What’s the Difference between Tax Preparation and Tax Planning?

Taxes touch every part of your financial life. Most people scramble to get their documents together to see their accountant the few weeks before April 15th (April 18th for 2022). As their accountants crunch the numbers, they sit with their fingers crossed, hoping that they will magically find them some tax savings. Sometimes they can, but frequently, it’s too late.

So what’s the difference between tax preparation and tax planning?

Tax preparation is when you file your tax return to comply with federal and state tax regulations.

Whether you hire a professional or file your taxes yourself will depend on your financial situation’s complexity. Using an experienced CPA or EA can help save you money by identifying the deductions and credits you’re eligible for and eliminating any errors that can be very costly.

There are many nuances to filing taxes. Even if you take the standard deduction on your tax return and think it is relatively simple to file, there are still other popular “above-the-line” deductions that have no income limits that you can claim on Schedule 1 of Form 1040.

Examples include:

  1. IRA deduction

  2. Health Savings Account (HSA) contributions

  3. Deductions for self-employed (SEP, SIMPLE or qualified plan)

  4. Deductions for student loan interest

  5. Deductions for business expenses

  6. Deductions for charitable contributions

If that seems complicated or, as some of our clients have said, ‘boring’ and ‘over my head,’ then hiring a professional may be better for you. But don’t think that your tax preparer is also doing tax planning. Most CPAs are focused on tax compliance and ensuring that what has happened in the past is reported correctly to the IRS. The assumption is that all tax-related things are covered just because you meet with your CPA once a year. It’s not always true.

Tax planning is the process of reviewing your tax situation to identify planning opportunities to minimize your tax liabilities in the short and long term. This includes topics such as tax-efficient retirement vehicles, ensuring you are maximizing your employer benefits, Roth IRA conversions, charitable giving strategies, and more.

For many tax situations, timing is essential.

Example 1: gifting assets.

If an individual has a $500,000 gain in Amazon stock and they pass away, there is a step up in basis so that the gain would be $0. If you sold and gifted today and are in the 20% tax bracket for $100,000 would have a tax burden of $0 at death. This makes it tempting to hold it in your taxable estate and wait it out so your heirs can benefit from a tax perspective.

Example 2: charitable giving.

Giving $10,000 to Habitat for Humanity each year would be below the standard deduction ($12,950 for single or married filing separately and $25,900 for married filing jointly for 2022). However, if you made that contribution every four years, you would still get the standard deduction in years 1-3 and an additional $14,100 reduction in taxable income for year 4.

These examples touch on the tax implication of timing your goals. Still, it is unique to you and depends on several factors, including whether your children or favorite charity need ongoing support operationally now rather than waiting.

At Adviso Wealth, we review your prior two years of tax returns and continue to do so every year before our clients file their returns. There is hidden information on the pages of each return, and we help our clients understand this vital piece of their financial plan. We’ll also assess how potential life changes may affect your tax liability, such as getting married, having a child, selling a business, and equity stock compensation.

Let’s say your primary care doctor referred you to a specialist. Wouldn’t you want them working together to coordinate before the procedure and manage your care afterward? It’s the same idea: we want to be part of the tax planning conversation with you.

Adviso Wealth is dedicated to working with people just like you. We want to give you the clarity and confidence you need to achieve your personal and financial goals.

To learn more, visit advisowealth.com or email sweta@advisowealth.com