Episode 27: Tax Planning Strategies for Turbulent Times Part 1

In Part 1 of this three-part series, Brett shares several tax planning strategies small business owners can use to reduce their overall tax bill and reach their financial goals more efficiently.

As a small business owner, whether we are saving, investing, spending, or receiving wealth, there’s not really a move we can make without considering how taxes might influence the outcome. And it’s no wonder small business owners get nervous when there’s a lot of talk about higher taxes in 2022 but really little certainty on what may come of it and who it might affect the most.

So how do we plan when we cannot know? The particulars may evolve in time. Yet it seems there are always a handful of tax breaks to encourage us to save toward our major life goals, such as retirement, healthcare, education, charitable giving, and the eventual sale of our business. However, it remains up to us to make the best use of these tools of the trade. So, in today’s episode, let’s take a look at some of the most familiar tax breaks available. And in our next episode, I’ll cover how we help our business owner clients incorporate them into and across their greater wealth goals.

Saving for Retirement

First and foremost, saving for retirement. The good and bad news about saving for retirement is how many tax-favored savings accounts that exist for this purpose. There are a number of employer-sponsored plans we can use like the 401k, SEP, and SIMPLE IRA. There are also individual IRAs you can establish outside of your business. For both there are Traditional and Roth structures available.

In any of these types of retirement accounts, your dollars have the opportunity to grow tax-free while they remain in the account. And this helps your retirement assets accumulate more quickly than if they were subject to ongoing taxes that taxable accounts incur annually, such as realized capital gains, dividends, or interest paid.

From here, tax treatments for different types of retirement accounts can differ dramatically. For some you can make pretax contributions, but withdrawals are taxed at ordinary income rates in the year you take them. For others you contribute after-tax dollars but withdrawals are tax-free, again with some caveats. Each account type has varying rules about when, how, and how much money you can contribute and withdraw without incurring any annoying penalties or unexpected taxes owed.

Saving for Healthcare Costs: HSAs

The healthcare savings account—an HSA—offers a rare triple-tax treatment to help business owners save for current or future healthcare costs. You can contribute to your HSA with pretax dollars. And HSA investments then will grow tax-free. Then, you can spend the money tax-free on qualified healthcare costs. That’s a really good deal. Plus, you can invest any unspent HSA dollars and still spend them tax-free years later, as long as it’s on qualified healthcare costs.

But again, there are some catches. Most notably, HSAs are only available as a complement to a high-deductible healthcare plan to help cover higher-than-expected out-of-pocket expenses. As employers, we can also offer flexible spending accounts (FSAs), into which we can add pretax dollars to spend on out-of-pocket healthcare costs. However, FSA funds must be spent relatively quickly. So, investment and tax saving opportunities are pretty limited.

Saving for Education

529 plans are among the most familiar tools for catching a tax break on educational costs. You fund your 529 plans with after-tax dollars. Those dollars can then grow tax-free. And the beneficiary—usually your kids or your grandkids—can spend them tax-free on qualified educational expenses.

Saving for Giving

Then there’s saving for giving, or donor-advised funds. The donor-advised fund is among the simplest but still relatively most effective tools for pursuing tax breaks for your charitable giving. Instead of giving smaller amounts annually, you can establish a donor-advised fund and fund it with a larger lump sum contribution in one year. You then recommend the donor-advised fund to do distributions to your charities of choice over future years.

When you combine this with other deductibles, you might be able to take a sizable tax write-off the year you contribute to your donor-advised fund beyond just the currently high standard deduction. There are also many other resources for higher end planned giving. For these you typically need to collaborate with a team of tax, legal, or financial professionals to pursue your tax-efficient philanthropic interests.

Saving for Emergencies

There are also a variety of tax-friendly incentives to facilitate general rainy day funds and to offset crisis spending, like the kind many of us have been experiencing during the pandemic. These include state, federal, and municipal savings vehicles, along with targeted tax credits and tax deductions.

Saving for Your Heirs

What about saving for your heirs? So, last but not least, a bounty of trust insurance policies and other estate planning structures help business owners leverage existing tax breaks to tax-efficiently transfer their wealth to future generations. So with recent negotiations over the tax treatment on inherited assets, small business owners may well need to revisit their estate planning in the years ahead.

In fact, whether the times are turbulent or tame, there’s always an array of best practices. We can aim at reducing your lifetime tax bills by leveraging available tools to maximum effect, and we’ll cover those in our next episode.

Enjoy the Episode!

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