Knowing to ask the right questions establishes a good tax plan |

Knowing to ask the right questions establishes a good tax plan

Chris Abts

What is the first thing you do upon receiving your last year’s tax return? File cabinet and move on? This is not the best idea you’ve ever had. You need to review your tax liabilities and learn if there are tax deductions and credits that would decrease your tax liabilities for the upcoming year as tax planning should become a necessary part of your business plan.

When operating a small business, the most important parts of tax planning are learning the correct questions to ask and solving the problems generated by the answers in order to minimize your tax burden. As established registered investment advisors and estate planners at Cornerstone Retirement, we use a proprietary Three-Step Review Process with clients to reduce tax burdens and determine the best results for a financial plan in several ways:

1. Analyze last year’s tax return.

The first step to minimize a tax burden is to analyze your previous year’s return with a look-forward approach. The key is to learn the questions to ask and the problems to solve in order to have a better result this year. For example, when evaluating your personal tax return, pay close attention to things like line 8 which is interest, line 9, dividends and line 13, capital gains, and ask yourself, “Am I spending this money?” If the answer is “no,” you are paying tax on money earned and not spent. Too often, this unnecessary income taxation can force you into a higher tax bracket. Proper planning is critical to maximize your savings.

2. Consider converting money from an IRA to a Roth.

Contrary to popular belief, the income limitations to convert are no longer in effect. When considering converting money from a traditional IRA to a Roth IRA, don’t just look at this tax year. Instead, look at what your income and tax rates will be in retirement to help determine if you should convert some or all of your funds. Keep in mind, if you are a small business owner, many of the tax benefits you enjoy now may end once you sell your business and retire and you may find yourself in a higher effective tax rate in retirement, even if you expect your income to be lower. If you think you may find yourself in this situation, you may want to consider a Roth conversion now. If a conversion doesn’t make sense in your particular circumstance, determine if some or all of your new contributions should be made to a Roth IRA or 401(k) rather than a traditional IRA or 401(k).

Converting to a Roth may not have been feasible in past years, but due to the current situation of the market and possibly your investment portfolio, transitioning from an IRA to a Roth might be more realistic, especially if you believe tax rates will increase. Roth IRAs provide tax-free growth; this is the primary difference between a Roth account and an IRA account. With a traditional IRA account your initial investment is tax deductible but fully taxable when withdrawn.

3. Be smart about deductions and credits

We provide our clients who are business owners an annual review of their financial statements and tax returns on a line-item by line-item approach. Using this approach, money, such as unnecessary income taxation falling through the cracks is identified. In our experience we find that most business owners believe they are taking full advantage of these tax reduction strategies, but in reality, very few are. It’s also important to review your personal expenses with your CPA or financial advisor to determine if any of these expenses can be legally converted to a business deduction. This review alone may uncover the dollars to fund your IRA contribution each year.

4. Take full advantage of estate tax exemptions that expire this year.

If you have been fortunate enough to accumulate a comfortable estate, your heirs may have to deal with estate taxes at your death. If your desire is to pass your business to the next generation, many times a business will fail simply because of onerous inheritance taxes.

Consider taking advantage of estate planning strategies that will expire at the end of this year that are designed to transfer assets, businesses, etc. to future generations, while eliminating/reducing future inheritance taxes. This could be a great opportunity for you to eliminate future estate taxes on your business without losing any control.

5. Retirement plan funding

Be sure you are taking full advantage and maximizing your retirement plan funding, be it an IRA, 401(k), SEP or SIMPLE IRA. Chances are you are aware of these plans. But did you know that as an executive or small business owner you could contribute more than $100,000 per year into retirement accounts? If you are so inclined, this would allow you to set more aside for your future financial security. The important point to understand is that you have options available to you that have much greater benefits when compared to traditional retirement plans. One strategy that you may want to consider is a private defined benefit pension which may allow you to set aside approximately $150,000 per year.

By incorporating one or all of these tips we have found that many clients can actually fund their retirement strictly from tax savings. We have helped many business owners find the money that is falling through the cracks. The key is to go through a process to learn the questions to ask and the problems to solve before you make a decision. Make 2012 your year to take control.

Chris Abts is president and founder of Cornerstone Retirement Services. Contact him at 853-9033 or through