The Difference Between Tax Preparation and Tax Planning
Tax preparation for the March 15th or April 15th return is not considered advance tax planning. It is merely tax compliance as opposed to voluntary tax reduction planning. Though returns aren’t due until April, they cover a tax year that ends Dec. 31. Some of the best tax-reduction moves really need to be done early. They often take some advance planning. Getting a head start could make you a lot happier in April, giving you a bigger refund or a smaller check to write to Uncle Sam.
A. Reduce Your Tax Liability
By taking certain steps now, you can reduce the size of your tax bill otherwise due when you file your return. You do not want to overlook any deduction or credit that you can take to lower this year’s tax bill. Managing what income you recognize or defer also can pay dividends as you focus on balancing your tax rates.
B. Your Circumstances May Have Changed
Year-end tax planning is not only about what is happening in Congress and at the IRS. Addressing the changed circumstances in your life has always been a large part of year-end tax planning. What you planned for at the beginning of the year may not be what you are faced with now. Changes in your employment status, family, investments, or retirement plans raise new tax issues
• Self-employment, severance pay, sign-on bonuses, stock options, moving expenses, and COBRA health benefits, to name a few employment-related events, all present unique challenges.
• In your personal life, marriage, divorce, a larger family, and child care or eldercare expenses arising each year can impact your tax situation.
• Investments, too, generally benefit from year-end tax strategies. You can take steps to balance out gains and losses. You also should take a year-end tally of dividends and interest to make certain that are paying the correct estimated tax.
C. Plan For Losses
Matching losses with gains is not necessarily a simple task in the tax law. Different rules apply to different losses. Losses can be ordinary losses, passive losses, at-risk losses, capital losses, hobby losses, casualty losses, gambling losses, or Code Sec. 1231 losses. Knowing the differences and acting before year-end to match them correctly can mean significant tax savings.
D. Plan For Deductions
• Planning for deductions and credits at year-end can also get complex but can be equally as rewarding. Timing and qualification rules create traps and opportunities:
• Pre-paying certain expenses, such as real estate taxes or mortgage interest, do not necessarily translate into a larger deduction this year.
• Paying a spring college tuition bill in late December instead of early January, however, can impact whether you maximize the benefit of the American Opportunity Tax Credit .
• Year-end charitable giving generally has always been a smart way to reduce current year taxes but strict timing rules and revised substantiation requirements for property donations cannot be overlooked.
• Homeowners should also not ignore taking advantage of the residential energy property credit, which has a unique set of rules on qualifying expenses and deadlines for installations
TOP TEN YEAR END TAX PLANNING CHECKLIST
1. If you own a business, do you have an EIN number, operating agreement, and a separate bank account?
2. Have you recorded all the income and expenses related to the business on the business bank account? This is a huge audit item.
3. If you own an investment property that was foreclosed or sold as a short sale, have you considered the impact of the cancellation of debt income on your individual income taxes? Have you calculated the loss of sale of investment property?
4. If you generated any kind of active real estate income, have you considered restructuring your business to minimize the impact of self-employment taxes?
5. If you have significant real estate education expenses, have you registered a business in order to minimize your audit exposure on deducting these expenses?
6. If you have significant business expenses and already have a registered business, have you considered converting to a partnership to avoid an audit flag?
7. For homes that have been repossessed, do you know the rules on recourse vs. non-recourse debt?
8. Do you understand what your tax filing requirements are for the states where your business is registered such as annual filing, personal property tax returns, etc.?
9. If you own investment property, have you considered doing a cost-segregation study in order to increase your depreciation expense?
10. If you bought or sold property last year, have you considered the impact of capital gains, adding rehab expenses to the basis of the property, and whether the holding costs (mortgage interest, taxes, and insurance) are deductible?
Here’s a recent question from my blog:
QUESTION: Are the draws I take for rehab on my properties considered other income on my P&L statement or are they not included at all? My reason for asking is because all my expenses (subs, material, interest, and utilities) are on the statement and it really is looking bad. I know its not taxable income I just looking to clean up my P&L.
ANSWER: Draws on the rehab actually belong on the balance sheet as a liability item since its hard money that needs to be paid back. When expenses are incurred, they are actually inventory not expenses on the balance sheet as well. Your expenses on rehabs are not expenses until the property is sold. They should be added to the cost basis and therefore belongs on the balance sheet. If you do this. then your p&l should look clean.
I address many of these issues in my Wealth Building Plan. Make sure you are getting the best tax advice. Let me evaluate your financial and tax situation, then develop a customized tax strategy just for you. Together, we will come up with a strategic plan designed to answer your questions as you build your own customized wealth-building plan. You can get more information at WEALTH BUILDING PLAN
