Tax season brings both apprehension and anticipation for individuals and businesses alike – a true commiseration that unites us as a society. But it's an obligation to evaluate your financial activities over the past year and determine your personal liability. What you might not know is in this process, there are two different practices: tax planning and tax filing. While they may sound similar, they refer to distinct aspects of managing your taxes, and the ability to differentiate and comprehend the purpose of each practice may prove to benefit you and your bottom line. 

Tax Planning vs. Tax Filing: What’s the difference?

Tax planning involves the strategic management of your financial affairs throughout the year to minimize your tax liability when it's time to file your tax return. It focuses on legally optimizing your tax situation by taking advantage of available deductions, exemptions, and credits.  

Tax planning is just that – proactive preparation and planning that really forces careful consideration and deliberate actions in structuring your finances. In doing so, anyone can execute a strategy that both avoids paying the maximum tax required for a certain transaction and minimizes the tax liability by utilizing certain systemic structures – without ever stepping out of legal bounds. 

Onto more familiar territory – tax filing is simply the process of submitting your tax return to the appropriate tax authorities, reporting your income, deductions, and credits for a specific tax year. Most of us know the process well. It involves accurately completing the necessary forms and submitting them within the prescribed deadline. While tax filing is a mandatory obligation, tax planning is an additional practice that can significantly benefit individuals and businesses of all income brackets.

Key Benefits of Tax Planning

At its core, tax planning has the potential to reduce your overall tax liability. By employing certain strategies, such as maximizing deductions and credits, deferring income, and making strategic investments, tax planning allows you to legally minimize the amount of tax you owe. When done so correctly, the result is often savings upwards of $7,000 per year. 

Any type of financial planning puts you in a better position to optimize your financial decisions. By reviewing income, expenses, and investments in advance, you are, at a minimum, better informed to make strategic decisions that will impact your bottom line. For instance, you may choose to contribute to tax-advantaged retirement accounts or take advantage of educational savings plans to reduce your taxable income while simultaneously investing in your future – options that otherwise might not be on your radar. 

There’s a common misconception that tax planning is solely beneficial for high-income individuals, so let’s debunk that myth – people across all income levels can benefit from this strategic support. The strategies employed may differ depending on income and financial circumstances, but tax planning is simply about maximizing available deductions and credits for your specific situation. 

For lower-income individuals, tax planning can help ensure that you are aware of and utilizing the various tax credits eligible for tax deductions and credits. This could include Earned Income Tax Credit (EITC), Child Tax Credit, or education-related credits. Strategic tax planning provides the avenue to claim these benefits and receive valuable refunds or reduce your tax liability. 

Similarly, middle-income individuals can take advantage of planning strategies like maximizing deductions for mortgage interest, property taxes, medical expenses, and charitable contributions. By structuring your finances effectively, you can optimize your tax situation and potentially qualify for tax benefits. 

Regardless of a person’s socio-economic status, tax planning provides a valuable opportunity for anyone to gain a better understanding of their financial situation. By reviewing income, expenses, and investments, you can assess your financial health, identify areas for improvement, and set realistic – or even ambitious goals. 

Tax planning and tax filing are distinct but interconnected aspects of managing your taxes, and ultimately your financial situation with a holistic approach. While tax filing is an obligatory reporting process, tax planning is a far more proactive approach involving strategic financial management.  

The core of tax planning comes down to preparation. By embracing tax planning as a regular practice, individuals can navigate the complexities of the tax system and secure a stronger financial future. 

Key Benefits of Tax Planning

Step one is to find a qualified tax professional to help you assess your situation and develop a plan that meets your individual needs.  

Step two is to gather your financial information, including your income, expenses, deductions, and credits. 

Set realistic goals for yourself. Determine how much you want to save on your taxes each year, and use that as your driving target throughout the practice. 

Most importantly – be prepared, patient, and persistent. Tax planning requires a runway of at least a few months to put all of the pieces into place, and will forever be an ongoing process, taking time to develop and execute a strategic, effective plan.