While the basics of tax planning hold true regardless of a person’s profession, in certain fields there are nuances that need to be acknowledged for planning to be optimized. For medical professionals, demanding schedules and special considerations brought on by high incomes can make tax planning especially challenging. Tax professionals can serve medical workers well by encouraging them to take the necessary time to establish a long-term tax plan.
Every financial decision that we make has an impact on the taxes that we will be required to pay. Tax planning, whether it’s designed to help a doctor who is managing a practice or a physician’s assistant who is managing their personal finances, ensures that tax breaks are maximized and tax liabilities are minimized.
While effective tax preparation can reduce the taxes that must be paid this quarter or this year, effective tax planning will help ensure that tax payments are kept to a minimum for years to come. Developing an effective tax plan should involve setting long-term goals and establishing practices that will ensure those goals are achieved.
With a sound tax plan in place, individuals and organizations can anticipate and prepare for tax obligations, reducing the stress that tax season can bring. Without a plan, efforts to meet the tax obligations required by law can suffer from inefficiencies and redundancies. In a worst-case scenario, poor tax planning leads to unnecessary fees, costly overpayments and avoidable tax penalties.
Reducting taxes by reducing taxable income
The high salaries that medical professionals typically earn do not need to translate into high taxes. Taxes are based on taxable income, which can differ greatly from actual income. Effective tax planning can include multiple provisions to reduce taxable income.
Retirement plans provide opportunities to reduce taxes by reducing taxable income. Contributions made to pre-tax accounts such as 401(k) accounts or profit-sharing plans are tax deductible for the year in which the contribution is made. By maximizing contributions, taxable income is minimized and taxes are deferred until retirement.
Charitable giving is another way to reduce taxable income. Money given as donations to qualified charities can be subtracted from taxable income. For those with securities accounts, donating securities can provide even greater tax reductions than donating cash by providing a deduction and reducing capital gains taxes associated with the sale of securities.
Make tax-efficient investments
Profits on investments typically are considered capital gains and are subject to taxes. To continue growing investments while reducing taxes, medical professionals should consider including tax-efficient investment vehicles in their portfolio.
Tax-managed investment funds and exchange-traded funds generally generate less capital gains than actively managed funds. Also, certain bonds, including municipal bonds and Treasury savings bonds, are tax exempt.
While tax-deferred investments can improve a client’s short-term tax situation, a diversified investment strategy that includes a wide range of investment vehicles can result in a more manageable long-term tax situation.
Track updates to tax law
Changes to tax law are common. Updates can result in changes to a client’s tax responsibilities even when their financial situation does not change. Tax plans should be reviewed and updated accordingly whenever the Tax Code changes.
As an example, recent amendments to the Tax Code included a change in the way that deductions impact taxable income. In general, the change made it more advantageous to claim the standardized deduction than to itemize deductions.
The change involving deductions has numerous implications for tax planning, especially in the area of charitable contributions. Individuals and businesses exploring itemized deductions now must weigh the benefits of “bunching deductions,” a technique in which taxpayers delay their claim to contributions from one year to the next. Taxpayers can also consider maximizing the benefits of itemized deductions by grouping donations that are typically given over several years into one large donation given in a single calendar year.
The COVID-19 pandemic has prompted a wide range of changes in U.S. tax practices, from extending filing deadlines to introducing tax credits and rebates available to certain individuals and businesses. Some of the tax relief applies specifically to frontline workers. As the pandemic continues and new relief measures are introduced, medical professionals would be wise to launch or revise tax plans to take advantage of all available benefits.
