Everyone who lives or works in the United States is responsible for paying taxes. Taxes can be a major source of stress for many individuals, but they don’t have to be. With proper tax planning, you may be able to reduce your tax burden or earn a larger refund at the end of the year. Without adequate insight, many taxpayers miss potential tax benefits and pay more than necessary.
It’s important to anticipate taxes as you create your financial plan. Thoughtful tax planning is vital for any wealth-management strategy. It can help you save for your child’s education or a retirement fund, grow your small business, maximize your income and protect you from legal penalties, among other advantages. Read on to learn about what tax planning entails, its potential benefits and how to get started.
What Is Tax Planning?
The definition of tax planning is simple. It involves analyzing your financial situation so you can minimize your tax liability. It allows you to owe less and earn back more. At the end of tax season, it can result in hundreds or thousands of dollars in your pocket, depending on your situation.
Tax planning is an essential part of any financial plan for individuals, families or businesses. Proper planning allows you to understand which tax benefits you qualify for. You might be able to take advantage of:
- Deductions: Tax deductions allow you to reduce your taxable income. They’re usually expenses you incur throughout the year, which you can subtract from your total income. A deduction might include a charitable donation.
- Rebates: Rebates are a form of a refund, which occur after a retroactive tax decrease. Congress sometimes offers rebates to help stimulate the economy during financial recessions. They’re also used to incentivize environmentally friendly practices.
- Credits: Credits allow you to subtract from the total you owe. If you’re a student, a low-income family or you have children, you may qualify for a tax credit.
- Concessions: A tax concession is a government reduction in the amount a certain group of people owes. They’re usually used to incentivize certain behavior.
- Exemptions: Exemptions reduce or eliminate someone’s responsibility to pay. Dependent-related exemptions allow you to reduce your taxes by a certain amount for each child or other relative under your care.
Anyone who’s liable to pay taxes should consider tax planning. That includes everyone from low to medium-income individuals, parents, those near retirement, small businesses and massive estates. Without tax plans, you may end up paying more than necessary or not saving as much as you could.
Different Types of Tax Planning
The four basic types of tax planning include:
- Federal income tax planning: It’s wise to plan your federal income taxes. Federal income tax deductions might include student loan interest, college savings and charitable donations. Credits might include a child tax credit, an earned income tax credit or an American Opportunity tax credit.
- Retirement tax planning: With proper planning, you can reduce your tax liability and maximize your income post-career. This involves best utilization of an individual retirement account or 401(k) plan and careful calculation of your Social Security benefits.
- Estate tax planning: When someone passes away, their estate may be subject to federal estate taxes. Those who fall into this category require estate tax planning to preserve their estate’s value. Some states also demand an estate tax, sometimes at lower value thresholds.
- Small business tax planning: Small business and self-employed workers have unique tax responsibilities. Applying the right deductions is critical. For instance, if you work out of a home office, you may be eligible for a deduction. You might also deduct the cost of vehicles, office equipment, travel and other business-related expenses. If you’re starting a new business, it’s important to take advantage of any tax relief.
Benefits of Tax Planning
Tax planning has many short-term and long-term benefits. The main short-term benefit is more money in your pocket after tax season. Long-term benefits might include any of the following, depending on your situation:
- Solving tax issues: If you owe back taxes or have other tax issues, planning can help you address these concerns and find a solution.
- Building a college fund: Tuition costs have risen exponentially in previous decades. If you want to build a college fund for your child, you can take advantage of the American Opportunity Credit to help you minimize future education expenses.
- Supporting your business: Starting or sustaining a business is challenging for many reasons — tax liability need not be one of those reasons. With small business tax planning, you can boost your business and accumulate more resources for growth.
- Saving for retirement: Your retirement contributions can grow tax-free over time, resulting in a sizable nest egg for the future. Retirement might seem a long way off, but early planning is vital for a comfortable post-career life.
- Maximizing an estate: If you have an estate large enough to incur state or federal estate taxes, proper planning can make a notable difference for your family’s finances, reducing your liability.
- Securing more for your heirs: With thoughtful tax planning, you’ll have more to pass on to your heirs. You can also work to minimize your heirs’ inheritance tax liability, so they can keep more of your lifetime earnings.
Planning Ahead for Tax Day
Creating a plan for tax day can make a difference for your finances, solve tax-related issues and minimize your liability. If you’re new to tax planning, you’ll need to know how to get started. Tax planning might seem complicated and overwhelming at first glance, but the following tips can help simplify the process.
1. Review Your Tax Return
Take a close look at your tax return for the previous tax season — it details almost everything you need to evaluate your financial situation. You might need expert assistance to help you map out future choices. Nevertheless, here’s a quick guide for interpreting your tax return:
- Page 1: On the first page of your tax return, you’ll find your basic demographic information. Double-check this to make sure everything is up-to-date and accurate.
- Lines 6a through 6d: This section documents your exemptions, including dependents. Make sure your exemptions make sense and none are missing.
- Line 7: This includes any wages earned from traditional employment, including any W-2s. Those who are retired might find this line blank.
- Lines 8a through 8b: These lines document any interest payments you’ve received and reported through a 1099 interest form, including interest from bank accounts or investments.
- Lines 9a through 9b: Here you’ll find any dividends you received from investments, found on a 1099 dividend form.
- Line 10: This includes the state refund from the previous tax year.
- Line 12: This line shows income from a business you own or your earnings if you’re self-employed.
- Line 13: Line 13 shows any capital gains from the previous year. This number can be positive or negative.
- Lines 15a through 15b: You’ll need to take note of this section if you’re retired. It includes income you received through retirement plan distributions, found on a 1099 retirement form.
- Lines 20a through 20b: This is your Social Security income, which can incur taxes.
- Line 22: Your total income is found on line 22.
- Lines 23 through 35: Here you find any income subtractions, including health savings account deductions.
- Line 40: This subtracts a standard deduction or itemized expenses.
- Line 42: This subtracts any exemptions.
- Line 43: Line 43 shows your taxable income, which is your total income with all subtractions applied. You can use this number to find what tax bracket you’re in.
- Lines 64 through 74: This shows how much you paid in federal income taxes throughout the year, including withholdings or estimated payments. If you overpaid, you’ll receive a refund.
- Line 76 through 77: Here you’ll have your refund paid if you qualify for one. You can apply it right away or on the next year’s tax returns.
- Lines 78 through 79: These lines show any tax bills, which you have to pay by the filing deadline to avoid a penalty and interest.
2. Gather the Forms You Need
Before you can start tax planning, you’ll have to gather all important tax-related forms. They’ll help you identify your situation and any possible tax advantages. In addition to your tax return and W-2s, gather each of the following documents, if applicable:
- 1040 tax form: The 1040 tax form is a standard taxpayer form needed to file your tax returns. It calculates your total taxable income, determining how much you need to pay or how much the government owes you in refunds.
- 1099 tax form: A 1099 miscellaneous form includes miscellaneous payments or self-employment income for independent contractors. It includes payments for rent, prizes, fishing boat proceeds, medical and health care payments, payments to an attorney and other miscellaneous payments.
- K-1 tax form: The K-1 form allows business partners to report their share of the earnings, losses, credits and deductions involved with the partnership. It divides taxable income to each partner according to their share of the business. For instance, two equal partners with a business that earned $100,000 will each receive a K-1 form showing a taxable income of $50,000, which they’ll need to add to their own tax returns.
- W-4 tax form: The W-4 tax form, also called an Employee’s Withholding Certificate, tells your employer how much federal income tax to withhold from your salary. You can request additional taxes withheld from each pay to reduce your burden come tax season. It’s best to consult with a professional to determine whether or not this is a good idea for you.
- Tax extension form: If you need to request a time extension for filing your federal income tax return, you’ll use the tax extension form. The government may also postpone the filing deadline in the case of a nationwide economic crisis. You may qualify for an extension if you’re out of the country. Keep in mind, the Internal Revenue Service (IRS) still charges interest, even if you qualify for an extension. You may also owe penalties if you cannot prove inability to pay on time.
- I-9 tax form: Employers file I-9 forms, which verify employee identity. Every United States employer is responsible for an I-9 form for each employee, both citizens and non-citizens. The employee has to prove work authorization using acceptable documentation.
- W-9 tax form: The W-9 form, similar to the I-9 form, verifies independent contractor identities. Business owners use them to gather any legal information from the independent contractors they hire.
- 1040-ES form: The 1040-ES form allows you to determine and pay your estimated tax. Estimated tax is for income not subject to withholding, including self-employment earnings, interest, dividends, alimony, rents and other sources. If you opt out of voluntary withholding, you should make estimated tax payments.
3. Consult Tax Experts
All these forms and details provide lots of information. Interpreting the information can be difficult for anyone who is not a professional tax accountant. The fine print may be hiding credits, deductions or other tax benefits you’ve missed. Even if you feel well-versed in tax-related lingo, it could benefit you to confer with a professional tax service. A tax consultant can help you solve tax issues, maximize your earnings and minimize your liability. This could be a substantial advantage for you and your family.
If you owe back taxes or have other concerns, a tax consultant can help decrease the burden on your shoulders. They can work to slow down the collection process, lessen the penalties you’ve accrued and create an affordable payment plan. They’ll communicate with the IRS to formulate the best possible solution for you.
A consultant can also help you implement the best tax plan for you, your business or your family. They’ll recognize which tax benefits you’re eligible for. They can help you reduce the amount you owe or earn a larger refund. Tax planning is not only for those with large estates or huge, lucrative businesses — it’s for anyone who wants to make the most of their earnings.
Contact BC Tax for a Free, No-Obligation Consultation
Consulting with an expert as part of your tax planning can help you avoid legal penalties, start a college fund for your child, put away money for retirement, grow your small business and improve your quality of life. If you’ve yet to invest time into tax planning, you may want to start as soon as you can.
If you’re ready to maximize your earnings and minimize your tax liability, consider BC Tax. At BC Tax, we offer tax relief, tax planning, account protection and bookkeeping services. We can help reduce tax-related stress and create a plan that serves your needs. With the help of our tax experts, you can work towards your financial objectives with confidence. To learn more, contact BC Tax today for a free, no-obligation consultation.