What is… Tax Planning?
What is... Tax Planning?
Tax planning can incorporate many different things.
First, as an individual, you may do annual tax planning to estimate what taxes you will owe and how much you'll need to pay over the course of the year to avoid penalties. For many, this is determined by the standard calculation done based on your income from your W-2 job and the W-4 you file with your employer. This may also be calculated using the IRS tax calculator. As your tax situation gets more complicated (working as an independent contractor, owning your own business, renting out property, etc.), you may need to use a professional for this planning.
Second, individuals who do not normally need advanced tax planning may engage in it for one year when they have a large event that may impact their income taxes, such as selling a property, selling a business, receiving stock as compensation, selling a large portion of their investment portfolio, or otherwise entering a transaction with a significant asset. Sometimes what happens is "ghost income," which essentially means there is income that you owe tax on but you do not actually receive - a difficult situation!
Third, businesses often need to engage in tax planning, especially during periods of change. Whether the change is business growth, business loss, or selling the business, the tax implications can be significant. Businesses also use tax planning to determine the appropriate amounts for owners to receive, how to structure transactions, and for assorted other reasons. Even during periods that are not changing, tracking bookkeeping and consulting with your CPA or tax attorney is very important to ensure that nothing abnormal is occurring, knowing that there is not significant change, and checking that you will not be surprised with a penalty (for example, if there is a change in the law - or with things such as PPP Loans and EIDL).
Fourth, when establishing or reorganizing a business, tax planning (along with other aspects) is important to be sure that the correct entity is selected and that the owners are set up appropriately. For example, many businesses decide on being LLCs, but there are many tax questions beyond that to impact how the business and owners are impacted.
The above are all examples of primarily income tax planning.
Fifth, transfer tax planning is very important. Transfer taxes are estate, inheritance, generation-skipping transfer, and gift taxes in the US. While the current federal estate and gift tax exemption (and the generation-skipping transfer tax exemption) are high enough that many do not worry about them, (a) many states, including Massachusetts and Rhode Island, have different estate or inheritance taxes with their own structures and lower exemptions, and (b) the federal exemptions are expected to change in the future, whether reducing as scheduled or changing completely as various legislation has proposed. It is incredibly important to do this planning to preserve your estate and the assets passing to your loved ones. There are many options for structuring your estate plan to accomplish this if it is a goal of yours.
Sixth, people do tax planning for international work. There are many ways this can be done, but it is important across it all to ensure that planning works in all applicable jurisdictions.
This was only a quick summary of various aspects of tax planning. Depending on your needs, you may need to involve your tax attorney, CPA, bookkeeper, and executive team/business owners in this planning.