Individual taxpayers are generally required to use the calendar year as the reporting cycle for their tax return filings. Similarly, many private companies formed as pass through entities adopt the calendar year for their tax filings. As a result, the annual tax planning process typically begins in the fall. If you have not already begun this year’s process, time is of the essence!
To help you get started, here are answers to three common questions we hear during this busy tax planning season.
1. How much will I owe?
To properly answer this question, it is critical to have well-organized, meaningful financial data. Make sure you have reasonably accurate year-to-date results, along with an assessment of what the remainder of the year may bring, in order to create a reliable projection of your current year tax obligation. Identifying any material deviations from historical tax return makeup is also important. For example, will there be a nonrecurring income or expense item that should be included in your projections?
When presented with the initial answer to the question of how much you will owe, you may find yourself thinking, “That doesn't sound like my ‘fair share’!" It is natural to challenge the reasonableness of owing that much tax, no matter what the amount may be. Human nature drives us to seek a better outcome, especially when faced with the reality of sending a check to the government versus putting those funds to a “better use.”
2. How can I make my tax obligation smaller?
For most of us, this is the most important stage of the tax planning process. The multitude of options available to reduce your tax obligation is simply too great to discuss here. However, that is also why it is vitally important to begin the planning process as early as possible, so you have enough time to weigh all your options and implement your chosen course of action.
Tax planning that begins only a few weeks before year-end will be problematic at best. For instance, you may not be giving yourself sufficient time to order, receive, and place into service new equipment that can play a key role in lowering your current year tax liabilities. Your ability to identify vendor costs that may be suitable for prepayment may also be restricted. Plus, the heavier vacation pattern that normally takes place at year-end can add to the tension of carrying out your planning and implementation in late December.
3. How can I make this process go more smoothly next year?
Early next year, sit down and evaluate this year’s planning process and the results you achieved. Then identify steps you can take to improve the efficiency and effectiveness of the process when you face it again next fall. The simple act of taking inventory of what worked well and what could be improved upon, and then sharing that feedback with the parties involved in the planning process, should provide a good return on the investment in time you make in this last step of the planning process.
Good luck with this year's tax planning process, and remember, we are here to help!
What questions do you have about year-end tax planning? Ask us in the comments.