Small business owners and entrepreneurs often assume that tax planning is the same as tax preparation, but the two are in fact very different. Tax preparation focuses on filing your returns accurately, and often involves just one or two trips to your CPA. Tax planning, by contrast, is a year-round strategy designed to minimize your overall tax liability.

The two are completely different services. However, the right approach to tax planning and preparation can lead to significant savings. Let’s break down the differences between tax planning and tax preparation and highlight how understanding each can benefit your financial future.

A year-round strategy to reduce tax liability

Tax planning is a proactive approach designed to minimize your tax liability throughout the year, not just at the time of filing. When you analyze your financial situation from the get-go, you can implement strategies that help you take full advantage of available deductions, credits, and other opportunities.

An experienced CPA can help you make important decisions, such as adjusting your business structure, deferring income, or accelerating deductions. For example, if your business anticipates higher income in the following year, deferring income could lower your tax rate.

Similarly, investing in equipment or technology before year-end allows you to take advantage of deductions sooner. While the federal R&D tax credit is not new or a simple process, it can be particularly compelling for some businesses, as it directly reduces tax liability dollar-for-dollar.

These are just a few strategies that can have a significant impact on the taxes you owe. The key to successful tax planning is staying organized and seeking professional guidance to avoid missing out on savings opportunities. This means a CPA and accounting firm or an Enrolled Agent (EA) with in-depth knowledge of tax law, instead of a tax preparer.

The final step before filing is always tax preparation

Tax preparation, on the other hand, is a reactive, backward-looking process. It refers to the actual work of collecting your financial documents, calculating taxes owed, and filing returns with the IRS. While tax preparation focuses on accuracy and compliance with the law, it doesn’t share the “big picture” aspect of tax planning—or bring the same benefits.

Preparation is essentially a routine one-off event that involves data entry and number crunching from January to April, which is the busiest time of the tax season.

According to a study by the Taxpayer Advocate Service in 2023, nearly 30% of small business owners make errors during the tax preparation process. They might trigger further tax audits through misreporting of income or skip out on valuable deductions they’re entitled to claim. This highlights the importance of proper tax preparation tools and professional assistance.

When you employ tax preparation as a tool, you are working consistently to remain compliant with IRS requirements, reducing the risk of audits, penalties, or late fees. However, without a tax planning strategy in place, many taxpayers miss out on valuable opportunities to save.

Using tax preparation software or hiring a qualified tax professional are popular ways to streamline this process and reduce errors. But tax preparation alone won’t help you optimize your tax savings—it simply ensures that your financial documentation satisfies current laws.

The benefits of combining tax planning and preparation

Combining tax planning with tax preparation is crucial to optimize for a good financial outcome. Without tax planning, your preparation is limited to meeting basic compliance requirements. With both in place, you’re missing out on potential savings and may also avoid engaging in full compliance with the law.

Tax planning focuses on the long-term, including retirement contributions, capital gains management, and expense timing. It also involves understanding the evolving tax code and making any necessary adjustments. For example, business owners across the U.S. faced increasingly aggressive state tax law initiatives this year.

Of course, tax preparation is important, because when done correctly, all your information you’ve gathered during tax planning is reported to the IRS without error. All of these tactics help you and your business avoid triggering IRS tax audit risks.

That’s a pressing issue now, as the IRS has received an unprecedented $60 billion in special funding to ramp up enforcement efforts.

Working with a tax professional who understands your industry and business model can help you reduce your tax burden and increase profitability. In the end, engaging in both tax preparation and planning avoids adding stress during tax season and prepares you for any potential changes in the tax code.

Adapting to tax law changes and IRS updates

Tax law changes are frequent, so it’s important to stay on the ball if you want to prevent unexpected tax bills or penalties. For example, in 2024, the IRS increased the standard mileage rate to 67 cents per mile. That change applied to business-related transportation expenses, including journeys to client meetings or supply runs.

You can better adapt to legislative updates and maintain compliance with evolving IRS requirements if you incorporate tax planning into your business operations.

Tax planning incorporates any tax law updates so you can remain eligible for credits and deductions that could otherwise be missed. For example, employers offering paid family and medical leave, adoption assistance, or educational support to their workforce may be unaware that they are eligible for new tax credits.

Tax planning and tax preparation provide the best of both worlds

While both tax planning and preparation are important, strategic tax planning demands significantly greater expertise and domain-specific knowledge than tax preparation alone. That’s why finding the right tax planning professional is a serious matter best discussed with investors, shareholders, and decision-makers within your company.

When you employ both strategies, you can significantly reduce your tax burden, improve financial outcomes, and keep you compliant with the latest IRS requirements. If you’re ready to learn how David’s Family CPA can give you a clearer picture on how to save money this year, don’t hesitate to call us today.