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What is tax planning?
Tax planning is the analysis and arrangement of one’s financial situation in order to find and maximize opportunities to minimize your tax liabilities in a legal and efficient manner. Businesses of all sizes and individuals can benefit tax planning.
Tax rules are complicated, therefore involving your tax advisor in your tax planning can change how much you end up paying (or getting back) in April.
There are a multitude of tax planning strategies, particularly if you own a small business. Some are aimed at one’s individual tax situation, some at the business itself. Many are extremely sophisticated and specific in focus.
But regardless of how simple or complex a tax strategy is, its goal will be one or more of the following:
- reducing your (or your business’s) taxable income through investment strategy, deductions and tax credits
- reducing your tax rate
- delaying the time when you must pay the tax
Why do you need tax planning?
The risks that come from not planning your taxes especially for business owners far outweigh any supposed benefits and could lead to tax evasion charges. This can happen with missed tax payments, withheld tax monies or mistakes in filing returns. By not planning, you miss out on the following benefits that come with business tax preparation:
- Maximization of tax relief or available tax credits
- Reduction of payable tax by deduction of expenses from earned income
- Loss of greater control over when taxes are paid
In addition, business taxes can sometimes be a barrier to the growth and profitability of your business. However, if planned correctly, the tax codes offer a number of valid opportunities that business owners can leverage to their advantage. Without savvy tax planning, you could literally be losing thousands of dollars a year in unclaimed rebates, benefits, charge-backs, and deductions.
Tax planning starts with understanding your tax bracket.
Most small businesses are owned by individuals and are not corporations. Sole proprietorship, partnerships, and a Limited Liability Company (LLC) do not pay business taxes and pay taxes at the personal tax rate of the owner. How much tax the business owner pays depends on the tax rate they fall in.
As a small business owner, you must pay self-employment taxes which is a flat rate of 15.3%, which is 12.4% for Social Security and 2.9% for Medicare. This is in addition to any income tax that you pay.
Since non-corporate small businesses are taxed through their owner’s personal tax returns, how much they pay in taxes can get mixed up with the tax owed by the individual for all forms of income, not just the income of the business.
Benefits of tax planning.
Tax planning can have some great benefits for any business, large or small.
- Save money. The main objective of tax planning is to reduce the amount of tax your business pays by maximizing its deductibles.
- More to invest – By knowing your tax liabilities, you can reinvest funds that would otherwise have been earmarked for tax back into your business.
- Strategize – Tax planning is a great opportunity to look at the options open to your business and fine-tune its strategies in all areas while we’re analyzing its data carefully.
- Get a head start – For those businesses operating from a trust, tax planning provides a close estimate of the trust distribution minutes well ahead of time, saving you from needing to rush to make a decision.
- Get confident – Working through our process of tax planning allows business owners to increase their knowledge about compliance and how it works, learn strategies for minimizing tax, and take a more hands-on role in the overall management of their business.
- See the big picture – Tax planning provides some great insights into a business that allows its owners to assess the larger situation: whether the structure of the business needs to change; understand where operations are occurring; get a sense of the potential profit areas currently untapped or underexplored; find new investment options and decide how best to structure those investments.
- Peace of mind – Eliminate unnecessary stress and uncertainty by knowing just what your business’s tax liability will be and make business decisions from a firm, stable, factual base.
- Utilize recent Budget changes – Any applicable federal Budget measures can be taken into consideration, as our agents have up-to-date tax knowledge. This ensures that your business can achieve the best possible tax outcome and that it does not miss out on any useful incentive schemes.
Common tax planning strategies
Everyone’s and every business situation is different, and experts caution against making tax considerations the predominant factor in your financial decision-making process. That said, there are a number of strategies and some basic information that you should be familiar with as you formulate a tax plan with your advisors.
Start with the right company organization
Choosing the form of organization under which you do business also can help lower the applicable tax rate.
Maximize deductions and credits
Another tax-planning approach is to reduce the part of your income that is subject to tax by taking full advantage of the many tax deductions and tax credits available to both businesses and individuals.
Minimize your taxable income
You can also reduce your adjusted gross income through various adjustments to income. Adjustments are really a special class of deductions that you take on Schedule 1 of your Form 1040. They are traditionally called “above the line” deductions, and they reduce your adjusted gross income whether you choose to use the standard deduction or itemize your deductions.
Reduce your applicable tax rate
Strictly speaking, one cannot actually lower his or her own tax rate. There are a limited number of steps and strategies, however, that have the same result, as a practical matter.
Control the time when your tax must be paid
In broad terms, you can minimize taxes in the current year by postponing the receipt of income so that more of it will be taxed next year, and by accelerating deductions into the current year to reduce current taxable income.
Contribute to a retirement plan
Of course, it almost always makes sense, if possible, to put in place a retirement plan such as a 401k and to make the maximum contributions allowed for the year. Those contributions you make will be excluded from your income and will grow tax-deferred to build a nest egg.
How to get the most out of tax planning?
Since non-corporate small businesses are taxed through their owner’s personal tax returns, how much they pay in taxes can get mixed up with the tax owed by the individual for all forms of income, not just the income of the business. This is why we advise that you work with a tax advisor to get the most out of tax planning.
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