your bookkeeping expert has, they have to be implemented before the end of the year.
Benefits of End Year Tax Planning
The best way to determine the benefits of end-year tax planning is by using an example.
Mary’s total payable tax was $23,392, but at the end of the year, she ended up paying $29,382. Why is that? The extra cash was because she incorrectly filled her taxes, which resulted in her losing $5,990.
If Mary had adopted a strategy, then she would have saved an extra $7,239. Her total payable tax would have been reduced to $16,153. That’s a $13,299 savings or 45%.
As you can see, creating a tax plan earlier can help you save more on your current and future taxes.
The downside of End Year Tax Planning
As we said earlier, tax planning is no simple task. It involves accessing your situation and testing different strategies to find which one best meets your needs or business needs.
Because a lot of work goes into preparing a tax plan, most people fear doing the task. That’s why they prefer hiring an accounting expert.
With that said, you’ll understand the importance of planning your taxes earlier once you see how much money you can save. If you don’t want to go through the hassle of creating the tax plan, you can pay a professional CPA.
You can hire a CPA for $10,000 and reduce your annual tax by even $30,000. If you ask us, that’s a small price to pay. However, if you wait until the end of the year, your CPA might suggest strategies that might be too late to implement.
Is End Year Tax Planning Worth it?
"The best time to plant a tree was 30 years ago. The next best time is today."
This old quote applies to tax planning as well. It’s crucial to plan for your tax early, even if it’s late December already.
If you don’t have enough time to do tax planning this year, it doesn’t mean you can’t do it next year. Next year, start preparing in advance, as early as March.
Most accounting companies often concentrate on tax planning after the tax season. This is because they will have enough time to focus on finding the right strategy. While most of these firms offer their service during the summer months, others offer year-round services and focus mainly on tax planning.
Getting Started with Tax Planning
There are several ways you can create a tax plan. The easiest way is to hire an accounting firm offering the service. But if you plan to do it yourself, consider following the tips below.
Estimate Your Total Income
The first tax planning step involves determining the amount of cash you have or the income you expect to earn by the end of the year. If you’re an employee, the W-2 sent by the employer will be your primary source. Also, you might have several 1099s for miscellaneous income.
Business owners will either need to file a business tax return or Schedule C. No matter your choice; you will need to report your earnings and expenses, handle payroll deductions, worry about depreciation, and pay members' taxes.
Since this can be a bit difficult and sometimes messy, we recommend you seek the help of a bookkeeper.
Review Your Potential Gains and Losses
When making a tax plan, you need to factor in your gains and losses. Profits will mean you will owe the federal government additional taxes on your income. But you can offset the profits by selling your other investments at a loss. Consider selling investments or securities that lack value to lower your overall annual tax.
Time Your Financial Transactions
The perfect way to minimize your tax liability is to defer revenue and increase expenses. I know you’re curious what that means. Let’s explain.
This mostly benefits small business owners with significant revenue and a high volume of expense transactions. But it also applies to individuals. You can defer revenue, income and speed up your expenses in different ways, including:
- Increase expenses like contributing to a charity organization
- Use a 529 plan to save for your kid’s college education
- Be part of a deferred compensation plan
- Accelerate your retirement plan contributions, whether 401 (k), IRA or 403(b)
When you contribute your taxable income to a qualified organization, it’s a win for you. The donation excludes you from paying taxes, and you may even receive a deduction. You can visit the IRS site or consult your tax advisor for more info.
Leveraging retirement benefits might seem reserved for individuals, but business owners can also take advantage of it. Owners with extra income can set up a 401 (k) in their business for themselves or their workers. Additionally, there are many small business retirement plans like SEPs and SIMPLE IRA.
Businesses can legally claim a tax credit that can help cover the expense of setting up and managing a 401 (k). The best part is the businesses can match the plan contributions of members. As such, they can deduct that from their expenses.
Another way people can avoid income tax on their money is by using it. They can invest in tax-free or tax-deferred securities, such as.
- Roth IRA contributions
- Municipal bonds
- US saving bonds
- Selecting the Perfect Deduction
There are two deduction options available for individuals, namely: Itemized and standard deduction. You’re allowed to select one option each year.
In standard deduction, you reduce your taxable income in terms of dollars. With itemized deductions, you can claim certain specific expenses on your adjustable income to reduce your taxable income.
Most people often opt for the standard deduction since it allows them to pay less tax. On the other hand, Itemized deductions are reserved for rich citizens.
Individuals who pay medical bills or contribute to charities should consider the itemized deductions.
Keep Your Documents
If you own a business, it's wise to retail all your documents like financial statements because they will come at hand when you're filing your returns. Other documents you should keep include deposits slips, contracts, purchase orders, receipts, or any other document related to the transactions.
Besides that, individuals and business owners should also keep copies of their last three-year returns after-tax filling.
Retaining documents will not only come in handy in tax filling. They provide you with a deep insight into your finances to help your plan for the future. The best CPA will appreciate looking at your old returns so they can better plan for feature events.
Have Knowledge of Tax Credits
Unlike deductions, credits reduce people’s tax liability dollar for dollar. As a result, they’re the best option to reduce the tax burden. But that’s if you qualify for them. Examples of tax credits you can take advantage of include:
- Earned income credit–suited to low-income earners
- Education credits - Numerous options available
- Child tax credit–About $2,000
- Adoption credit with two–Available after adopting a kid
- Business owners should check out the credits below
Family Leave Act - Provides qualifying workers two weeks of paid leave yearly plus other paid time off.
Green initiative tax credit: Perfect for businesses that have integrated energy-efficient technology into their facilities.
Research and development tax credit: Suitable for businesses that conduct product development or business performance research.
Disabled persons access tax credit: Available for businesses that modify their buildings to meet the needs of people with disabilities.
Work With a Professionals
This might sound like a repetition but bear with us. Navigating the world of taxes alone is not easy, especially if you’re a business owner. That’s why sometimes it’s wise to outsource the service to an accounting firm. The same goes for people with complicated investments, deductions, or contributions.
Certified accountants or CPAs understand how to navigate tax laws. They have spent many years familiarizing themselves with the laws, something an average person might need several years to learn.
Nevertheless, this doesn’t mean you can’t file your own returns. But if you wish to receive tax breaks, you're owed by the federal government. It's wise to seek help from an expert. A professional will walk you through all tax planning steps.
Pay fewer taxes in the future or save on retirements plans while retaining financial and accounting records will set you or your business up for success.
Final Thoughts from the Hall Accounting Team
If you have an effective tax plan, you offset your tax burden and boost your tax efficiency. Other benefits include reducing healthcare expenses or offering your retirement with contributions.
However, you can only develop a strong tax planning strategy when you start early, not when the year ends. Keep in mind creating a tax plan early will help you save more on your annual income tax.
Monthly tax planning services are a fantastic tool to do this. At Hall Accounting, we have had tremendous success with our monthly clients. Schedule a call today to learn more about this service, and see if it is a good fit for you and your business.
You can also email us at email@example.com and we will get you a free quote!
Estimated tax payment for 2nd quarter of 2022 (Form 1040-ES)