When you first realize that your biggest personal and business expense—bar none—is taxes, it can come as quite a shock. Seeing so much of your hard-earned money wind up in the government’s hands can feel like a shakedown. Yet focusing a relatively small amount of time and effort into strategically reducing your taxes can pay major dividends.
Some people resist implementing creative tax strategies because they’re worried it’s going to get them in trouble with the IRS. However, as long as you do things correctly, there’s absolutely nothing illegal or risky about strategizing to pay the least amount of taxes possible.
On the other hand, it is illegal to evade taxes. As the saying goes: “Pigs get fat; hogs get slaughtered.” In other words, you want to be smart when it comes to saving on your taxes, but not greedy.
As the end of 2020 approaches, we’re entering into the most critical time of the year for tax strategy, and this post outlines how you can get fat, without getting slaughtered.
Preparing your foundation
To save big on your taxes, your first step should be either building or rekindling your relationship with your team of financial professionals. These are the individuals who will support you in establishing the foundation for developing and implementing your tax-saving strategies. At the very least, this team should include a bookkeeper/financial manager and a tax advisor (Certified Public Accountant or Enrolled Agent).
If your bookkeeper’s job is more about data entry than financial management, you should look for someone new—or quickly get your current staff trained and up to speed. An effective financial manager will be managing your books on a week-to-week basis (if not daily, depending on your business). Note I said “week-to-week,” not month-to-month or quarter-to-quarter.
Your financial manager’s responsibilities should include daily/weekly cash-flow management, monthly review of reports and categorization of expenses, and quarterly updates of your forecast and projections.
Your tax advisor is the person who actually files your taxes. Ideally, you should meet with him or her at least twice a year: once in May/June (after tax season) and once in October/November (approaching year’s end).
The May/June meeting is a general catch-up, mid-year review that lets your tax advisor know what you’re financially on track to do for the year. Based on that information, your advisor can consider the most effective tax strategy.
When you meet again in October/November, that’s when you’ll really get down to business. You’ll project cash flow through the end of the year and get a tax estimate using different assumptions, both with and without tax-saving strategies included.
If your tax advisor cannot provide this level of service and is merely a tax filer, it’s time to get a new advisor. We can help you with that, so contact us today if you need to find a creative tax advisor who’s capable of handling such things.
Additionally, we meet regularly with many of our clients and their team of financial professionals to ensure their financial strategies are supported with solid legal implementation. To find out if we might be able to support you in this way, contact us today.
Create your tax projections
Once you’ve got your financial team in place, you should meet monthly with your financial manager to develop an effective system for categorizing your expenses. To do this, your financial manager should have a clear grasp of how your business operates and its overall financial status.
Your financial manager should understand all of the ways you earn revenue and know the expenses required to fulfill on your product and/or service. He or she should produce weekly and monthly reports, so you can stay regularly apprised of your company’s financial health.
Each month, when you review your profit-and-loss statement (P&L), you’re looking for variances from the prior month as well as expenses that are improperly categorized or not categorized at all. It’s crucial to properly categorize all expenses, so you can measure trends and write off as many deductions as possible against your taxable income.
In late October, your financial manager should send a year-to-date P&L to your tax advisor. Your tax advisor will use that data to create tax projections based on your current earnings versus expenses and how much you expect to bring in over the remainder of the year.
Using these projections, you can put strategies in place to minimize your tax liability. Most of these strategies need to be in place BEFORE the end of the year, so make sure you’ve started this process by late November at the latest.
If your tax projections indicate that you’re going to owe money, contact us and ask for our list of year-end tax strategies. And if you haven’t run your tax projections yet because you don’t have a qualified financial manager or tax advisor, we can refer you to the professionals we trust most.
Strategize for maximum savings
Once you have your tax projections ready, you want to look at whether you’re likely to be in a higher tax bracket this year compared with future years. Determining this will allow you to save on your taxes by managing when you receive your income and pay your expenses.
If you’re likely to be in a higher tax bracket this year than in the future, it makes sense to push taxes off into the year(s) when your tax rate will be lower. Even if your tax bracket will be higher in future years, it still might be worthwhile to push your taxes off to the future. This way, you’ll be able to use those funds, which would otherwise be in the hands of the government.
This is the question to ask yourself: Can I make more money with those funds now than I’d pay in higher taxes by pushing those tax payments off until later?
If you can make more money now, you can decrease this year’s taxes by pushing income into the future and accelerating expenses that you’d otherwise pay next year into this year. You can do that by enrolling clients or selling products now, but giving your customers until next year to pay for those products or services. Or you could ask your vendors if you can prepay for next year’s services this year.
If you’d prefer to pay taxes this year because you’re currently in a significantly lower tax bracket than likely in future years—or have losses that will be expiring to offset your income—you should increase this year’s income. You can generate more revenue now by offering year-end discounts on products and services that may not need to be delivered until next year.
Managing income and expenses is key
Managing when you receive income and pay expenses in this manner can save you big money on your taxes, not just this year but every year. However, this is just one facet of an effective tax-saving strategy. To learn about additional ways to save money on your 2020 taxes, contact us today.
This article is a service of Stafford Law Firm. We offer a wide array of business legal services and can help you make the wisest business choices throughout life and in the event of your death. We also offer a LIFT Start-Up Session™ or a LIFT Audit for an ongoing business, which includes a review of all the legal, financial, and tax systems you need for your business. Call us today to schedule.