If your tax season sucked (stressed out, last-minute activity, uncertainty, unexpectedly big tax payments), then, while the pain is still fresh, let’s think about how to make your life way less stressful next year.
Envision yourself in March 2023…skipping lightly through the buttercups, maybe feeling the impulse to burst into song. It could be yours.
The experiences—both good and bad—of our clients this tax season have crystalized for us a short list of things to do in order to make your life waaaaay less stressful come next April.
To set expectations: the tax code just gets more complicated every year. Tax preparers get put under more pressure every year. There is no way to make your tax season good. Just a way to make it less bad.
I encourage you to take a look at the short of recommendations below now, and start making changes to how you handle your taxes now. Everything you do for the rest of the year (and a bit beyond) will affect your next tax season, in early 2023.
The sooner you start making choices that ease your tax-prep burden, the better.
Pay Estimated Taxes Throughout the Year.
Especially for all you “I have RSUs in a public company” people out there! Did you have a painfully large tax bill?
When you earn a salary, your company will likely withhold a reasonable amount of that salary to pay taxes. Sure, maybe your withholding isn’t exactly right, but it’s usually ballpark.
However, there are all sorts of income types where sufficient taxes are not withheld. And in the case of investment income, no taxes are withheld at all.
If you receive those types of income, you need to pay more in taxes in order to make up for the under-withholding. And you can do that by paying estimated taxes throughout the year:
If you are in any of these situations, you likely should pay estimated taxes:
- Your public-company RSUs vest.
- You get a big bonus.
- You have a big liquidity event at your company: IPO, direct listing, acquisition, tender offer.
- You exercise a lot of NSOs.
- You sell investments for a big gain.
I usually recommend paying estimated taxes ASAP after you earn such income.
Even if, technically, you can delay paying the taxes without fear of a late-payment penalty, behaviorally I find it’s better to just pay as you go.
Just get the cash out of your bank account and into the IRS’s infuriatingly backlogged and uncommunicative hands.
No, this absolutely does not optimize for growth on your money! Yes, you’re totally giving the IRS an “interest-free loan.” (And maybe if interest rates eventually get back up to 1980s levels, holding on to your cash longer will make more sense.) You know what I hear? Blah blah blahhhhhh.
I don’t care if the IRS is getting interest on your paid-earlier-than-necessary money. What do you think the point of personal finance is? To beat the IRS? To beat your neighbor? To get some arbitrary return on investment? I don’t. I think it’s to make you happier and more fulfilled.
You know what makes us happy? Not having to stress out about setting aside or coming up with $15k or $50k or $800k in cash to pay taxes come next April 15. (Yes, all examples from our clients.)
You can pay your estimated federal taxes here. Each state has its own website for estimated payments. For RSU and bonus income, it’s usually just the federal income tax that you have to worry about, however. (State taxes are withheld at a high enough level.)
Estimated taxes are due by:
- April 15 (for income January – March)
- June 15 (for income April – May)
- September 15 (for income June – August)
- January 15 (of the next year, for income September – December)
And if you really don’t want to pay the taxes before you absolutely have to, at least set aside the cash (in a dedicated bank account for only this purpose) so that when you have to pay the tax bill, you have the money to do it.
Interested in that Fancy Investment or New Business Opportunity? It’ll make your taxes more complicated (and costly to prepare).
Do you invest—or want to invest—in crypto? Angel investing? Rental real estate? Opportunity zones? Do you want to do some consulting work? Day trade?
If you have read any of our blog’s commentary on investing, you’ll know that we very much advocate a low-cost, broadly diversified, simple approach to investing. And we advocate that for many reasons. So in general I advise away from getting fancy. But that’s not my point here.
My point is that, if you do get fancy, you’re going to complicate your taxes.
Which means it’ll be harder to gather your tax paperwork.
And your CPA will have to do more work to prepare your taxes.
And you’ll have to pay your CPA more to do said more work.
You are more likely to have to file an extension, which means your tax seasons will stretch through not only April 15, but maybe all the way through October 15. So, 9.5 months of the year with last year’s taxes hanging over your head.
Lest I be accused of being too strident about simple investing (which, for the record, is a totally sufficient approach on all its own; you don’t need anything more), I acknowledge that there are plenty of reasonable people out there who do “fancy.” It can be reasonable to make such investments.
But I find that many of our clients are taken by surprise by the complication such investing introduces into their taxes. For example, if you do angel investing, you might not get your K-1 until the end of March. Or June. Or August. And you can’t prepare your tax return without the K-1.
So, before you invest in anything (but especially something fancier than boring ol’, broad-market, low cost index funds) or start a business of any sort:
Know the impact your investments will have on your tax return. Not on the amount of tax due, but on how and when you’ll be able to prepare your tax return.
Set Your Expectations of the IRS Low. For the Indefinite Future.
Expect delays for your 2021 tax returns. The IRS still has a backlog of millions of tax returns for tax year 2020. There doesn’t seem to be much (realistic) hope that that backlog will be taken care of this year, and now we have an entire new year of tax returns being added to it.
So, set your expectations accordingly: you could experience a delay—possibly a big, fat, frustrating delay—in the processing of your 2021 tax returns. As far as we can see, no amount of effort will speed up the processing of your tax return.
And so far, congressional testimony by IRS Commissioner Charles Rettig doesn’t provide much reassurance that things will change. The IRS continues to be severely underfunded and understaffed.
And unfortunately, having a good (even great!) CPA on your side doesn’t overcome this. There are certain obstacles to getting your taxes done correctly and on time that neither you, nor your financial planner, nor your CPA can overcome. Trust me, I know it’s frustrating. I often shake my fist angrily at the Tax Gods! But there is nothing to be done.
Hire a Good CPA. And Hire Them Many Months in Advance.
If you want to ignore everything else I say, please pay attention to this.
The unfortunate reality is that the tax system has become so complicated that almost everyone needs a professional tax preparer, and even better, a tax planner. If you work in tech, this most likely includes you.
As you advance in your career and life, your personal circumstances change and probably get more complicated…compounding the problem and making professional tax guidance even more important.
We have had clients who didn’t engage a CPA, or didn’t engage one early enough, have extremely stressful tax seasons, scramble to come up with a lot of cash in a short period of time, or overpay their taxes. As the complexity of your taxes grow, the likelihood of stress and mistakes will grow.
One of our favorite tax firms stopped taking new clients at the end of November in 2020. At the end of October in 2021. I won’t be surprised if they stop taking new clients for the 2022 tax year at the end of September this year. Good CPA firms are managing their client load Very Carefully so that they have a chance of serving their existing clients well. Don’t wait until next year to hire a CPA.
[Note: I’m using “CPA” as shorthand for “tax professional,” which, you will admit, is way more letters. You can also find tax guidance with an EA (Enrolled Agent) or tax lawyer.]
Be prepared to pay. They deserve it.
Tax preparation has long been viewed as a commodity. Why would you pay more than you could at H&R Block?
At this point, we believe that having a good CPA on your team is a necessity, not a luxury. And by “good,” I mean both technically competent in the areas important to you (notably for this audience, equity compensation) and reasonably responsive.
Good CPAs are realizing they need to charge more and work with fewer clients. If you want good tax guidance in the future, be prepared to pay for it. And I encourage you to pay for it gladly.
Here’s one CPA wag’s (video) explanation of why fees are going up. It’s funny. No really.
Ultimately, we hope you come to think of a good CPA as an investment, not an expense.
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Disclaimer: This article is provided for educational, general information, and illustration purposes only. Nothing contained in the material constitutes tax advice, a recommendation for purchase or sale of any security, or investment advisory services. We encourage you to consult a financial planner, accountant, and/or legal counsel for advice specific to your situation. Reproduction of this material is prohibited without written permission from Flow Financial Planning, LLC, and all rights are reserved. Read the full Disclaimer.