Your Guide to Tax Preparation and Tax Planning as an Advisor

8 min read
September 06, 2021

Tax preparation and tax planning are two processes that help you plan to file your individual and business tax returns. Depending on your tax situation, having tax preparation and tax planning done by a professional can help eliminate your tax burden when the time comes to file your returns. Although they are closely related, it’s important to understand the difference between tax preparation and tax planning.

Tax preparation is a service done by a professional that assists you in filing your personal and business tax returns based on the financial events that occurred in the current tax year. Tax preparation is reporting financial events that have already occurred and ensure that they are being reported so that they comply with federal and state tax laws. Tax planning, on the other hand, helps to optimize your tax situation based on financial events that have not yet occurred but are expected to in the upcoming tax years. Tax preparation is a consideration of your financial projections and goals. Let's dive into more detail about each. 

You like benefits and perks, right? Our Membership Guide showcases all of the  value and savings you can get from an XYPN membership. Download today and do  the math!

Tax Preparation

Depending on the complexity of your financial situation, it may be advantageous to hire a professional to prepare your taxes. A professional with tax knowledge can identify deductions or credits to help save you money that you would have paid in taxes. Professional tax preparation can eliminate errors and ensure compliance with federal and state laws. Mistakes made when reporting your taxes can be very costly and can trigger IRS communication or extensive audits in the current and previous years. Professional tax preparers can answer any of your questions and help resolve any issues that you may have.

Tax preparation can be complicated—with the ever-changing tax code, mistakes are often made when an individual prepares their own tax return or relies on fill-in-the-blank tax software. A professional can advise you in the current year and years to come. Tax changes to consider in the upcoming year are the stimulus and child tax credit payments, IRA conversions, IRA contributions and distributions, stock options, and increased phase-out amounts, to name a few. Tax professionals can review prior year returns for mistakes on reporting income or claiming deductions and credits. Amending a previously filed tax return can result in a refund of the original tax paid in prior years. At XYTS we have been able to review and amend several clients’ prior year returns saving clients thousands of dollars. Having a professional review your prior year’s tax returns can put more money back in your pocket and help eliminate future errors.

Tax preparation by a professional can ultimately give you peace of mind. You can rely on a knowledgeable individual or team to reduce stress and the difficulty of doing it yourself. Preparation by a professional should give you confidence that your taxes are filed correctly and in compliance with federal and state laws.

Tax Planning

Tax planning is an advantageous service that can optimize your tax situation and help to minimize your tax burden when it comes time to file your state and federal returns. There are many reasons for tax planning for both short-term and long-term projections.  Let’s discuss who would benefit and some common scenarios where people may want to consider tax planning. 

Based on your personal financial situation, tax planning can be as simple as ensuring you are withholding enough from your paychecks or making estimated tax payments to avoid underpayment penalties. Long-term planning may be projecting high-income years and planning to increase itemized deductions, such as charitable contributions, to alleviate some of the tax burden. Tax planning will take your financial goals and projections into consideration to optimize your future tax situation.  There are three basic methods to tax planning: reducing your overall income, increasing your number of tax deductions, and taking advantage of income adjusting credits.

The first thing we want to consider when tax planning for an individual is what tax bracket you will be taxed at based on your income for the year. The highest federal tax bracket is 37% which does not include an additional 3.8% tax on net investment income. An individual who has their ordinary income and investment income taxed in this range may want to focus on tactics to reduce their taxable income. Additionally, individuals who are on the cusp of one tax bracket or another may also want to consider those strategies. If an individual has a year that their taxable income increases significantly and does not plan for the increase in taxes that will be owed, they could end up paying a substantial amount of tax on their hard-earned income. Each year the IRS adjusts the tax brackets to account for inflation, thus changing for the 2021 tax year. See the tax rates for 2021 below: 

  • 12%, incomes over $9,950 for single taxpayers, $19,900 for married couples filing joint
  • 22%, incomes over $40,525 for single taxpayers, $81,050 for married couples filing joint
  • 24%, incomes over $86,375 for single individuals, $172,750 for married couples filing joint
  • 32%, incomes over $164,925 for single individuals, $329, 850 for married couples filing joint
  • 35%, incomes over $209,425 for single individuals, $418,850 for married couples filing joint

There are several strategies that a tax professional can utilize to lower the amount of tax you owe with your return. When planning for your taxes, the next thing to consider is how certain sources of income are taxed at different rates. Ordinary income is any income received that is subject to income tax. This includes employee earned wages, salaries, tips, and bonuses, rental income, interest income, and business income. Ordinary income is taxed at whatever tax bracket your income puts you in (see the tax rates provided above). Tax paid on capital gains, which includes qualified dividends, depends on your filing status, the tax bracket you are in, and whether your investments are held for a short-term or long-term period. 

A taxpayer may choose to invest their earned income into stocks and dividends, so the income derived from these sources will be taxed at a lower rate. Taxpayers who invest in this type of income may use the tactic of selling their loser investments at year-end to offset capital gains that may be reported in the current year. This will reduce taxable income and tax owed, but you will sacrifice the investment income that would be taxed at the lower rate. See the tax rates for short and long-term capital gains below. Based on the tax rates provided, you can see that converting some of your ordinary income into short or long-term capital gains can be advantageous in reducing your tax burden.


Deductions, adjustments to income, and nonrefundable credits should also be considered when tax planning. Itemized deductions (if greater than the standard deduction) and adjustments to income decrease the amount of taxable income. Credits adjust the amount of tax calculated based on the taxable income and the tax bracket percentage that you are being taxed at. See examples of these below:

 Itemized deductions to consider include the following:

  • Qualified medical expenses (if expenses exceed 7.5% of your adjusted gross income) including medical and dental expenses, insurance premiums paid out of pocket, long-term care premiums, out of pocket prescription expenses, and medical miles driven (deducted at 17 cents per mile)
  • State and local taxes deductible up to $10,000 including state sales and income tax (but not both), real estate taxes, personal property tax (tax on vehicle, boat, etc. registration), prior year state tax payments paid in the current tax year, and sales tax paid on large purchases such as a boat, vehicle, or camper
  • Interest payments including mortgage interest payments, investment interest, prepaid mortgage interest, and refinancing points 
  • Charitable contributions including cash or check donations, volunteer mileage driven (deducted at 14 cents per mile), noncash contributions, and qualified charitable distributions (direct transfers of funds from your IRA custodian payable to a qualified charity)

Adjustments that can lower your taxable income include the following:

  • Educator expenses (up to $250)
  • Health savings contributions
  • Contributions to a self-employed SEP, SIMPLE, or other qualified plan
  • Self-employed health insurance premiums paid
  • Student loan interest
  • Tuition and educational fees deduction
  • IRA contributions 

Credits that can lower the amount of tax owed on taxable income:

  • Foreign tax credit
  • Credit for child and dependent care
  • Education credits
  • Retirement savings contributions credits
  • Residential and energy-efficient vehicle credit

Itemized deductions, adjustments to income, and credits are phased out depending on your taxable income but can be a beneficial strategy to consider when tax planning. 

Deferring income or accelerating deductions can be a strategy to keep your tax burden lower. Self-employed individuals can avoid collecting outstanding balances or encourage smaller deposits for unearned revenue at the end of the year to postpone reporting that income until the following year. Taxpayers can wait to send out invoices until after the year-end. Accelerating deductions at year-end will also reduce income. Self-employed individuals often purchase computers, software, vehicles, equipment, and supplies at year-end to reduce their tax burden.

Investing your taxable income into non-taxable income is another approach that many taxpayers use to reduce their taxable income. Many businesses offer employee benefits that are deducted from your paycheck pre-tax. Some of these options include contributions to 401(K) retirement plans, contributions to IRAs, the election of employer-sponsored health insurance, a portion of childcare stipends, contributions to health savings accounts, and contributions to flex spending accounts. Money designated to these benefits are tax-free, thus lowering your taxable wages, so investing in these options can help lower your tax liability.

Converting an IRA to a Roth IRA is another strategy we saw often used in the 2020 tax year. Although there are no immediate tax breaks with Roth IRA conversions, it can lower your taxes in the future. Withdrawals from a traditional IRA are considered tax-deferred, meaning you will not pay money on the contributions but will be required to do so when on both the interest and other gains earned when you receive the distributions. Depending on your financial situation, contributing to a traditional IRA may entitle you to a tax deduction for that tax year. On the contrary, Roth IRA contributions are not tax-deductible. However, earnings can grow tax-free and qualified withdrawals are tax and penalty-free. Qualified distributions from a Roth IRA are essentially tax-free. This may be beneficial down the road when you are retired or at the age of 72 when you are required to make minimum distributions. 

If you are considering converting a traditional IRA to a Roth IRA there are a few things you must consider. First, the amount you convert will be added to your taxable income and you will have to pay tax on the amount converted on that year’s tax return. The other thing you should consider is how the additional taxable income will affect what tax bracket you are in. Be mindful of your tax bracket and the consequences of landing in a higher one. You may want to consider converting a portion or none at all. 

Tax preparation and planning can be a daunting task, and it often leaves many individuals feeling overwhelmed. Whether you are preparing your tax return or planning for your future financial goals, working with a professional can alleviate the stress of taxes and provide you confidence in your future financial objectives. As we reviewed above, there are several strategies and approaches you can take to keep your hard-earned money in your pocket—so make sure you are taking advantage of them. 

If you would like to talk to a professional on our team about tax planning or preparation for you and your clients, or just get advice, check out XYTS and get in touch with us. 

New call-to-action

Chelsey PateraAbout the Author
Tax Specialist Chelsey Patera is a recent graduate of Montana State University with a bachelor’s degree in business and a focus in accounting. She's a Bozeman native with strong ties to the community. While in college, Chelsey interned with Franks and Associates, CPAs. She right at home on the XY Tax Solutions team, where she showcases her tax expertise on the daily.

Subscribe by email