We all are happy, satisfied, and indulged in everyday routine until a paper labeled ‘Tax Liability’ comes in post or email. Unfortunately, many of us are still unable to determine our actual tax liability and how to manage the taxes with the help of financial planning.
So, if you are looking for an intricate piece to understand what happens to your tax liability with proper financial planning, this piece might contain all the necessary information. We hope you are wise with financials and establish a vigilant tax-paying strategy.
What is Tax Liability?
Tax liability is the amount individuals and businesses owe the state at a specific time. Your tax liabilities are due every year and should be paid on time to pay back the state,
It is mandatory for businesses and individual salaried people to pay this liability. Tax liabilities are mentioned in your balance sheet’s ‘current liabilities’ section if you are running an organization. Individuals, on the other hand, pay their liabilities from wages and salary. In this case, we can say that it comes out of your personal bank account.
Tax liability is paid to federal, state, governmental organizations, and other legally registered services. Anything users pay to the country is used to maintain country standards, like roads, governmental departments, and military management. Apart from that, tax is also used to offer services to people who are currently unemployed and need support to get by.
Tax Liabilities on Different Profiles
Just like the amount, the tax liability on different profiles also differs from each other. Depending on sources of income, businesses, and services, people are taxed annually.
Salaried Person
A salaried person or someone who works on wages is taxed as one identity. You do not have to pay additional taxes on electricity, residence, and other services.
Sole Traders and Partnership
Sole trading and partnership businesses are also taxed under the owner’s name. Your personal income and the business’s profits are all calculated as one. Also, since most are SMEs, users do not consider investing in a large office setup. You can list your profits as income, but keeping the savings and reinvestments separate is essential.
LLCs
Also known as limited liability companies, people who run an LLC are considered separate from the business. They are charged as commercial enterprises, and users must manage separate statements. An LLC might have to pay sales tax on the products they sell. Businesses are also supposed to pay social security and medical-related expenses as well.
What do We mean by Tax Planning?
Taxes are unavoidable. They are part of life. But there are ways to manage them better, both in terms of minimizing the amount owed and maximizing what you keep.
Reducing your payable taxes and optimizing the income you keep to yourself within the ambit of law is called tax planning.
Regarding your taxable annual income, proper tax planning could mean avoiding a whole litany of potential problems. This includes paying too much in taxes, paying interest charges on unpaid balances, or even being forced into bankruptcy.
While there are many different tax planning strategies, one thing is sure: Proper tax planning is necessary to ensure that you maximize your returns and minimize your liabilities.
Regarding your taxable income, proper tax planning can make a big difference. You don’t want to pay too much, nor do you want to owe too little. And, you definitely don’t want to end up owing Uncle Sam penalties and interest charges.
Difference between Tax Evasion and Tax Planning
Tax evasion involves violating laws regarding taxation. Tax avoidance refers to actions taken to reduce taxes owed or avoid paying taxes altogether. Tax planning includes activities such as minimizing income tax liability, maximizing deductions, and reducing capital gains taxes. While tax evasion is a criminal offense, tax planning is not.
The IRS defines tax evasion as “the willful attempt in any manner to defeat, evade, or otherwise prevent the collection of federal income tax.” This definition does not include tax planning. By contrast, the IRS describes tax planning as “a legitimate way to minimize one’s overall tax burden.”
What is the Impact of Financial Planning on Tax Liabilities?
Including tax in your financial planning yields multiple money-related benefits. Financial planning helps you reduce tax liabilities, which ultimately lifts pressure off businesses and individuals to help them achieve their long-term and short-term goals.
Following is the impact of financial planning on your tax liabilities.
Define Actual Income
By clarifying your taxable income and liabilities, you can define the amount that touches your bank account every month. A financial planner helps you establish the amount due to the state after a while. It also clarifies whether your amount is enough to support yourself and your family.
Plan Life Better
Another perk of understanding your tax liabilities is that people can plan things in a much better way. You can easily decide whether your current income (after taxes) is enough to pay for the day-to-day expenses and emergencies. If the payment does not suffice, you know it’s time to make some changes. You can also include this in your financial life plan to have better long-term goals and enjoy life better.
No Burden
If you want to establish your tax liability with proper financial planning, a professional with experience will oversee the documentation process. This saves you the time and effort taken to determine your taxes correctly. With no burden, people can focus on other things like family time, business plans, and more.
Ensures Better Savings
Planning your tax liability ahead of time helps you have a better look at your income and see what can be saved if you wish to save money. Make a savings account to receive some kind of benefits in the end.
Steps to Reduce Tax Liabilities
You can reduce your tax liabilities by including these steps in your financial plan.
Claim the Possible Deductions
Tax credits and deductions are applied to family, home, savings, healthcare, education, job, business, investments, and other services. Things claimed on the payroll tax exemptions determine the final tax liability figure. A simple way to exempt this is by using most of your credits.
Make Donations
Making donations to high-end listed charities helps claim tax deduction donations. Opening a Donor Fund is a great way to document and record these transactions. It covers everything from your complex to more straightforward assets you plan to donate to charity. These accounts help reduce capital gains. Usually, large businesses and LLC corporations use this step.
Full Retirement Accounts
Another way to reduce tax liabilities is by maxing out the retirement account. These accounts offer you contribution limits leading to tax savings on the plan. A Roth IRA account is popular as it is created with current taxable income and does not need additional taxes while withdrawing.
On the flip side, a 401(k) is taxed on the current income rate at the time of withdrawal. Either way, choosing one of these plans help people avoid paying the regular tax liability.
Hire Professional Services for Help
Planning the tax liability might not be easy for some people. If you are looking for a helping hand, consider hiring a professional financial planner to help you reduce tax liabilities. Based on your assets and income, you might need the services of a wealth manager or financial planner.
Strategies to Reduce Taxable Income of High Earners
High-income earners are often experts in their fields and have spent many hours developing their careers over the course of several years. This hard work should allow them to enjoy the fruits of their labor without worrying about complex and ever-evolving federal tax laws or limiting future earnings growth.
If you are a high-income taxpayer and you want to reduce your taxable income while still growing your net worth, consider the following strategies:
1. Hire a professional accountant. You may already have one, but if not, now is the perfect time to start looking into hiring someone to help you manage your taxes. An experienced accountant can help you navigate complicated tax rules and regulations and ensure you aren’t paying too much in taxes. A good accountant can save you thousands of dollars each year and ensure you don’t miss out on opportunities to lower your tax bill.
2. Consider taking advantage of the Section 179 deduction. Businesses can deduct a reasonable amount of qualified property purchases from their tax return. This includes equipment like computers, furniture, and even vehicles. While this isn’t huge, it could add up to hundreds or even thousands of dollars over multiple years.
3. Look into Roth IRAs. These accounts let you contribute pre-tax money to an account that is taxed later rather than immediately. In fact, contributions to Roth IRAs are never taxed. This allows you to put away extra cash during the year, knowing that you won’t owe any taxes on it.
4. Create a 401(k). This type of plan lets you invest your money in employer-sponsored investments, such as stocks, bonds, mutual funds, and ETFs. Your retirement savings grow tax-deferred, and you won’t pay taxes on them until you withdraw them in retirement.
5. Take advantage of tax breaks for real estate investors. Some people choose to invest in rental properties because it’s easier to manage than other types of investments. Still, some benefits to investing in residential real estate go beyond just being simple. For example, you might qualify for mortgage interest deductions, depreciation write-offs, capital gains exemptions, etc.
Key Takeaways
Tax liabilities are unavoidable dues that people and businesses must pay at the end of a fiscal year. Tax liabilities are applied separately to limited liability companies and individual accounts. Confirming your current dues can quickly achieve your long-term and short goals.
Hiring a financial planner can open appropriate accounts and claim assets to ensure a suitable liability. We hope you understand what happens to your tax liability with proper financial planning.
