Tax preparation and tax planning serve different purposes. Tax preparation reports transactions that have already occurred. Tax planning looks ahead while there is still time to evaluate decisions, prepare for obligations, and consider available options.
Waiting until a return is being prepared can limit those options. By that point, the tax year has ended and many business decisions can no longer be changed.
Planning begins with accurate financial information
Meaningful tax planning depends on current and reliable accounting records. Without accurate financial information, estimated taxable income and projected tax obligations may be incomplete or misleading.
Before planning begins, a business should generally have:
- Current bookkeeping
- Reconciled bank and credit card accounts
- Accurate payroll records
- Updated loan and fixed-asset balances
- Reasonable estimates for the remainder of the year
When the accounting is current, planning can focus on decisions rather than first trying to correct the records.
Prepare for tax obligations before year-end
Regular projections help business owners understand what they may owe and when payments may be due. This allows time to manage cash flow and make appropriate estimated payments.
Projections are especially important when income changes significantly during the year, a business is growing quickly, or the owner has income from multiple sources.
A tax projection does not eliminate every surprise, but it can replace uncertainty with a more informed expectation.
Business decisions often have tax consequences
Tax planning can help evaluate the timing and structure of significant decisions, including:
- Purchasing equipment or other business assets
- Hiring employees or engaging contractors
- Changing owner compensation
- Making retirement-plan contributions
- Paying bonuses
- Expanding into a new state
- Selling an asset or part of the business
- Changing the legal or tax structure of the company
Taxes should not be the only consideration in a business decision. However, understanding the tax impact can help the owner compare the available choices more clearly.
Entity structure should be reviewed over time
The structure selected when a business begins may not remain the most appropriate structure as revenue, profitability, payroll, ownership, and long-term plans change.
A periodic review can help determine whether the current structure still supports the business. Any change should be evaluated carefully because tax treatment is only one part of the decision.
Estimated tax payments may need to change
Estimated payments based only on the prior year may not reflect current performance. A growing business may need to adjust payments to account for increased income. A business experiencing a decline may also need to reconsider whether existing estimates remain appropriate.
Reviewing estimates during the year can help balance two competing concerns: avoiding a significant balance due and avoiding unnecessary overpayment.
Consider both the business and the owner
For many closely held businesses, business and personal tax planning are closely connected. The owner’s tax position may be affected by business income, wages, distributions, retirement contributions, investments, and other household income.
Reviewing only the business return may not provide a complete picture. Effective planning should consider the interaction between the company and the owner’s individual tax situation.
Year-round planning creates more opportunities
Tax planning does not require constant activity. For many businesses, scheduled reviews during the year are sufficient.
Common planning points may include:
- An early-year review after the prior return is completed
- A midyear projection based on current results
- A fall review before year-end decisions are finalized
- A final year-end update when necessary
The appropriate schedule depends on the complexity and pace of change within the business.
Planning creates time to make informed decisions
Good tax planning is not focused only on reducing taxes. It also helps a business prepare for obligations, maintain appropriate documentation, and avoid rushed decisions.
By reviewing the tax position throughout the year, business owners gain more time to consider their options and move forward with a clearer understanding of the potential financial impact.