Knowing the Difference Between Tax Planning and Tax Preparation Can Impact Your Tax Bill

As you get ready to file your taxes for 2022 in the next few months, you may have already missed the tax planning “window” to save money on your 2022 taxes.

I will discuss how incorporating tax planning into your life is very different than tax preparation, the act of filing your taxes, and how planning properly can potentially save you thousands of dollars in taxes each year.

Do you feel like you are on a hamster wheel during tax season; running around and around gathering information and praying that everything works out in your favor? Do you do this every year?

This article is here to help you get off that hamster wheel and help you potentially save money at the same time.

The biggest mistake taxpayers make is that they expect or believe that their accountant will save them money on their taxes each year. This just doesn’t happen.

The time between February and April is known as tax preparation season. Most accountants complete your taxes based on what already took place as well as all the information that you spent hours and hours running around trying to collect. Thus, there is no tax planning and as a result, no tax savings.

Let me introduce you to some tricks of the trade, so you can see how an effective tax planning strategy will save you money. First, you need to understand:

1. Tax preparation is the filing of your information based on what has already taken place. Tax planning looks at your situation in the future to bring ideas into the present to legally reduce your taxes.

2. Tax planning/savings season starts the day after April 15 and goes until the end of the year.

3. Tax preparation is a cost, while the right type of tax planning is an investment.

4. Tax preparation is required; you must do it. While tax planning is a luxury, most accountants won’t do it, as it takes additional expertise and time.

Let me share a quick story of a couple in their 70s.

Every year, they receive a small pension, social security, income from IRAs and capital gains, which amounts to about $190k in income.

They recently had almost $30,000 in federal and state income taxes, which they feel is way too much.

They got stuck on a hamster wheel consisting of:

  • Getting all their documents ready by March 15,
  • So, their accountants let them know by March 31 what they owed,
  • So, they can sell some of their investments,
  • So, they can pay their taxes by April 15.

They also paid quarterlies four times per year, in addition to what they owe every April 15.

How tax planning got them off the hamster wheel:

  1. They gathered all their tax and investment documentation in the second week of May.
  2. Using what had already occurred through April, we projected their income.
  3. By correcting their mistakes mid-year and looking ahead, we were able to make present-day changes to their income from their investments, IRAs, etc.
  4. Bottom line — they saved $11,000 in taxes in the initial year and a projected $19,000 in the following year.
  5. Most importantly, we eliminated them from paying quarterly taxes!

Tax season went from being chaotic and nerve-racking to a non-event. In addition to the above, a tax projection is done every November to make sure nothing is missed prior to year-end.

The couple now has a tax plan in place that is coordinated with their accountant’s tax preparation service, which maximizes their tax savings. Their story is one example of how tax planning can impact your finances.

When it comes to planning your own taxes, it may be helpful to keep this saying in mind: “Everything you do affects your taxes, and your taxes affect everything you do!”

The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.

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