As we come to the end of the year, we are shifting our focus to year end planning. This involves cash flow allocation, charitable giving, and tax planning. We have a particular focus on tax planning given that taxes are the biggest lifetime expense most of us will pay. As we like to say around the office, pay your taxes to the IRS, but don’t leave them a tip!

What does tax planning really mean? Here are a few principles that add context to this question:

• Our goal in tax planning is not necessarily to mitigate taxes in the current year, but rather to optimize when you pay them. Ideally, you want to increase your income in years when you are in a lower tax bracket and decrease your income in years when you are in a higher tax bracket.
• In years when you are in a lower tax bracket, you want to fill up the “bucket”. The tax brackets are a series of buckets that get filled with income. When one bucket gets full, additional income spills into the next higher rate bucket. That means that if you are in a low tax bracket and have not filled up the bucket, it might make sense for you to use a strategy to increase income and fill up that lower bucket with the understanding that you are paying a lower tax rate now than you might in the future. The opposite is also true. In a high-income tax year, you might want to use an income reduction strategy to take money out of the higher taxed bucket and pay less income tax now.
• Good tax planning needs to take a multi-year approach. We make assumptions about your future to determine your tax situation today. Without a multi-year approach to planning, we would not be able to determine if you are in a year to increase income or decrease income. We also want to look beyond just your lifetime. It doesn’t do any good to mitigate taxes now if you end up dumping additional tax liability on your heirs, who might be in a higher tax bracket than you when they receive that money!
• Many tax planning techniques can only be properly quantified when projected over multiple years, or even decades. Therefore, we integrate a multi-year cash flow plan into our tax planning process so we can quantify the long-term value of a particular strategy. Even if it means a higher tax bill today.
• Tax planning is mostly science, but there is some art to it as well. The best decisions are not always obvious, so we need to use our best estimates and assumptions about the future and your personal situation and goals.

We look forward to partnering with you as the year wraps up to make sure you don’t leave a tip to the IRS!

How have you seen tax planning add value to your financial situation?