Most individuals are somewhat aware of the taxes they pay – or at least that they are paying taxes in the first place. 

Wage earners will see the difference between gross and net pay, while entrepreneurs and business owners will know all too well the pain of writing checks to the US Treasury. The purpose of this post is to provide high level information on how important it is to consider taxes in your financial plan – it is truly one of the last areas of “outperformance” available to investors who are willing and able to create (and stick) to a long-term plan.

Founders Note: After having to pay the government in addition to what I already ‘paid’ throughout the year, I realized I needed to speak with a CPA and really start planning this out. It takes a lot more than just going to H&R Block around tax season if you have multiple income streams or start creeping up in your tax brackets.

If looking to refine your tax planning, where should you start? 

• Your 1040 has (all) the answers. Nothing seems more daunting than reviewing your tax return. It is long (at least 40 pages) and not the most user-friendly document on the planet. The good news – you don’t need to read the whole return to gain valuable knowledge into your tax situation. What to look for? Well, let’s start on the first page (and please note these lines are in reference to the 2021 1040, this does change on occasion). 
• Line 11 – This is your adjusted gross income (AGI). Your AGI is quite literally your adjusted gross income – this is different from your taxable income (line 15) but important to know as a number of deductions and tax credits depend on this numbers. 
• Line 15 – This is your taxable income and what your overall tax liability is based on. This accounts for deductions (including the standard deduction) and is almost always lower than your AGI. Want to know your tax bracket, look at line 15 and this chart (for married filing jointly).

Founders Note: This is complicated if you’ve never seen it before, but that’s where a competent CFA and CPA can help out. Even more important is making sure you’re learning from these people and you’re reading up on this information too. Not only does it make tax season less complicated, but it also allows you to make more informed decisions with your investments (taking the emotion out of it).

2021 tax rates. Source: IRS.gov

Founders Note: For 28 years of my life (6 of those I made well over six figures in W2 income) I thought that you would just the tax rate for your bracket, multiply by your AGI, and BOOM you’d have your tax amount – Yup, I was wrong. We are in fact using a tiered system as this chart shows and Frank goes into detail about.

• In short – Your goal is to keep the number in the first column as low as possible throughout your lifetime (sounds daunting, doesn’t it). What this means is actually quite simple – play the long game. 

• Line 37 – This is the amount you owe. Yes, we just skipped a bunch of lines (intentionally). This is what you owe in taxes above and beyond what you have already paid the IRS. The goal is to keep this number as low as possible without going below zero. If this number is lower than zero, you will see an amount listed on line 34, which is your refund. Why skip to this line? Because it is the cheat-sheet to say “Did I mess up?” Is this number really high? If so, take a look at a few lines to make sure all the data is captured. Are lines 25 A through D populated? If these are zeros, you likely entered data incorrectly as you should have had some taxes paid in for the year. Also check line 12a – this is your deduction, which simply means the amount your AGI was reduced based on certain criteria. If this number is below $12k (for single filers) or $20k (for joint filers) you likely have an error as the standard deduction is higher. All of these items feed into line 37, hence why it makes sense to go here – check the answer key (if you will) and then seek any issues. 
• Schedules and Forms – These will vary from person to person. Generally speaking, these are great reference guides to determine “How is my AGI XXX?” or “Why is my deduction so high/low?” Forms provide the context for the numbers on pages 1-2 and can be valuable for figuring out the “why?” behind the numbers. 

What’s the point of all this?

At a basic level, looking for errors. The IRS is not in the business of double-checking your work, they are in the business of collecting taxes and ensuring that said collections are no less than they should be. You have to be your own best advocate to ensure accurate filings – even if you hire a tax preparer. 

The next level – optimization. Your tax return will provide the blueprint for making more comprehensive long-term tax planning decisions, such as:

• Should I exercise NSOs this year?
• Should I contribute to the Roth 401k or traditional 401k at my employer? 
• Should I consider a retirement plan at my business?
• How should I structure my charitable giving plans to ensure the charities are receiving the full amount of my wishes while also optimizing my tax circumstances? 
• Should I complete a Roth conversion to increase the value of my tax-free retirement accounts?

Founders Note: This entire article should inspire you to go find someone to chat with about taxes and your planning. Especially these last 5 bullet points. Finding someone to learn from AND action this information can save you money and stress. I personally have had to deal with the fun tax experience of ISOs (the sister to NSOs) this year and fortunately have had the right people in my corner.

Want to learn more and go through your 1040? 

Feel free to reach out – we are happy to walk through this with you and provide helpful tips/tricks/and considerations for you and your tax preparer.