Blog by 360 Financial, Wealth Management and Big Picture Planning
This guide is general in nature and is not intended to be a substitute for working with a qualified accountant, tax advisor, or financial advisor.
We recommend that you read this guide to get a quick overview of tax planning before seeking the advice of your financial advisor and accountant.
Table of Contents
What Is Tax Planning?
Taxes are a part of our everyday life. But sometimes, we can pay more tax than we actually need to, which is why tax planning is so important.
Tax planning involves analyzing your financial situation to ensure you pay the least amount of tax possible by maximizing tax benefits and minimizing tax liabilities.
Working with a qualified financial advisor to do your tax planning is important. Your financial advisor can help you minimize taxes so you keep more money in your pocket.
The Purpose of Tax Planning
While most individuals choose to do tax planning to minimize their overall tax burden, that’s not its only purpose.
For example, if you’re a business owner or an entrepreneur, minimizing your tax liability through strategic deductions and tax credits can help reduce business losses and ensure everything is running smoothly.
For individuals, tax planning can reduce your tax bill in the short term, but also help you make progress towards your long-term financial goals—like planning for retirement or transferring assets to your family after death.
Tax planning can significantly affect your overall financial well-being, which is why good financial advisors and wealth management firms offer tax planning as a service alongside other services, like investment management and estate planning.
Tax Planning Strategies in the United States
Financial advisors will typically like to take a look at your holistic financial profile before moving ahead with tax planning strategies.
In the US, some basic tax planning strategies include:
Maximizing popular tax deductions and credits
These include charitable contributions (including money, investments, or household items given to charitable organizations), home office expense deductions, and residential energy tax credits.
Placing money in a 401(k) or Roth IRA
If you work for an employer that offers a 401(k) plan, utilize it, as it gives you a tax break on any income you set aside for retirement.
Roth IRAs are individual retirement accounts. Any taxes you pay are upfront, meaning you won’t be taxed on any withdrawals in retirement.
Maximizing health savings accounts (HSAs)
HSAs are tax-advantaged savings accounts available to those with high-deductible health plans (HDHPs).
Your contributions to an HSA are tax-deductible and grow tax-free. Any withdrawals are tax-free if used for qualified medical expenses, including doctor visits, prescriptions, and some over-the-counter medications.
If you anticipate significant healthcare costs in retirement, contributing to an HSA now can provide long-term tax benefits, as unused funds roll over annually and can be invested for growth.
Tax Gain-Loss Harvesting
Another popular strategy for lowering your tax bill is through tax gain-loss harvesting—which can offset capital gains with capital losses.
Tax gain-loss harvesting is a strategy for offsetting capital gains with investment losses, especially when certain investments have declined in value. By selling these underperforming assets, you can use the losses to reduce your tax liability, which may help optimize your portfolio and free up funds for new investment opportunities.
Here’s an example of how tax gain-loss harvesting could work:
1. Your investment is losing money, so you decide to sell it.
2. You use that loss to reduce your taxable capital gains. This can potentially counteract up to $3,000 of your income.
3. You then reinvest the money from the sale in a different investment.
Key Tax Credits and Tax Deductions to Know
When you file your tax return, you can claim tax credits and deductions from the IRS to lower your tax burden.
Key tax credits that can be subtracted from the tax you owe can be utilized if you:
Are a parent or caretaker
Pay for higher education
Invest in clean home energy or vehicles
Contribute money to retirement accounts
Paid taxes overseas
Paid tax on undistributed capital gains
Tax deductions are subtracted from your income when you file your tax return. All deductions will require documents to prove the expenses and losses you want to deduct.
Expenses that can be classified as tax deductions include:
Business use of your home or car
Money placed in an IRA or health savings account
Alimony payments
Donations to charity
Losses from disasters or theft
Capital losses
Leveraging Tax-Advantaged Accounts
In the US, there are two types of tax-advantaged accounts.
401(k)s, Traditional IRAs, and 529 plans are known as tax-deferred accounts, while Roth IRAs and HSAs are tax-exempt accounts.
With tax-deferred accounts, you don’t pay tax when you deposit income, but you will pay tax when you eventually withdraw amounts. With tax-exempt accounts, you won’t have to pay income tax when you withdraw the money.
Choosing the right account for you will depend on whether your employer offers an account contribution, if you're in a lower tax bracket right now than what you’re expecting in the future, and whether you want to pass on wealth tax-free.
Is Your Financial Advisor Helping You with Your Tax Planning?
Calculating your tax return on your own and implementing tax strategies can be complicated.
Work with a credible fiduciary financial advisor so they can help you review your tax return and work towards minimizing tax, whether that’s individual income tax, estate tax, or capital gains taxes.
Common Questions
What are the best tax planning strategies for individuals?
Individual tax planning strategies include maximizing deductions and credits like charitable contributions, home office expenses, and residential energy credits.
Contributing to retirement accounts such as 401(k)s or Roth IRAs is also effective, as is using Health Savings Accounts to save on medical expenses. Tax gain-loss harvesting can help offset capital gains, reducing the tax impact on investment returns.
Seek the advice of an accountant and financial advisor if you are a high-income earner and want to minimize your taxes.
How can a financial advisor help with tax planning?
A financial advisor can analyze your financial situation to develop a tailored tax plan that minimizes tax liabilities.
They seek to ensure you're leveraging deductions, credits, retirement accounts, and tax-loss harvesting appropriately.
What are the most effective tax-saving strategies for high-income earners?
High-income earners benefit from strategies like maximizing retirement contributions to tax-advantaged accounts such as a 401(k) or IRA, investing in HSAs, utilizing tax gain-loss harvesting for investments, and making charitable contributions.
Municipal bonds, tax-deferred accounts, and credits or deductions related to home energy improvements can also be effective.
Do I need tax planning services for my business?
Yes, tax planning is essential for businesses to minimize tax, improve cash flow, and ensure compliance with tax regulations.
Strategic deductions, credits, and tax-advantaged investment accounts can optimize finances and support business growth. We recommend that you seek the advice of a business financial advisor.
Why is business tax planning important for small business owners?
Small business tax planning helps minimize taxes, potentially reducing taxable income through deductions and credits related to business expenses, equipment depreciation, or home office use. This planning aids in maintaining positive cash flow, which is crucial for reinvestment and expansion.
How can I offset capital gains when doing my tax planning?
Capital gains can be offset through tax gain-loss harvesting, which involves selling underperforming investments at a loss to counteract gains.
What are term capital gain limits?
Capital gains are categorized as short-term (assets held for a year or less) or long-term (held for over a year). Short-term capital gains are taxed at regular income tax rates, while long-term gains benefit from lower rates.
How does my adjusted gross income (AGI) impact my tax planning strategies?
Understanding your adjusted gross income (AGI) is key to effective tax planning because AGI influences eligibility for many tax deductions and credits.
For instance, certain deductions (such as medical expenses) are only allowable once they exceed a percentage of your AGI, and tax benefits like Roth IRA contributions phase out at higher AGI levels.
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About 360 Financial
360 Financial is an independent wealth management firm with a team of specialized financial advisors and financial planners. As fiduciaries, 360 Financial’s advisors provide services to business owners, entrepreneurs, and professionals. We help investors with sudden wealth, retirement planning, tax planning, estate planning, and business financial planning.
Headquartered in Minnesota, we serve investors across the US with online and in-person wealth management and financial planning services.
Additional Disclaimer: A Roth IRA offers tax deferral on any earnings in the account. Qualified withdrawals of earnings from the account are tax-free. Withdrawals of earnings prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Limitations and restrictions may apply.
Municipal bonds are subject to availability and change in price. They are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise. Interest income may be subject to the alternative minimum tax. Municipal bonds are federally tax-free but other state and local taxes may apply. If sold prior to maturity, capital gains tax could apply.
