Tax Planning

I am an advocate both personally and professionally. I believe, to be a successful advocate, one must be passionate about what they are advocating. One of the areas in my tax practice that I am a big advocate of is Tax Planning.

When clients come to me for tax advice and preparation services, I ask them why they are leaving their previous tax return preparer or CPA. Most often the answer is because they were surprised by the amount of tax they owed with the previous year’s return. To make matters worse, most found out when they were issued the tax returns to sign and file.

I have never met a taxpayer who wants to be surprised about their taxes. Most taxpayers, including myself, do not necessarily like the news, but no one wishes to be surprised with a large tax bill.

Another reason for Tax Planning is the personal or financial changes that people go through. Here are some of the reasons and examples that my clients have come to me for Tax Planning. 

  1. Lifestyle Changes – marriage, divorce, birth or adoption of a child, loss of an exemption (i.e. dependent or spouse), purchase or sale of a home, retirement, filing bankruptcy.
  2. Income Changes – Start or stop working, take on a second job, start a business, earn investment income (i.e. interest, dividends, capital gains), receive a distribution from a retirement plan.
  3. Adjustments to Income Changes – IRA deduction, student loan interest or tuition, alimony, self employed health insurance.
  4. Itemized Deductions or Tax Credit Changes – medical expenses, state, local and real estate taxes, interest expense, charitable gifts, job expenses, dependent care expenses, education tax credits, child tax credit, earned income credit. 

This all being said, here are the two ways that you can pay the IRS and your State Department of Revenue to avoid any surprises.

IRS Form W-4 (Employee’s Withholding Allowance Certificate)

There is a worksheet attached to this form. However, in my experience, many taxpayers use it. Instead, what I have discovered is that most people decide what their withholding allowance(s) should be based on: a) either making sure they over pay their income taxes to avoid owing money with their return or b) not having so much income tax withheld that they cannot pay their necessary living expenses.

Let’s take the scenario (a). I understand the fear and anxiety that paying income taxes causes. However, I am not a proponent of large refunds either. When a return is filed by the legal due date or extension date, the IRS or state tax authority, does not pay you interest income for the use of your money during the tax year. I find that most of my clients could use that over paid income tax in their paycheck to pay necessary living expenses, to fund their retirement or education, to help an elderly parent, or to give to charity. Most of these expenses may be tax deductible, so why give the IRS or State Department of Revenue more money than you are required to pay?

For those taxpayers who do not have enough income taxes withheld, Tax Planning is important to prevent or minimize the penalties and interest associated with underpaying your taxes. More importantly, Tax Planning under these circumstances is really your Plan of Resolution if you owe taxes that you cannot pay in full right away. Being one step ahead of the IRS when you know that you will need some help is 10 times better than the IRS  sending you collection notices for full payment.

Salaries and wages are not the only types of income that are taxed. Tips, taxable fringe benefits, sick pay, pensions and annuities, gambling winnings, unemployment compensation, and certain federal payments must also be considered in  Tax Planning.

Estimated Income Tax Payments

Estimated tax is the method used to pay tax on income that is not subject to withholding. This includes income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prizes, and awards.

You may also be required to pay estimated tax if the amount of income tax being withheld from your salary, pension, or other income is not enough.

Estimated tax is used to pay both income tax and self-employment tax, as well as other taxes and amounts reported on your tax return.

If you do not pay enough tax, either through withholding or estimated tax, or a combination of both, you may have to pay a penalty. If you do not pay enough by the due date of each payment period you may be charged a penalty even if you are due a refund when you file your tax return.

If you receive salaries and wages, you may be able to avoid paying estimated tax and potentially a penalty, by asking your employer to take more tax out of your earnings on your Form W-4.

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