By the time your CPA is preparing your tax return, most opportunities to minimize taxes have already passed.
The truth is that many people don’t know the difference between tax preparation and tax planning. While both are crucial for your financial health, they serve completely different purposes and happen at different times of the year.
Understanding tax preparation
Tax preparation focuses largely on compliance and maintaining good standing with the IRS. It’s about documenting what happened in the previous tax year and making sure you comply with current tax laws. When you compile your W-2s, 1099s and receipts for your yearly taxes, you’re engaging in tax preparation.
This process involves calculating your taxable income, identifying eligible deductions and credits, and completing the necessary forms to file your return, so you can report your financial activity accurately and pay the right amount to Uncle Sam.
But by the time you’re sitting down to prepare your return, it’s too late to change most financial decisions for that tax year. You can’t go back and contribute more to your 401(k) or restructure investment sales to minimize capital gains. That’s why tax planning is so important.
Failing to plan is planning to fail
Tax planning is a proactive, forward-thinking approach that examines your entire financial picture to identify opportunities for tax savings. Effective planning considers multiple variables like your current income, expected future earnings, retirement timeline, investment objectives, life events and family situation. The goal is to help you make smarter decisions throughout the year that position you for optimal tax outcomes.
For example, tax planning might involve timing the sale of investments to offset gains with losses or converting traditional IRA funds to Roth IRAs during lower-income years. It may also include estate planning considerations, such as gifting strategies that reduce future tax burdens for your heirs.
So while tax preparation focuses on one year at a time, tax planning takes a multi-year view of your financial life.
Tax planning and preparation: Better together
Tax preparation ensures you remain compliant with current tax laws and avoid penalties, and keeps you out of trouble with the IRS. On the other hand, tax planning helps you maximize your financial potential, keeping more money in your pocket. Both are crucial for your financial success.
Clients who rely solely on tax preparation risk unexpected tax bills and missed opportunities come tax season. But those who embrace tax planning are in a better position to build long-term wealth. Small moves — like increasing retirement contributions and utilizing tax-advantaged health savings accounts — can result in big savings over time.
Your best bet? Work with professionals who understand both tax preparation and planning. The tax experts at Magone & Company can help you make the most of your tax situation. Contact us at (973) 301-2300 to learn if you’re leaving money on the table.
This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your unique circumstances.