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The Purpose Of Tax Planning

October 4, 2018

The overall goal of planning your taxes is to arrange your financial affairs in such a way that your taxes are minimized. There are 3 basic ways in which to achieve this, with each method having some slight variations:

Reducing income:

Determining your taxes depends a lot upon your AGI or Adjusted Gross Income, and your tax rate and tax credits are also dependent upon it. AGI can even have an impact upon your financial life that isn’t connected to taxes, such as banks, mortgage lenders and financial aid programs, who all ask for your details of your adjusted gross income.

Simply because your AGI is so important, this may be the best place to start when thinking about planning for your taxes. What goes into your AGI; the higher your overall income, the higher your adjusted gross income. The sole way to reduce your taxes is to reduce your income, and the best way to do this is to contribute money into a 401(k) or some other such retirement plan at work. This will reduce your wages and lower your tax bill.

You can also reduce your AGI through other adjustments to your income, which can include contributions to an IRA, student loan interest paid and alimony to name but a few.

Increasing tax deductions:

Taxable income is basically what is left over after you’ve reduced your AGI with deductions and exemptions. Almost every individual can take a standard deduction, while some are permitted to itemize them. Itemized deductions can include expenses for things like health care, personal property taxes, state and local taxes, gifts to charity and investment related expenses to name but a few.

Keeping track of your itemized expenses throughout the year can form part of an excellent tax planning strategy, and you can do so using a spreadsheet or personal finance program. This enables you to quickly compare these expenses with your standard deduction, and you should always take the higher of your standard deduction or your itemized deduction.

Getting married or having children can increase your standard deduction.

Taking full advantage of tax credits:

After your taxable income has been looked at in greater detail and adjusted, you can begin to focus your attention on whichever tax credits you may be able to avail. These reduce your taxes and can include tax credits for college expenses, retirement plans or for adopting children. Perhaps the most effective credits are for adoption and college expenses.

Tax planning can seem complicated and while some business owners may figure it out and not feel the need to hire professional help, most feel it wise to do so since it ensures that everything will not only be filed correctly, but that it will be filed in a timely manner, as penalties for late filing can prove costly.

   

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