It's no secret that proper financial planning is key to a successful future. But what many people don't know is what happens to their tax liability with a well-thought-out plan. For example, what happens if your client invests in a Roth IRA? What about buying a home? Or even donating to charity?
All of these things can have an impact on a client's tax liability, and it's essential to understand how each one works before making any decisions. With a little bit of knowledge, you can make sure that you and your clients are taking advantage of all the tax breaks available and save money in the long run.
So, what happens to tax liability with proper financial planning? Let's take a look.
Tax liability
When it comes to taxes, liability is the amount of money that a person or entity owes to the government in taxes. This can be based on income, assets or even certain transactions. Tax liability is something that needs to be taken into account when filing taxes, and if someone doesn't pay their tax liability, they may face penalties.
There are different types of tax liability, and the one that a person or entity owes will depend on their situation. For example, someone who is self-employed will have different tax liabilities than someone who is employed by a company. The type of income that a person has will also affect their tax liability. For instance, someone who has income from investments will owe different taxes than someone who only has income from their salary. Therefore, it's crucial to understand your tax liability before tax season arrives.
How financial planning lowers tax liability
Careful financial planning can help lower a client's tax liability in various ways. Here are four different strategies:
1. Investing in a Roth IRA: When a client invests in a Roth IRA, their contributions are made with after-tax dollars. That means they won't get a deduction on their taxes. But when they retire and start withdrawing the money, those withdrawals are completely tax-free. That can save them a lot of money in the long run, especially if they're in a higher tax bracket when they retire.
2. Buying a home: When buying a home, a homeowner can usually deduct the interest on their mortgage on their taxes. That can save them a significant amount of money every year. And if they sell their home at a profit, they may be able to avoid paying any capital gains taxes on that sale.
3. Donating to charity: When donating to charity, taxpayers can deduct the value of those donations from their taxes. That can help reduce their overall tax liability while supporting causes that are important to them.
4. Retirement planning: Retirement planning can greatly impact taxes. For example, if your client contributes to a traditional IRA, they may be able to deduct those contributions from your taxes. And when they withdraw the money in retirement, it will be taxed at ordinary income tax rates.
Why create a financial plan with a CPA?
The best way for clients to reduce their overall tax burden is to work with a CPA, who can be extremely helpful when it comes to creating a solid financial plan. Not only will they help the clients understand their tax liability, but they'll also help find ways to lower it by looking at the deductions and credits clients are entitled to. Plus, they'll help make smart investment choices, plan for retirement, and assist clients in reaching their short-term and long-term financial goals.
