Tax Planning Basics for Individuals

Recently, I posted information on tax planning for businesses. Of course, it’s not just businesses that can benefit from tax planning. Individuals, whether filing single, married, or married filing single, can benefit from doing a little bit of tax planning.

What is tax planning?

Tax planning is a strategy to lower your tax burden by maximizing deductions and by timing the revenue recognition.

Tax planning for individuals

Tax planning for individuals, not surprisingly, is easier than it is for businesses. True, there are fewer deductions you can take, but it’s easier to know what those deductions are. Here are some suggestions for decreasing your tax burden.

Itemize your deductions                                                                

Everyone is allowed a standard deduction by the IRS. You can take that deduction, or you can itemize your deductions. Things you can itemize include interest on your home mortgage, real estate taxes, medical expenses, and charitable contributions of up to 10% of your adjusted gross income (AGI). The general rule is if your itemized deductions are greater than the standard deduction, you should itemize. There are, of course, exceptions. Everyone’s tax situation is different, and not everyone can itemize. Your tax preparer can help you determine which option is best for you.

Invest in your own retirement

Not only is it a smart thing to do to help ensure you have enough money to live comfortably after you retire, but all or a portion of the amount you contribute to your company-sponsored 401(k) retirement plan or into an individual retirement account (IRA) is deducted from your taxable income.

Currently, you can contribute up to $20,500 to a 401(k) or 403(b) plan, and $14,000 to a SIMPLE (Savings Investment Match Plan for Employees) plan.

If your employer offers a company match to your contribution, take advantage of your their generosity and max out your contribution. Not only will you defer more income, but you will also be building that nest egg at a faster rate.

It’s important to note that you can change the contributions into your company-sponsored retirement plan throughout the year. Check with your employer or benefits administrator for more information.

Contributions to a traditional and Roth IRAs are limited to $6,000 per year with $1,000 of catch-up contributions allowed for individuals age 50 and older.  If you are covered by a retirement plan at work, your contribution to a traditional IRA may be limited. Also, you can put money into an IRA up to the day you file your tax return, excluding extensions—even if it’s Tax Day—and that will count as a deduction for the taxes you are filing.

It is best to take to a financial advisor or your tax preparer about the variety of retirement investments available to you. Remember, though some contributions you make to a retirement plan may not be tax deductible, they are wise investments for your future.

Understand the tax implications of mutual funds and stock sales

If you sell some of your investments, you have to report the capital gain or loss on the sale. If held short-term (one year or less) the tax on the gain is higher than that of long-term gains (held more than one year.)

Capital losses can be deducted up to the amount of capital gains. Keep in mind that short-term losses can only be netted against short-term gains and long-term losses can only be netted against long-term gains. If your capital losses exceed your capital gains you can deduct up to $3,000 of the loss. Any losses not deducted can be carried forward to the next year.

Again, it’s best to discuss with your financial advisor or tax planner to determine what investments to sell for the best tax implication.

Document everything: individual edition

Using a tool like a spreadsheet program or your preferred method of record keeping, you should document all your charitable contributions, medical expenses and mileage.  Be ready and organized by keeping all of your tax-related documents (W-2s, 1099-INT, etc.).  My favorite means of documenting is a tax deduction file from Dome or a folder by Smead. You can purchase these at your favorite office supply store.

Start planning

If one of your financial goals is to lower your tax burden, it’s important to talk to your tax preparer and/or your financial advisor and to act. It’s never too late—or too early—to start tax planning.

Tax Planning Basics For Businesses

 Recently, I posted information on tax planning for individuals.  Tax planning isn’t just for individuals—it is just as important for businesses.  The holidays are upon us and so is the tax filing season. It’s as good a time as any to think about what you can do to reduce your tax burden for the current year.

This is especially true for businesses. Eleven months of the year have passed, and you should be able to accurately calculate what the rest of the year will be like.

However, end-of-year is not the best time to plan for your taxes. If your business uses a fiscal year-end (not December), you want to focus on fourth quarter to start your tax planning.  However, it is never too late or too early to start.

Don’t be alarmed! The good news is there are plenty of simple, fast things you can do to ensure you owe the least amount of tax possible.

Tax planning for businesses

Tax planning for businesses, not surprisingly, is more complicated than it is for individuals. That also means there are lots of opportunities to lower your company’s tax burden.

Know what you can deduct

Before getting into ways you can lower your tax burden, it is best to understand what it is you can deduct. Here are some examples

• Anything you purchase that is necessary for your business
• Out-of-pocket travel expenses to meet with clients, attend a conference, or conduct any related business. This includes transportation expenses, such as airline tickets, mileage on your car or actual vehicle expenses if you drive, rental car expenses, and meals out of town
• Training related to your business or the operation of your business
• Meals with clients, as long as you discuss business
• Supplies
• Payroll and related taxes
• Taxes
• Insurance
• Start-up costs
• Depreciation and amortization
• Advertising/marketing
• Bank fees
• Professional fees
• Other things may be deductible as well. Check with your tax professional

Now, here are some ways you can reduce your tax burden.

Invest in equipment

Anything you buy that is necessary for your business—a tractor for a farm, a new computer for a website design firm, a pickup truck for a landscaping service—is tax deductible for the current year if it is bought and put into service by year-end.

The operative term is “put into service.” For example, for the farm that needs a tractor, it’s not enough to order the equipment. You have to receive it by the end of the year and start using it. That, of course, requires planning.

It’s easier for service businesses like a website designer, accountant, or lawyer to buy necessary equipment and put it to use.

No cash? No problem. A bank loan or credit card purchase is considered cash and equipment and other purchases paid by these means are deductible.

Though it may be tempting to buy a piece of equipment and claim the deduction on this year’s tax return, it’s important to actually think about next year. Ask yourself “What will this purchase do to my company’s cash flow?” If it will present a burden, the best advice is to forego the effort to lower your taxes and keep the cash for running your business.  Don’t let your desire to lower your taxes override a good business decision.

Invest in your employees

Though it may sound cliché, your employees are your most important asset. So why not reward them and lower your tax burden at the same time? Offering bonuses or starting or increasing your contribution to their retirement accounts are expenditures that count against your income and therefore lower your taxes.

Again, the same truth holds for this type of investment. If your generosity to your employees will strap your business and jeopardize their employment for next year, don’t use these options to lower your tax burden. Having a paycheck later is more valuable to your employees than a bonus now.

Document everything

Say you flew across the country to attend a trade show. You met lots of great contacts. You took existing clients out to dinner and discussed future ventures. Come tax time, you’re going to deduct all those expenses, right? Yes. However, if you take these deductions but cannot substantiate them in the event of an audit, the IRS may disallow them. By keeping receipts (a credit card statement alone does not qualify) and other forms of proof, you’ll be covered for these deductions if an audit occurs.

Documenting your spending really isn’t difficult. It can be as simple as saving the receipts as noted above. Here are some other tips.

If you drive to meet a client, record the trip. You can use an app like MileIQ, enter the information in whatever accounting software you use, on a spreadsheet, or even record it in a notebook noting the miles to and from the meeting place

Though you may have receipts for dinners and airline travel, it’s important that you document those, too. For one thing, it’ll make the process of preparing your taxes easier

On the receipt for meals, document with whom you met and the topic of discussion

You can log all of these expenses and keep your receipts in a tidy file or box in the event of an audit.  You can also keep these receipts digitally.

Things that are not deductions

Not everything that lowers your bottom line is a tax deduction. This is especially true for self-employed individuals and partnerships. For example, paying yourself is not a deduction. Although it is part of the cost of doing business, you would take a draw instead of a paycheck. The draw will be deducted from your equity whereas an employee paycheck is deducted as an operating expense.

Partnerships are a little different. If one or more partners receive a guaranteed payment, this is considered an operating expense. However, these guaranteed payments are income for someone who is self-employed. That topic alone is worth another blog post.

Though this list is not exhaustive, here are some examples of things that are not deductible:

Health insurance for the owner

• Charitable contributions
• Clothing
• Manicures and makeup
• Vehicle expenses and mileage expense for the same vehicle

Start planning

If one of your financial goals is to lower your tax burden, it’s important to talk to your tax preparer and/or your financial advisor and to act. It’s never too early to start tax planning.