You Filed Your 2022 Tax Returns, Now Let’s Look Ahead

Another busy tax filing season is behind us and with a return to normalcy this year, without significant processing delays at the Internal Revenue Service (IRS), we can look forward. Now is the time to reflect on 2022 in to plan for 2023. What went wrong in 2022 that we want to avoid in 2023? What went right in 2022 that we want to replicate in 2023? Let’s look at some goals to set to make next year’s tax filing season a success for you as taxpayers.

Advanced Preparation

Preparing for tax season should be a year-round process. Are you always finding yourself working with your CPA right up until the deadline to file an accurate return? In my experience, many taxpayers get to the end of the year and must think back 12 months to properly document income and expense activity. Meanwhile, those that are organized and prepared experience less stress when the calendar flips to a new year.

Are you buying a house? Are you considering a job change? Are you going back to school? When a significant transaction or change in income occurs, notify your accountant at that time. Do not wait until the following April! Not only does this allow for better organization at tax filing time, but it will allow for an opportunity to mitigate the tax impact through proper planning upfront. It will also help to avoid those last-minute “SURPRISE” tax bills. I would encourage everyone to work together with their accountant throughout the year and to schedule a meeting with their CPA at least twice a year.

Planning Points to Reduce the 2023 Tax Burden

Now is the best time to review your overall income and develop a tax savings plan going forward. Here are a couple of easy ways to reduce your 2023 tax burden.

1. Contribute more to your retirement plan. This early in the year, you can increase the amount that is deferred and spread that amount over the remainder of the year. Small changes now turn into significant changes over an extended period. If you increase your weekly 401(k) contribution by $100 now, over the remaining six months of the year, you will have contributed an additional $2,600 to your 401(k).

2. Review your withholdings and estimated tax payments. If you were surprised by a big tax bill after year-end in 2022, you can increase withholdings or make estimated tax payments throughout the year.

 3. Utilize capital losses to offset capital gains. With the market over the past 18 months, you may have incurred losses on investments. It is important to utilize these losses in the same tax year you have a capital gain event.

 4. Review itemized deductions. Due to the increased standard deduction and the state and local tax (SALT) limitation, the majority of taxpayers are now utilizing the standard deduction as opposed to the itemized deductions. However, this should be reviewed annually to see if you can take advantage of the itemized deductions, such as mortgage interest, investment interest and charitable contributions.

5. Review eligibility for additional deductions and credits. You may be eligible for other tax deductions, and there are a plethora of tax credits for various activities. There are many new credits in 2023 geared at increasing energy efficiency and energy savings. Now is the time to familiarize yourself with the available deductions and credits.

Review Entity Structure

For small businesses, the most important tax decision is choosing an entity structure. Now is a great time to re-evaluate whether a sole proprietorship, LLC, partnership, S corporation or C corporation is the right fit for your business. For closely held small businesses, typically the two options you are comparing are an LLC (taxed as a sole proprietorship or partnership) and an S corporation.

1. LLC – The default classification of an LLC is either a partnership or a sole proprietorship, depending on whether there is one owner or more than one owner. The LLC does not pay income tax. Rather, the income is reported on the individual owner or owners’ income tax returns. This is called pass-through taxation. Below are some of the tax advantages of an LLC:

a. Ownership Flexibility – There are no restrictions on the number and type of owners.

b. Allocation of Income and Distribution of Profits – Profits and distributions are not required to be strictly based on ownership. If some members are contributing “sweat equity,” those members can be compensated with specifically allocated distributions.

2. S Corporation – The same benefits of pass-through taxation are realized by an S corporation. In contrast to the benefits of an LLC taxed as a partnership, an S corporation must have fewer than 100 shareholders that are individuals (with limited exceptions). Additionally, S corporation profits and distributions must be allocated by stock ownership percentages. The most significant benefit of an S corporation compared to an LLC would be the self-employment tax. Currently, S corporation pass-through income is not subject to self-employment tax, while active participants in an LLC are subject to the tax on partnership profits.

I cannot stress the importance of being proactive enough. Tax planning and preparation should be a year-round process. If it is left to figure out in “tax season,” then you will likely overpay. A simple change in procedures and a timelier review of your estimated tax liability are critical to reducing “tax season” stress and, more importantly, reducing your tax liability.

Contributing Author: Nicholas L. Shires, CPA, is the partner-in-charge of tax services at Dannible & McKee. Nick has over 19 years of experience providing tax and consulting services to a wide range of clients, including individuals and privately held companies. For more information on this topic, you may contact Nick at nshires@dmcpas.com or (315) 472-9127.