Tax Planning Vs Tax Preparation

Tax Planning Vs Tax Preparation

Your W2s and 1099s are arriving in anticipation of every American’s favorite season – tax season! This one could be one of the most complex in history. With markets rocketing higher in 2021 and millions of Americans changing careers and quitting jobs, tax professionals have their work cut out for them this spring.

Taxes are an under-discussed topic but should be given more weight because taxes are one of the few things an investor can control at least a little bit. Investment returns and regulatory action can’t be controlled, but we can control our savings rate, time horizon, and tax burden through careful planning. 

Read: Top 5 Reasons Tax Planning Strategies Are Important – then reach out to learn more!

In what tax bracket are you for 2021 as compared to the tax bracket for 2022? If you’re curious about the change in NY state tax and federal tax laws, our wealth managers in Pittsford, NY, will calculate your new tax rates. Compass Wealth could be the best fit for you!

What’s the difference between tax planning and tax preparation? They sound similar, but both have a similar goal – to save you money. However, they are two different disciplines that help reduce your obligation to the lowest possible amount.


What is Tax Planning?

A personal financial plan has many limbs. One of those is tax planning, which involves the reduction of a person’s tax obligation through strategic actions throughout the year. The goal is to drop a person’s tax bill to the legal minimum and minimize future tax surprises. 

This is accomplished in several ways, such as asset allocation. Tax planning can help investors keep more of their capital by distributing it properly. 

For example, let’s use retirement accounts and asset allocation. A 401(k) plan allows individuals to save $20,500 per year with a tax deferral until withdrawal. A Roth IRA must be funded with after-tax dollars, but interest and investments grow tax-free inside the account. 

One popular technique is to fill your 401(k) with growth companies that generate gains through stock price appreciation and your Roth IRA with bonds and dividend stocks. The income generated by the bonds and dividends will be free from taxation, and the gains from stocks will be taxed at the more efficient capital gains rate.


What is Tax Preparation? 

Tax preparation is also an important function, but it’s not as in-depth as tax planning. Tax planning is about future events; tax prep recounts what already happened. Tax preparers know the tax code and the multitude of tax credits and deductions available to citizens each year.

A tax preparer’s job is to make sure people file their annual returns correctly; this is easier said than done! The tax code is constantly changing; just filing the proper forms and paperwork can be difficult, let alone deciphering the tax breaks and credits utilized. 

More complex returns can be completed with help from your financial advisor, but what’s done is done when it comes to tax prep. If you’ve spent the last year investing and saving in less than efficient ways, you can’t undo that damage.

Are you an entrepreneur or sole proprietor? Business tax preparation is where it can get sticky – as you may know. Don’t prepare it alone. Small business owners have a hard enough time just tracking down business expenses, so leave the rest to us.


Which is More Important?

Both tax planning and tax preparation are essential. All the careful tax planning in the world won’t matter if you file your paperwork improperly or miss crucial deadlines. You don’t necessarily need to break the bank for tax preparation, but it’s an essential step of the process. 

Filing the wrong paperwork can delay your refund, and if you miss a tax deduction, you’ll permanently lose a chunk of income. The IRS isn’t in the business of offering mulligans, so you need to get it right the first time.

However, tax planning is the more important aspect to focus on since it will take much more time and energy to map out. Tax planning means moving the capital to its most efficient location, timing your purchases and sales of assets, revisiting your long-term goals, and keeping yourself on track. 

Tax planning also requires fluidity since your situation and finances change over time. Someone who just started funding a 401(k) plan and saving for a home purchase will have much different tax planning needs than a retiree trying to figure out the most efficient way to spend down their retirement accounts.

Ready to get support with your unique tax situation? Contact us today.


Who Benefits Most From Tax Planning? 

YOU get a refund if you overpay on your taxes! Overpaying isn’t the only way to give cash to the government; you can limit your tax liability by structuring your investments and income. You still give the government their cut, but reduce that cut to its legal minimum.

Tax planning is most beneficial to those living on a fixed income, namely retirees or those receiving defined benefits. Retirees no longer have the advantage of human capital to earn income, so they must rely on their nest egg to produce income and supply living expenses. 

Are you a retiree? If so, your goal should be to keep as much of your nest egg under your control as possible, which means careful investing and tax planning. Making a tax planning mistake will result in a permanent loss of capital in retirement, so working with your advisor on a tax planning strategy every year is crucial.

Get your tax plan evaluated by a financial advisor in Pittsford, NY. Do you not have one yet? Let’s craft a plan together!


Work with an Advisor for Your Tax Planning Needs

The best way to ensure your tax planning and preparation needs are met is to work closely with a trusted financial advisor. They can provide the best of both worlds since they have a deep understanding of efficiently allocating capital and knowledge of the tax code and regulations. 

If you’re worried that you’re overpaying the government each year, please ask your advisor for help. Read the Top Ten Reasons why you should select Compass Wealth to help you achieve your financial goals.


eBook: Will the Impending Tax Changes Impact My Retirement Plans?


Securities offered through Cetera Financial Specialists LLC (doing insurance business in CA as CFGFS  Insurance Agency), member FINRA/ SIPC. Advisory services offered through Cetera Investment Advisers  LLC. Cetera entities are under separate ownership from any other named entity. Home offices at 1450  American Lane, Ste 650, Schaumburg, IL 60173; phone 888.528.2987. 
For a comprehensive review of your personal situation, always consult your tax and/or legal advisor.  Neither Cetera Financial Specialists LLC nor any of its affiliates offer tax or legal services.

About the Author: Rob Chapman, CPA, PFS, CMA

Rob founded Compass Wealth in 2000 and has been helping clients achieve their financial dreams since then. With over 30 years of experience in financial services, Rob specializes in financial, estate, retirement, tax strategies from Chapman & Co. P.C. and planning, investment management, and risk management through Compass Wealth, LLC.
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